Porter's Five Forces, a strategy creation tool from its namesake, Michael Porter, is an essential framework for understanding the factors impacting your industry. Read on for our ultimate guide on what the Five Forces means for you.
In this guide, we take a deep dive into Porter's Five Forces, covering what they mean, how you can conduct your own external analysis, case studies based on Ford, alternative strategic tools, the advantages and limitations of the Porter framework, and the just how of you should be conducting these analyses.
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- What are Porter's Five Forces?
- An overview of the Five Forces
- How to conduct an effective analysis using the Five Forces
- Five Forces case study - Blockbuster, Ford, and AstraZeneca
- The advantages of Porter's Five Forces
- The limitations of Porter's Five Forces
- Exploring alternative strategic analysis tools
- How Five Forces compare to other strategy creation tools
- How often should you conduct a Five Forces analysis?
- How to present the results of the Five Forces exercise
- How have the Five Forces evolved?
What are Porter's Five Forces
Porter's Five Forces, devised by Michael E. Porter in the 1970s, offers a systematic approach to assessing competitive dynamics within an industry.
The framework, named after its namesake, addresses the following factors that are at play in almost every industry:
- The bargaining power of suppliers.
- The bargaining power of buyers.
- The threat of new entrants.
- The threat of substitutes.
- The intensity of competitive rivalry.
The framework helps organizations understand an industry's competitive landscape, identify key players and their relative strengths and weaknesses, and assess their attractiveness.
By analyzing the five forces, organizations can gain insights into the potential risks and opportunities in the market and make informed strategic decisions.
An overview of the Five Forces
Let's explore each of the Five Forces in detail:
1. Threat of new entrants
We start with the threat of new entrants, which evaluates the ease or difficulty of new competitors entering a market.
The threat is typically higher when barriers to entry are low, such as when there are few regulatory restrictions or when capital requirements are low. Issues to consider as barriers:
Barriers to entry
These encompass capital requirements, economies of scale, and government regulations. For instance, substantial capital needs can deter newcomers.
While assessing barriers, consider the advantages of established players, like brand recognition, economies of scale, or proprietary technologies. These strengths can bolster entry barriers.
2. Bargaining power of suppliers
As you turn to your suppliers' power, it's important to note that this involves more than supplier concentration and switching costs.
Suppliers have higher bargaining power when there are few suppliers in the market when the inputs are critical to the buyer's business, and when switching costs are high:
It's about the number of suppliers and their control over critical resources. A single dominant supplier can wield considerable influence.
Supplier switching costs
Assess the costs and complexities of switching suppliers, as it offers insights into supplier power dynamics.
Uniqueness of resources
Understand what makes certain suppliers unique to gauge their influence on industry players.
Suppliers with exclusive or rare resources often possess greater bargaining power.
3. Bargaining power of buyers
The bargaining power of buyers is a significant factor to address.
Buyers have higher bargaining power when they purchase in large volumes when the product or service is not differentiated, and when they have access to alternative suppliers:
It's not merely about the number of buyers but the volume of their purchases.
Investigate product standardization to reveal whether buyers have multiple choices or are locked into specific products. In standardized markets, buyers often have more bargaining power.
Access to information about products, prices, and market conditions can impact buyer power. In the digital age, information is a potent tool for buyers.
4. Threat of substitutes
Analyzing the threat of substitutes involves understanding not only the existence of substitutes but also the forces driving their adoption:
Assessing how readily available substitutes are is vital.
The threat of substitutes is similar to the threat of new entrants but refers to the availability of alternative products or services that could satisfy the same customer needs.
Factors driving substitution
Explore what motivates customers to switch to substitutes. These factors could include price, convenience, or evolving consumer preferences.
5. Intensity of competitive rivalry
The intensity of competitive rivalry is the pulse of an industry. Competitive rivalry is higher when there are many competitors in the market when the market is growing slowly, and when there is little differentiation between products or services. This includes examining:
Consider the concentration of market players. Highly concentrated markets often result in fierce competition as a few dominant firms vie for supremacy.
