Incorporating the Porter Five Model in Your Business Planning
By: Tom Cramer
For our third discussion on the topic of competition, we will turn to a relatively modern construct. The Porter Five Forces Framework was first published by Michael Porter in the Harvard Business Review in 1979. It has since gained the position of one of the most respected methods for evaluating the operating and competitive environment for many companies at the industry level.
While it has its later detractors and amplifiers, as with any business concept, it is most useful for what Porter calls the line-of-business level of operations. This would include most SMEs. Integrate this useful tool with our previous look at the idea of competition and the process for developing a detailed Product-Service Matrix. Together, these valuable exercises will put you head and shoulders above many of your competitors in charting the future of your venture.
Porter takes a unique perspective in marrying both the general marketplace factors with those of what he calls the microenvironment of a business. He describes how those are the forces that most directly determine any company’s ability to serve its target customers effectively and profitably.
A Comprehensive Approach
Perhaps the single most important aspect of the Porter Five approach to competitive analysis is the way it expands the perspective of competition. Traditionally, founders and their staff look at competitors through a Product Service Matrix. That is a vital step, and it provides information that is essential to many decisions.
However, the Porter Five then expands that perspective and adds the factors that affect not only your company but other companies within your market segment. This provides a more comprehensive and actionable set of insights as those external forces also change the nature of industry rivalries. The chart below provides a visual depiction of this approach:
In our discussion today we will be limited to providing an overview of each of the five factors. However, this is a topic that now has many additional resources and entire curricula built around the concept. We will revisit each of the Five Factors individually in future blog posts. You will find it useful to encourage your team to join you in developing skills in applying the Porter Five to your business planning strategy.
Below we discuss the five factors that Michael Porter identifies as shaping any marketplace and industry. He also points out other factors that he feels do not rise to the importance of these five primary forces.
The Porter Five Forces
THREAT OF NEW ENTRANTS
Most business owners understand the concept of Barriers to Entry. These are the factors that limit the threat from new market entrants. Porter’s approach identifies seven major forms of these barriers:
- Capital requirements
- Supply economies of scale
- Demand benefits of scale
- Customer switching costs
- Incumbency
- Access to distribution channels
- Government policies
THREAT OF SUBSTITUTES
This force deals with the possibility of or ease with which an alternative technology or product can solve a specific economic need. The idea of Creative Destruction is centered on this force. How many people even know what a landline is today in a world dominated by cell phones? Plant-based “meat” is a growing substitute for traditional meats. What could replace your product or service by meeting needs better, faster, or cheaper?
BARGAINING POWER OF CUSTOMERS
It is essential to understand how many alternatives your customers and prospects have for meeting their needs. Loyalty programs are one method companies use to limit those alternatives.
BARGAINING POWER OF SUPPLIERS
The power of suppliers over your market will be a fundamental factor in affecting your sourcing of raw materials, components, and even labor. If your competition has more access, that also provides your suppliers with more power over your efforts.
COMPETITIVE RIVALRY
This is, of course, the domain of the Product-Service Matrix. All the above forces come into play in determining pricing, levels and types of advertising, R&D investment, discounting strategies, and all the other means that are utilized in your market segment to attract and keep customers.
The more you understand the concepts that drive the Porter Five Forces, the more you will understand your company’s competitive positioning and how to fight your competitive battles.
