Porter’s five forces model analyzes the five key factors that influence business operations: barriers to entry, supplier power, threat of substitutes, buyer power, and rivalry. Each force includes specific elements that companies must overcome or prepare for when conducting business operations.
The five forces model is a development strategy for business and industry analysis. This framework was created by Michael E. Porter, a professor at Harvard Business School in 1979. His method determined that every industry and business is influenced by five forces: barriers to entry, power of suppliers, threat of substitutes, purchasing power and rivalry. This model attempts to explain the different situations that firms may encounter when they operate in the economic market. Each strength includes specific elements that companies must overcome or prepare for when conducting business operations.
The first force in Porter’s five forces model is barriers to entry. These are the initial hurdles that companies must overcome as they begin operations or enter new economic markets. Common barriers include high material or operating costs, limited access to business inputs, government regulations, or high capital requirements. Overcoming barriers to entry brings companies to the strength of supplier power.
Supplier power is the ability of companies that provide inputs to maintain a competitive advantage over manufacturing companies that need those inputs to produce goods. Suppliers can concentrate their power by ordering large volumes of inputs, force cheaper substitute inputs, withhold access to inputs, or supply inputs to select manufacturing companies. Porter combines the strength of the supplier with the menace of the substitute in the model of him.
The threat of substitutes represents the competition of companies selling high-quality inputs or consumer goods with those selling cheaper or inferior inputs and consumption goods. Substitute goods are the items purchased by businesses and consumers when the original good is no longer available or too expensive to purchase. The cost of inputs and consumer response to price are the main threats to high-quality and first-rate goods. The ability of consumers to purchase substitute goods leads to the buyer power force of the five forces model.
All businesses are subject to the purchasing power of consumers and other businesses. Porter notes in his five forces model that buyer information, price sensitivity, brand identity, and bargaining leverage are all important parts of the buyer power force. Many consumers are unaware of the power exercised over corporations in a free market economic system. Businesses will make choices based on the purchasing power response of consumers and the response to changes in the company’s products or services. This force leads to the final part of Porter’s five-force model: rivalry.
Rivalry is competition between firms for consumer dollars. Companies compete against each other to earn the highest profits and gain the highest possible market share. Porter said this is the driving force behind his model as companies must compete in the free market to earn profits. Without competition, companies may or may not make money, depending on consumer response to the company’s goods and services.
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