The pace of industry growth significantly impacts rivalry. Slow-growing industries intensify competition as firms fight for a limited pie.
The degree of product differentiation can moderate rivalry. Companies offering unique or highly differentiated products tend to face less intense competition.
Understanding and analyzing these five forces can help organizations make strategic decisions, such as entering a new market, launching a new product, or choosing a pricing strategy.
The framework is widely used in business and management to evaluate the competitive landscape of an industry and works across any industry and market.
How to conduct an effective analysis using the Five Forces
To use Porter's Five Forces, organizations need to gather relevant data on the industry or market they are analyzing, identify the key players and their respective strengths and weaknesses, and evaluate the impact of each of the five forces on the industry.
To execute a successful external analysis with Porter's Five Forces, firstly, download this template and then follow these steps:
1. Identify industry players
Start by identifying the key players in the industry, including suppliers, buyers, competitors, and potential new entrants.
You should gather information about each player's size, market share, competitive position, and any relevant regulatory or legal factors that may impact the industry.
2. Data collection
The second step is gathering relevant data on the five forces.
Data collection may include information on the bargaining power of suppliers and buyers, the threat of new entrants and substitutes, and the intensity of competitive rivalry.
To gather this information, you may need to conduct surveys, interviews, or market research.
Gathering relevant data lays the foundation for a successful analysis. To delve deeply into external factors, consider the following:
Identify current competitors and assess their strategies, strengths, and weaknesses.
Scrutinize the latest industry trends, technological advancements, and regulatory changes. Understanding the industry's trajectory is critical.
Understand customer preferences and their impact on industry dynamics. Evolving demands can shape the competitive landscape.
The third step is to analyze the data to understand the industry's attractiveness.
You can use various tools and techniques, such as SWOT analysis or scenario planning, to evaluate the impact of each force on the industry.
Based on this analysis, you'll be able to identify key opportunities and threats in the market and develop strategies to capitalize on these opportunities and mitigate the risks.
Once data is at your disposal, proceed with a detailed analysis along the lines of this process:
Evaluate the degree of impact each of the Five Forces has on your industry. This step involves assessing the strength and significance of each force's influence.
Determine the relative strength or weakness of each force. Consider how each force compares to the others and the potential consequences of these power dynamics.
Identify profound insights and potential strategic actions based on the analysis. Your analysis should extend beyond identifying forces to recommending actionable strategies your organization can adopt.
Five Forces case study - Blockbuster, Ford, and Pfizer
Let's look at three companies through the lens of each force to see Porter's framework in practice:
When Netflix entered the market with its DVD-by-mail service, Blockbuster's dominance in the video rental industry was challenged.
The threat of new entrants was high, as Netflix was able to offer a convenient and affordable alternative to Blockbuster's traditional brick-and-mortar stores.
Additionally, the bargaining power of suppliers was low, as Netflix was able to negotiate lower prices for DVDs due to the large volume it purchased.
As a result, Blockbuster's competitive position weakened, and it ultimately filed for bankruptcy in 2010, and ironically was the subject of a short-lived Netflix comedy series.
Ford Motor Company
In the automotive industry, the bargaining power of suppliers is high due to the large number of parts and components required to manufacture vehicles.
However, Ford has mitigated this through vertical integration and strategic partnerships with key suppliers.
The threat of new entrants is relatively low due to the high capital requirements and regulatory barriers to entry.
However, the intensity of competitive rivalry is high, as there are many players in the industry, and competition is fierce.
Ford has maintained its competitive position through its strong brand, innovative products, and focus on sustainability.
In the pharmaceutical industry, the threat of substitutes is relatively low, as there are few alternatives to prescription drugs for treating serious illnesses.
However, the bargaining power of buyers is high, as governments and insurance companies can negotiate lower prices for drugs due to their significant purchasing power.
The bargaining power of suppliers is also high, as there are a limited number of suppliers for critical ingredients and materials.
The threat of new entrants is relatively low, as regulatory barriers to entry are high, and research and development costs are significant.
