Every business that operates in the economy today is bound to face challenges, whether that is start-up challenges or strong competition within a particular niche. Knowing that this will be the case in any type of business, business owners should be aware of how to identify and analyze a particular market and its profitability before they begin their business, so that they can effectively avoid issues that will end in the collapse of their business. Tackling this task is where Porter’s Five Forces Model can come in handy. Here are a few essential details about this model and how you can apply it to your business strategy.
What Is the Five Forces Model?
Porter’s Five Forces Model is simply a business analysis model that helps business owners identify the competitive intensity of a business environment. To help business owners do this, Michael Porter, the creator of the Five Forces Model, outlined five key forces (hence the name) that are present in all business markets and influence the long-term profitability of a business in a particular market. They are as follows: rivalry among existing competitors, threat of new entrants, threat of substitute products/service, bargaining power of suppliers, and bargaining power of buyers.
Let’s break down the five key forces:
Rivalry within a certain industry can affect a start-up when the growth of the industry is small and the competitors already within the field are similar in size and power and offer common products or services. If a new, smaller business tries to enter a field where the rivalry of pre-existing businesses is strong, the new company is likely to be squeezed out by the larger companies that are vying for limited market space
If the industry that you want to enter has many other businesses that are looking to get in as well, then your business is likely to have less access to market space. You will be forced to share the attention and patronage of a limited number of customers, especially if that market is not growing rapidly. This can result in your company making smaller profits because you will likely need to lower your prices to remain competitive against other businesses.
If the industry that you are entering has the potential to create products that are similar to yours, or there are already similar products on the market, then you would be wise to steer clear of running a new business in that field. Even if you have a solid product, there is always the possibility that customers will choose to switch to the other product, which results in customers being drawn away from your business.
Bargaining Power of Suppliers
The bargaining power of suppliers directly influences the profits of a business within a market because suppliers have control over the cost of products and the quality of goods or services provided by the company. If either the quality goes down, or the costs go up, the businesses under the influence of the supplier experience reduced profit margins.
Bargaining Power of Buyers
Similar to the bargaining power of suppliers, in this type of competitive force, your business will be subjected to the demands of buyers. If the industry that you intend to enter has a small consumer base with many other businesses that they can buy from, then the consumers will hold more power over how high or low your prices are. You will have to meet consumer demands in order to remain competitive, but this could result in reduced profit margins.
How it Affects Your Business
When your business first starts out, it is important that you observe these five forces. The forces in Porter’s model are competitive forces that have an inversely proportionate effect on the profit potential of a business. This means that if any of these forces are observably high, (i.e. lots of new businesses being started in the industry, new developments that may replace your product, or a high quantity of pre-existing businesses similar to yours) the potential for your business to make profit and be successful decreases.
Following that logic, if the market you wish to enter is not overly saturated with existing companies or high in other competitive forces, then your business has a greater likelihood of becoming successful. The best way to foresee the success or failure of your start-up is to a have a solid understanding of the five competitive forces.
In the end, your business’ success is greatly dependent on how you, as a business owner, conduct the operations and advertisement of your business, but there are always going to be external challenges that you cannot control. By having a strong understanding of Porter’s Five Forces Model and how it can help you analyze competitive forces in your field, you may be able to steer yourself and your entrepreneurial dreams away from a business venture that is doomed to struggle or even fail.