In a challenging or difficult business environment or market, Michael Porter’s 5 model is a popular marketing tool that helps business owners and managers to remain competitive.
The Porter’s 5 Model
Porter’s 5 Model is a framework for analyzing a business competitive environment. It looks at the attractiveness and potential profitability of a business industry sector. The model consists of competitive rivalry, threat of new entrants, bargaining power of suppliers, bargaining power of buyers and threat of substitute products.
1. Competitive rivalry
This first aspect requires the analysis of competition faced by your business and the leverage they have over you. Competitors can be direct or indirect. Direct competitors are those that are in the same business as you while indirect competitors are those whose product or service are different from your but provide the same value or satisfy same need.
The larger the number of competitors, the lesser the power of a business. Conversely, when competitive rivalry is low, a business benefits as it has greater power to charge higher prices.
2. Threat of New Entrants
The entry of new businesses providing the same offerings as you is a threat to the power your company holds in that market. The less time and money it costs for a competitor to enter a company’s market and be an effective competitor, the more an established company’s position could be significantly weakened. A market or industry with strong barriers to entry enables existing businesses to charge higher prices and negotiate better terms.
3. Threat/Power of Suppliers
This addresses how easily suppliers can drive up the cost of production. A business position in a market can be threatened by the number of suppliers providing key inputs of a good or service, uniqueness of the material and cost of switching to another supplier. Businesses would depend more on a supplier when the numbers of suppliers in a market are few. Thus, strengthen the bargaining power of the supplier and weaken that of a business which then reduces profit vice versa. As a business owner having an understanding of the control suppliers have in your market is very key as it place you in a better position to know to source for your materials and well as your bargaining power.
4. Threat/Power of Customers
In a market, customers have the ability to drive prices lower or have a higher bargaining power than business owners. How? This occurs when a business has a smaller and powerful client or customer base. Also, because customer are price savvy and may have dealings with your competitors, they tend to hold more power on negotiation. A market that has low switching cost, customers holds more power.
5. Threat of substitute products
Goods or services that can be used in place of a company’s products or services are known as substitute products. Substitute products or goods are threats to the business. Companies that produce goods or services for which there are no close substitutes will have more power to increase prices and lock in favorable terms. When close substitutes are available, customers will have the option to forgo buying a company’s product, and a company’s power can be weakened. This in turn gives a customer a higher bargaining power.