AstraZeneca has maintained its competitive position through its robust pipeline of innovative drugs, strategic partnerships, and focus on personalized medicine.
The advantages of Porter's Five Forces
Because Porter's Five Forces offers a structured framework for competitive, market, and industry analysis, it brings plenty of benefits to businesses of all sizes:
1. Structured decision-making
Porter's Five Forces offers a structured approach to strategic analysis. The framework plays a part in a wider process for making well-informed decisions.
It ensures that organizations systematically evaluate their competitive environment, helping to identify threats and opportunities efficiently.
The business impact is high as structured decision-making is pivotal for effective resource allocation and risk management.
2. Holistic industry assessment
The framework's comprehensive analysis covers all vital aspects of an industry.
By examining supplier and buyer power, threats of new entrants and substitutes, and competitive rivalry, businesses gain a 360-degree view of their industry.
This deep understanding is highly impactful for the organization, enabling it to formulate strategies that address every facet of its competitive landscape.
3. Informed resource allocation
Porter's Five Forces provide strategic insights that guide resource allocation.
These insights help businesses channel their human and financial investments into areas where they can generate the most value.
While the business impact is moderate, efficient resource allocation is essential for cost control and sustainable growth.
4. Risk mitigation
The framework aids in identifying potential risks within the industry.
Risk mitigation includes those arising from supplier or buyer power, competitive pressures, and the threat of new entrants or substitutes.
Recognizing these risks allows businesses to develop risk mitigation strategies proactively.
The business impact is high, as effective risk management safeguards profitability and business continuity.
5. Competitive strategy development
Porter's Five Forces analysis yields strategic insights that guide the development of competitive strategies.
Businesses can tailor their strategies to exploit industry strengths, address weaknesses, capitalize on opportunities, and mitigate threats.
The impact is high, as a well-crafted competitive strategy directly influences a company's market positioning and profitability.
The limitations of Porter's Five Forces
While the Five Forces framework is a widely used tool for analyzing industry structure and competitive dynamics, it has some limitations, including:
1. Static analysis
The framework primarily conducts a static analysis of industry dynamics, assuming relative stability over time.
This limitation can have a high business impact in today's rapidly changing business environment.
Industries are evolving at an unprecedented pace, and businesses relying solely on static analysis may fail to adapt to disruptive changes, resulting in lost market opportunities and declining competitiveness.
2. Limited scope
Porter's Five Forces primarily focuses on external factors, overlooking internal factors such as a company's capabilities, resources, and strategic choices.
While the impact is moderate, this limitation can hinder a comprehensive understanding of a company's competitive position.
Failing to consider internal strengths and weaknesses can result in suboptimal resource allocation and strategic decisions.
3. Neglect of network effects and complementary products
The framework assumes that markets operate independently, neglecting the impact of network effects and complementary products.
This limitation can significantly impact businesses in industries driven by platform economies or synergistic product ecosystems.
Ignoring these factors can lead to misjudgment of competitive dynamics, missed opportunities for collaboration, and failure to harness network effects for growth.
4. Quantification challenges
Porter's Five Forces relies predominantly on qualitative analysis, making it challenging to quantify the relative significance of each force.
While the impact is moderate, this limitation can hinder precise decision-making in management teams - and worse, create analysis paralysis.
With quantitative insights, businesses can prioritize strategic initiatives effectively and allocate resources optimally.
5. Lack of implementation guidance
The framework offers limited guidance on executing strategies derived from the analysis.
This limitation has a considerably high business impact, as effective execution is essential for translating insights into tangible results.
With a clear roadmap for implementation, businesses can turn strategic plans into action, potentially leading to missed opportunities and inefficiencies.
For help executing the strategies that come from this process, be sure to download a copy of our "Key to strategy execution" eBook:
Exploring alternative strategic analysis tools
While Porter's Five Forces is a valuable framework, alternative tools can add extra detail and perspectives to help formulate your strategies:
1. SWOT analysis
SWOT (Strengths, Weaknesses, Opportunities, Threats) is a versatile tool that helps assess internal strengths and weaknesses and external opportunities and threats. It provides a holistic view of your company's strategic position and can be used to address competitive forces identified in the Five Forces analysis. By uncovering external opportunities and threats it aligns strategic initiatives with market conditions.
