Porter’s Five Forces of Competitive Position Analysis was first published in the Harvard Business Review in 1979, and it has since become one of the most popular frameworks used by businesses to analyze their competitive position. Even though the framework has been around for decades, it is still highly relevant today, as it provides an easy way to evaluate the industry dynamics that will impact your company’s ability to succeed over the long term. This article will explain how Porter’s Five Forces using with a SWOT analysis can help you examine your small business’s competitive position and ultimately gain insights about how to improve it if necessary.
An Introduction to Porter’s Five Forces
Porter’s five forces is a model that identifies and analyzes five competitive forces that shape every industry and helps determine an industry’s weaknesses and strengths. Understandably, Porter’s model is most commonly used in business-to-business (B2B) industries which tend to be more complex. However, it can also be applied in a B2C environment. Regardless of your business type or size, you should consider how Porter’s five forces may be affecting your competition, suppliers, or customers. Here are a few areas where you can begin to assess how your competition may affect you.
Competitive rivalry
The first step in developing a strong competitive strategy is to take Porter’s five forces framework and use it analyze your industry. By evaluating your external environment, you can better understand how your competitors may react when you enter a new market, which will help you determine whether or not entering that market is even worth pursuing. For example, if Porter’s five forces show that there are no barriers to entry into an industry, then competing in that industry would be difficult; on the other hand, if Porter’s five forces show that there are many barriers for entry into an industry (and particularly for new competitors), then competing in that industry could be very successful.
Bargaining Power of Suppliers
The bargaining power of suppliers determines how willing a supplier is to negotiate with you. If a supplier has high bargaining power, then it may be more difficult for you to get favorable terms because it can supply a competing business in your industry. The more you need a supplier and cannot find one easily, the suppliers will have higher bargaining power over you. At that point, they can dictate unfavorable terms or simply not do business with you at all.
Threat of New Entrants
The threat of new entrants into your field is determined by how easy it is for a company or person without much experience or financial capital to break into your business. A small business with protected intellectual property (e.g., a patented product) has a low threat of new entrants, while one with an easily replicated idea will have more companies jumping on board. This can be addressed either by keeping costs down so you’re able to undercut the competition or by increasing value in order to create higher barriers against competitors entering. In either case, Porter’s Five Forces can help identify potential challenges for your small business—before they become big problems.
Threat of Substitutes
It’s easy for any new business to be threatened by substitutes. It doesn’t take a lot of time or money for your customers to have a slightly better experience with a substitute, whether that’s ordering food through Postmates rather than DoorDash or buying eyeglasses from Warby Parker instead of Warby Parker. If you can identify some of your biggest substitutes and ways in which they are better than what you offer, you can then brainstorm ways to either make them as good as—or better than—your service or product. If it’s too hard for them to be better than what you offer, you may want to revisit your business model.
Buyer Power
The first force that Porter describes is buyer power. This power refers to how difficult it is for suppliers of a certain good or service to find alternate buyers if their current buyer stops buying from them. When you’re running a small business, your suppliers typically fall into two categories: those you can easily replace and those you can’t. However, one of Porter’s key points is that supplier power goes beyond just being able to find new buyers, but also has a lot to do with how desirable they are in comparison with other alternatives available.
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Strategies for success
The main reason Porter’s model is so useful for small businesses is that it helps them understand who their competitors are. Understanding your competition will help you figure out how to develop your business strategy—whether that means becoming a low-cost provider, finding an innovative way of differentiating yourself from rivals, or doing some combination of both. To be more specific: It can help you identify which strategies will work best in your particular competitive environment. The model also sheds light on how much bargaining power you have with suppliers, what kind of bargaining power customers have over you, how much rivalry there is among existing firms in your industry, and more.
Cost leadership
In a perfect world, every business could be a cost leader—charging less than competitors for an identical product or service. Not all businesses can pull it off, but when you can, it’s a great way to stand out from your competitors. To become a cost leader in your industry requires serious research (and often innovation) into finding efficiencies that make it possible for you to offer lower prices than your competition. Once you’ve identified areas where there is wiggle room on price—in other words, where you are different from other suppliers—you can identify just how much of an impact being a cost leader will have on sales.
Differentiation
When it comes to market forces, no one has done more for small businesses than Michael Porter. In his seminal book Competitive Strategy, Porter said that the essence of strategy is choosing what not to do. Given that new businesses generally have limited resources, especially early on, there are many things you cannot do. Knowing what you can’t do is as important as knowing what you can—and your company’s differentiation is a great place to start when determining where the value lies within Porter’s five forces framework. What makes your business different from all of its competitors? That’s a question that should be answered before every new business venture begins.
Focus
The concept of focus will come up a lot in my examples, and for good reason. To succeed as an entrepreneur, you have to be brutally focused on what is important. Instead of trying to do everything yourself, use Porter’s five forces analysis: look at your strengths (vertical differentiation), weaknesses (horizontal), power of suppliers (buyers/suppliers), power of customers (buyers/customers) and threats from substitutes (placements) to define your focus area(s). Everything else you do should fit into that focus area. If it doesn’t, it isn’t important—and shouldn’t distract you from what really matters!
Alternatives to Porter’s Five Forces
Porter’s framework is certainly not a complete answer to strategic planning. Many organizations have developed sophisticated scenarios as a complement to Porter’s five forces, with scenario analysis being more popular in Europe than in North America. In addition, many organizations use analytical methods from Operations Research that focus on quantitative approaches for analyzing complex decision problems. There are also other frameworks for analyzing strategies such as the BCG growth-share matrix and McKinsey 7S model. Some of these models might offer superior choices depending on an organization’s situation or needs.