Porter’s model shows the five forces influences on a businesses enterprise including threat of entry of competitors, threat of substitutes, bargaining power of buyers, bargaining power of suppliers, and rivalry among the existing players. Moreover, to make the model more comprehensive, a sixth factor, government was later included in the model.
The entry of competitors is the ease or difficulty for a market to have a new entrant. When new firms enter the market, they create rivalry to the existing firms as they seek to capture a sizable market share. However the degree of threat of entry of competitors depends on the type of market since each market structure has different levels of barriers of entry by new firms. These barriers to entry of a new competitor may be; government created barriers, patent and proprietary knowledge, asset specificity and the internal organizational economies of scale which help the firm to be more efficient that any potential rival. Generally firms in perfect competitive market are more prone to threat of threat of entry of competitors since there are no barriers than those in monopolistic and oligopolistic markets. To counter the threat where barriers of entry are low, the firm should enhance product differentiation in terms of quality, price and promotion as well as being innovative in both production and marketing strategies.
Threat of substitute refers to products from other industries substituting the company’s product. This occurs when demand of the products lowers due to reduced prices of substitute. The firm may either increase efficiency or lower the price of his products in order to make the product compete favorably with the substitutes.
Bargaining power of buyers is the impact customers have on the company’s production. If buyers have strong bargaining power it may lead to monopsony (numerous suppliers and one buyer), whereby the buyers will have power to switch from one supplier to another depending on the quality/service, price and product differentiation. Companies need to specialize on one line or diversify to other products, depending on the behavior of the buyers.
Bargaining power of the supplier involves the concentration of suppliers and presence of many buyers in the market. The firm is faced with the threat of high prices of raw materials, may not have an option of question the quality since the supplier has a the ability to switch to other buyers and the buyer has no capability of backward integration. In addition, the supplier may threaten to forward integrate thus causing competition to the firm. The business can evade such suppliers by strategizing on the production line properly and proper maximizing of the supplies.
Rivalry among existing players is facilitated by the presence of homogeneous firms, high fixed costs in the industry, low buyer switching costs and high product differentiation and high exit barriers. Firms pursue a competitive advantage by lowering prices, improving of the product differentiation, using of better channels of distribution and enhancing relationships with suppliers. Rivalry of businesses can lead to closures of business if there are other numerous or large competitors. Businesses can diversify products to suit markets or rely on efficient advertisements to reduce rivalry.