2. PESTEL analysis
PESTEL (Political, Economic, Social, Technological, Environmental, Legal) examines the macro-environmental factors that can impact a business. PESTEL is valuable alongside the Five Forces because it provides a comprehensive understanding of the business environment beyond industry-specific forces.
3. Value chain analysis
The value chain analysis tool allows businesses to dissect operations and identify areas to create value, reduce costs, or gain efficiencies. It complements the Five Forces analysis by focusing on the internal processes that impact competitive positioning.
4. Scenario planning
Scenario planning involves creating multiple future scenarios to anticipate potential disruptions and develop strategies to address them. Combined with Five Forces, it prepares organizations for various competitive dynamics, ensuring they have strategies for multiple scenarios.
5. Competitor analysis
In addition to assessing industry rivals, a deeper analysis of specific competitors can reveal valuable insights. Tools like competitor profiling and benchmarking help in understanding their strengths and weaknesses. By understanding competitors' strengths and weaknesses, organizations can devise strategies to exploit gaps in the market or counter rival moves.
6. Blue ocean strategy
This framework focuses on creating new, uncontested market spaces instead of competing in crowded, existing markets. When used alongside Five Forces, it fosters innovation and helps businesses explore new avenues for growth.
7. Balanced scorecard
The balanced scorecard is a performance measurement framework considering financial and non-financial metrics, translating strategic objectives into measurable key performance indicators (KPIs). When combined with Five Forces, it ensures that strategic initiatives align with competitive challenges and market conditions.
8. Ansoff Matrix
The Ansoff Matrix aids in selecting the most suitable growth strategy based on market penetration, development, diversification, or product development.
It complements the Five Forces by guiding expansion decisions.
9. BCG Matrix
The Boston Consulting Group (BCG) Matrix categorizes a company's product portfolio into four categories: stars, cash cows, question marks, and dogs. When used alongside the Five Forces, it assists in prioritizing investments and divestments based on industry attractiveness.
10. GE-McKinsey Matrix
This matrix assesses a company's business units based on industry attractiveness and competitive position. Combined with Five Forces, it assists portfolio management and strategic resource allocation.
11. Core competency analysis
Core competencies are unique capabilities that give a company a competitive advantage. Identifying and leveraging these strengths is crucial for strategy development. It highlights areas where unique capabilities can influence competitive dynamics alongside the Five Forces.
12. Game theory
Game theory can help analyze strategic interactions and decisions in competitive situations. Combined with the Five Forces, it aids in predicting and preparing for competitive behavior.
13. Scenario analysis
Similar to scenario planning, scenario analysis involves examining different possible future scenarios and assessing their potential impact on the business.
When integrated with Five Forces, scenario analysis ensures readiness for competitive landscapes.
14. Resource-Based View (RBV)
RBV focuses on a company's internal resources, capabilities, and competencies as the primary drivers of competitive advantage. It aligns strategic choices with a company's unique strengths for competitive advantage when used alongside the Five Forces.
15. Digital transformation frameworks
In the digital age, frameworks like the Digital Maturity Model or the Technology Adoption Lifecycle help formulate strategies for a business's digital transformation.
These frameworks complement the Five Forces by addressing digital disruption and transformation opportunities.
When used with Porter's Five Forces, these tools give a more comprehensive and nuanced understanding of a company's strategic position and inform the development of effective business strategies.
How Five Forces compare to other strategy creation tools
While the Five Forces are a compelling tool to use to analyze your industry, there are some key differences with other strategy creation tools:
1. Porter's Five Forces
Porter's Five Forces primarily assesses the external competitive forces within a specific industry.
It delves deep into the dynamics of a particular industry, analyzing factors such as the bargaining power of suppliers and buyers, the threat of new entrants, the threat of substitutes, and competitive rivalry.
