Porter's Five Forces

In 1979, Michael E. Porter, a professor at Harvard Business School, developed a framework to analyze the competitive forces that affect businesses. This framework is known as Porter's Five Forces.

By analyzing the five forces, procurement teams can gain a better understanding of the industry in which their suppliers operate and the competitive forces they face. This, in turn, can help them develop strategies to increase their leverage and optimise the relationship. So what are the five forces?

Threat of New Entrants: The ease with which new companies can enter an industry and compete with existing companies. If it's easy for new companies to enter, existing companies face more competition.

Bargaining Power of Suppliers: The degree to which suppliers can influence the price and quality of inputs. If suppliers have a lot of power, they can drive up prices and reduce the quality of inputs.

Bargaining Power of Buyers: The degree to which buyers can influence the price and quality of outputs. If buyers have a lot of power, they can negotiate lower prices and demand higher quality.

Threat of Substitute Products or Services: The extent to which alternative products or services can meet the same needs as the industry's products or services. If there are many substitutes, the industry faces more competition.

Rivalry Among Existing Competitors: The degree to which existing companies in an industry compete with each other. If there are many competitors, they will fight for market share, which can drive down prices and profits.

How to use the Porter's five Forces Model?

In order to utilize Porter's Five Forces Model effectively, begin by examining each of the five forces and considering their relevance in your industry. You can use the template linked above to help you with this.

Identify the forces at play in your industry and evaluate the magnitude and impact of each force on your diagram. One way to do this is to use "+" to indicate a moderately favorable force, "-" for a moderately unfavorable force, "++" for a strongly favorable force, and "--" for a strongly unfavorable force. For neutral forces, use "o." An example of this method can be found in figure 2.

Lastly, consider the implications of your analysis on your business. Although no situation is perfect, analyzing your industry using Porter's Five Forces can guide you in identifying areas that can be improved to enhance your competitive position and profitability.

Furthermore, if your position is structurally weak, the model can assist you in developing strategies to transition into a stronger position

For more information on the five forces, you can check out a case study on Uber or the video with a Tesla case study below:

Limitations to porters five forces

Critics of Porter's Five Forces often question its relevance in modern business conditions. The model was developed in the late 1970s and early 1980s, a period characterized by intense competition, market stability, and steady rates of technological change. However, three relatively new developments have transformed the business landscape and raised questions about the utility of the model. These developments are digitalization, globalization, and deregulation.

Digitalization has given rise to massive amounts of data that can be used by businesses to disrupt markets and render the competition obsolete. New business models can emerge almost overnight.

Globalization has made it possible for businesses to manage relationships with customers who are globally distributed and have greater flexibility in their buying options.

Deregulation has reduced government influence over a number of industries, making it easier for organizations to reinvent themselves and exploit new opportunities.

While some strategists argue that the rigid Five Forces Model is of little use in anticipating future developments, Michael Porter contends that the model remains a valuable tool. He emphasizes that the Five Forces are permanent parts of an industry's structure, unlike more fleeting factors such as industry growth rates, government interventions, and technological innovations.

Despite its usefulness, the model does have limitations. Porter's Five Forces focus only on certain aspects of an industry, mostly related to competition, and exclude external factors such as government policies, political volatility, and environmental impact. It also lacks quantitative analysis of the impact of each force, making it difficult to determine which force should be given the most weight.

Moreover, the model provides insights only from the recent past and may quickly become outdated, making it challenging for organizations to act fast. Lastly, the Five Forces Model is most useful when analyzing a single market or industry segment, and a large company looking to make strategic decisions across multiple markets would have to conduct a separate analysis for each.

Therefore, while Porter's Five Forces remains a valuable framework, it should be used in conjunction with other analytical tools such as PEST analysis, and with an awareness of its limitations.