The primary aim is to understand the industry's competitive structure and identify opportunities and threats.
It's often used as an industry-level analysis tool, guiding businesses in formulating competitive strategies and making informed decisions within a given market.
2. SWOT analysis
SWOT analysis combines internal and external factors to assess a company's strengths, weaknesses, opportunities, and threats.
It considers internal capabilities and the broader business environment, including market dynamics.
SWOT aims to identify a company's internal advantages and challenges, as well as external growth opportunities and potential risks.
It's used for holistic strategic planning, helping organizations align their internal capabilities with external conditions.
3. PESTEL analysis
PESTEL analysis focuses solely on the external macro-environmental factors affecting a company, including political, economic, social, technological, environmental, and legal factors.
It takes a broader view, looking beyond industry-specific forces and assessing factors that can impact a business across various markets.
PESTEL helps businesses understand the broader context in which they operate and anticipate changes in the external landscape.
It helps identify long-term trends, regulatory changes, and global factors that can influence strategic decisions.
4. Value chain analysis
Value chain analysis is an internal tool that dissects a company's activities into primary and support functions to identify areas of competitive advantage.
It's inward-focused, examining how a company's internal processes contribute to its value proposition.
Value chain analysis seeks to optimize internal operations, reduce costs, and enhance customer value delivery.
It improves operational efficiency and differentiates a company's products or services.
5. Scenario planning
Scenario planning involves developing multiple future scenarios and assessing their potential impact on a business.
It's a forward-looking tool that explores various future states of the business environment, considering both internal and external factors.
Scenario planning helps organizations prepare for various possible futures, enhancing their adaptability and resilience.
It's utilized to develop robust strategies that can withstand uncertainty and rapid changes in the business landscape.
Each tool has a distinct focus and purpose, making it valuable for different strategic planning and decision-making aspects.
While Porter's Five Forces is beneficial for understanding industry competitiveness, the other tools offer a broader perspective, helping organizations create holistic and adaptable strategies.
How often should you conduct a Five Forces analysis?
The frequency of conducting a Five Forces analysis can vary depending on several factors, including the industry, the business's competitive environment, and its strategic goals.
Here are some general guidelines:
Regular industry changes
In fast-paced industries where market dynamics change rapidly (such as technology or fashion), conducting a Five Forces analysis more frequently is advisable. Quarterly or semi-annual assessments might be necessary to stay on top of shifts.
A yearly or bi-yearly analysis might suffice unless significant changes or disruptions exist in relatively stable industries like utilities or some traditional manufacturing sectors.
Strategic planning cycles
Align the frequency of your Five Forces analysis with your organization's strategic planning cycles. Many companies conduct it annually as part of their strategic planning process.
Major business events
It's crucial to reevaluate the industry's competitive dynamics whenever your business undergoes significant events such as mergers, acquisitions, market expansions, or diversification.
Competitive threats or opportunities
If you identify emerging competitive threats or opportunities, analyze them as needed to respond effectively. New entrants, changing customer preferences, or disruptive technologies might trigger this.
When substantial regulatory changes impact your industry, assessing how these alterations affect the Five Forces is essential. This might require more frequent analysis during times of regulatory flux.
Listen to your customers. It's a signal to reassess your industry's competitive dynamics if they express changing needs or preferences.
Use benchmarking to compare your industry against others. If you notice your industry deviating significantly from benchmarks, consider more frequent analyses to understand why.
Global economic conditions
If your industry is susceptible to global economic trends, such as currency fluctuations or trade policies, conduct Five Forces analyses as global conditions change.
Keep an eye on your competitors. If they make strategic moves or exhibit shifting behaviors, assess the impact of these actions on the Five Forces.
Remember that the key to effective strategic planning is the frequency of analysis and the ability to act upon the insights gained.
Once you conduct a Five Forces analysis, you must translate those insights into actionable strategies and tactics.
Moreover, consider involving key stakeholders and experts within your organization to ensure a comprehensive and up-to-date understanding of your industry's competitive landscape.
How to present the results of the Five Forces exercise
When delivering the results of the five forces analysis to a senior leader, it is essential to keep the presentation clear, concise, and focused on the most critical insights.
Here are some steps to consider when presenting the results of the five forces analysis:
- Begin with an overview of the industry and the company's position within it, highlighting the key trends and market conditions.
- Introduce the five forces and explain how they impact the industry and the company's competitiveness.
- Present each force and its impact on the company, including the factors that make it strong or weak.
- Use data and examples to support your analysis and help the senior leader understand the implications of each force.
- Summarize the essential findings and implications of the five forces analysis, highlighting the opportunities and threats that the company faces.
- Conclude with recommendations for how the company can address the challenges and take advantage of the opportunities identified in the analysis.
Once the senior leader understands the five forces and their implications for the company, they can make informed strategic decisions, such as:
- Develop a plan to address the company's weaknesses and vulnerabilities in the face of strong competitive forces.
- Identify new market opportunities that the company can exploit.
- Adjust the company's pricing, marketing, or distribution strategies to better respond to changes in the industry.
- Invest in research and development to develop new products or services that address customer needs and preferences.
- Consider partnerships, collaborations, or mergers and acquisitions to strengthen the company's competitiveness.
Using the Five Forces analysis as a foundation for strategic decision-making, the senior leader can make more informed decisions aligned with the company's goals and objectives.
How have the Five Forces evolved?
Here are some ways in which the Five Forces analysis has changed or evolved:
1. Increased importance of digital technology
With the rapid growth of digital technology, the impact of digital disruption on industries has become more significant. As such, the threat of new entrants may increase in industries disrupted by digital technology. Also, the bargaining power of suppliers and buyers may change as digital platforms and tools enable suppliers and buyers to connect directly.
2. The rise of ecosystems
Business ecosystems, where firms partner to deliver products and services, have become more common. This has made it more challenging to identify and analyze the key players in an industry. Companies increasingly need to collaborate with other firms to succeed, and this can create both opportunities and threats.
3. A focus on sustainability
Recently, there has been an increased focus on environmental, social, and governance (ESG) factors. As such, the five forces analysis may need to incorporate sustainability and corporate social responsibility considerations.
4. Globalization and the changing geopolitical landscape
Globalization has changed the competitive landscape, with companies competing across borders and in different markets. This has made it more challenging to analyze the competitive dynamics of an industry, as the forces may vary depending on the region or country. Moreover, geopolitical changes may impact the industry dynamics and require additional analysis.
5. The role of data and analytics
With the increasing availability of data and analytics tools, companies are better equipped to gather and analyze information about an industry. This has enabled a more detailed and sophisticated analysis of the five forces and their impact on a company. Companies may leverage data to make predictions, gain insights, and identify opportunities.
While the core framework remains the same, the factors that influence the competitive dynamics of an industry are more complex than they were three decades ago. As such, companies must consider the changes in the business environment when conducting a Five Forces analysis.
How i-nexus supports your Five Forces
Software solutions like i-nexus strategy software play a critical role in taking the results of your five forces industry analyses and creating portfolios of projects dedicated to addressing necessary transformations in your business model.
While typical project management software is focused on managing individual projects and tasks, solutions like i-nexus are designed to provide a holistic view of how these projects feed into your strategy.
Talk to our Solutions team today to see how i-nexus solutions can help you deliver this change.
Learn more about strategy execution
Take the next steps in your journey by exploring our strategy execution resource hub or any of the below:
- Key to strategy execution eBook: Read how companies like Danaher and HP have mastered strategy execution and what you can learn from them.
- What roles does a Strategy Realization Office play in your strategy execution?: Learn how you can govern your strategy execution with the emerging concept of the Strategy Realization Office (SRO)
- 13 ways to make your team care about goals: Try these 13 ideas for getting your team to buy into your goals, and create real accountability for delivering targets.
About the author
Sam Ancliff is the Demand and Lead Generation Manager at i-nexus.
In his role, his drive is to provide leaders with the tools and insights they need to make next-level decisions in their businesses and organizations.