Mtm4 white paper industry analysis (featuring the 5 forces)

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Industry Analysis (Featuring the 5 Forces) Intelligence Collaborative - Mastering the Methods Series

Industry Analysis (feat. the 5 Forces)


This White Paper is #5 in a series of intelligence methods being offered to members of the Intelligence Collaborative. It was developed by Dr. Craig S. Fleisher to provide a concise overview of how to apply key intelligence methods to support analysis. Although every effort is made to ensure that the information is accurate and fit for its purpose, the author and Aurora WDC make no implied or explicit warranties as to its applicability or use in your particular work context.

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Issue Analysis

Product Life Cycle Analysis

Scenario Analysis

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Abstract

Business unit analysts and managers study their industry's characteristics since an industry's structure determines its relative economic attractiveness and hence, the profit potential of all companies within that particular industry. According to Harvard University Professor Michael Porter, industry analysis featuring the five corners will help you determine any strategic modifications needed to enhance profitability of an incumbent company, or help you determine whether your company should enter or exit an industry in the first place. The model visually looks like the following figure:

The Method’s Primary Value

All industries are not equal in terms of the profitability firms can earn in them. Michael Porter provided a framework that models an industry as being influenced by five forces. The astute analyst and strategic business managers who seek to develop an edge over rival firms can use this model to better understand the industry context in which the firm operates.

Overview of the Method

The model requires the analyst to understand five forces that acting together determines the nature of competition in a focal industry. Each of the model's five components, (1) Threat of New Entrants, (2) Threat of Substitutes, (3) Bargaining Power of Suppliers, (4) Bargaining Power of Buyers, and (5) Degree of Competitive Rivalry have measurable components which classi fy each force as having a "Low," "Moderate," or "High" strength. The collective strength of the five forces then determines how attractive the industry is to potential entrants. Each of these forces is briefly described below:



Threat of New Entrants - The easier it is for new companies to enter the industry, the more cutthroat competition there will be. Factors that can limit the threat of new entrants are known as barriers to entry. Some examples include:

Existing loyalty to major brands Government inhibitions or regulations

High costs to switch from one provider to another

High fixed costs Incentives for using a particular buyer (such as frequent shopper programs)

Resource unavailability The Threat of Substitutes – This force examines the likelihood that an industry buyer will switch to a competitive product or service from a different industry. If the cost of switching is low, then this poses a serious threat. The extent of the threat depends upon:

Customer loyalty levels and switching costs

The extent to which the substitute’s price and performance compares with the industry’s product

The willingness of customers to switch Bargaining Power of Suppliers - This is how much pressure suppliers can place on a business. If one supplier has a large enough impact to affect a company's margins and volumes, then it holds substantial power. Here are a few reasons that suppliers might have power:

Switching to another (competitive) input will cost too much

The product is integral to the buyer’s ability to produce its product or service The supplying industry has a higher profitability than the buying industry

There are only a few suppliers of a specialized product

There exist no or very few viable substitutes Bargaining Power of Buyers - This examines how much influence customers can place on a company’s offerings. If a customer has a large enough impact to affect a company's margins or volumes, then the customer holds substantial power. Here are a few reasons that customers might have power:

Customers are price sensitive

Customer purchases large volumes of the product It is easy to switching to another competitive product

There are only a few buyers

The product is less important to buyers; they can do without it for some period of time Degree of Competitive Rivalry - This describes the intensity of competition existing between incumbent firms “battling” for customers within an industry. Companies within highly competitive industries generally earn low returns because of suffering from the high cost of competition. Highly competitive markets are generally characterized by:

Many rivals of similar size (economists call this concept as nearing perfect competition)

There exists little to no differentiation between the products and services offered to buyers The industry is mature, slow growing; companies can only grow by taking customers from rivals



The analyst examines the forces individually, and then together, to determine the impact they have on industry attractiveness, and potential profitability. The end goal is to participate in and help to shape industry forces in more attractive ways so that your business achieves better profitability.

Where the Method Fits in Planning and Strategy

Industry Analysis featuring the 5 Forces is significant in terms of their potential impact on strategy formulation. The potential of these forces to impact profitability is different from industry to industry. These forces jointly determine the profitability of industry because they shape the prices which can be charged, the costs which can be borne, and the investment required to compete in the industry. Before making strategic decisions, the managers should use the five forces framework to determine the competitive structure of industry. Decisions should be make that weaken forces which harm profitability, strengthen forces that increase it, and otherwise make choices that leverage forces that can uniquely help their firm succeed as a competitor.



Cautions with Applying this Method

The biggest error analysts make in applying Porter’s model is not to define the industry at the line of business level. The model was not designed to deal with strategic groups, or multi -business competition. Also, applying it to a company will also produce misleading results in almost every case. The model is about structural forms of advantage. It wasn’t designed to account for other forms (capabilities, resources-based) factors. Also, the five forces model largely overlooks the role of innovation as well as the signif icance of individual firm differences. Porter’s original formulation of the five forces was viewed by some to have ignored other factors. For example, a sixth significant factor called the influence of complementors refers to the reliance that develops between the companies in different industries (known today as adjacencies) whose products work in combination with each other. Strong complementors can have a strong positive effect on the industry if their joint ecosystem works to the benefit of both. It presents a stagnant view of competition. For the model to be more useful, analysts need to complement it with other temporally-sensitive methods like forecasting, futures, or scenarios that turn the “photograph” of an industry’s structure into a “moving picture” of it!

Applying the Method

I always recommend that analysts start with the end goal in mind. The primary objective of a successful strategy based on Industry Analysis featuring the five forces should be to identify and take advantage of the existing competitive forces in a manner that will enhance the competitive position of the company. Decisions and actions must be aligned with that goal, or else the analysis is likely to turn into an impractical exercise at best, and waste valuable resources like executive’s time, even worse.

1. Define your industry at the line of business level. Getting this definition scoped right, and agreed upon internally, is a crucial first step. Remember, you are analysing an industry, not a company (unless the company has a monopoly, a rare circumstance, these days).

2. Identify the key stakeholders in each of the five categories. For examples, who are the suppliers that you are trying to determine the level of bargaining power for? Who/what are the substitutes for your focal industry/market’s products/services?

3. Thoroughly assess each of the five forces individually. Each should be rated either “low,” “medium” or “high.”

4. Consider the aggregate impact of the forces. Answer “is the industry attractive in terms of an incumbent business achieving acceptable levels of profitability?” (see figure below)

5. Make decisions about what you can do and how your company’s strategy take advantage of the existing forces in a manner that will enhance the competitive position of the company .



Here are some other questions to think about when developing your Five Forces analysis.

Before

What exactly are you aiming to achieve? Be clear about your expectations. What is the scope of this analysis? Where does the industry begin and end relative to each of

the five forces?

Who can potentially benefit from this?

Scope your industry at the line of business level. This tool looks at industries, not companies. During

Focus on the present or future, not on the past. I usually recommend doing two of these, one for the present, and one projected out 2, 3 or 5 years. Trying to understand how the forces will change industry competition is one of the best value-adds from doing this analysis.

Do not play the "blame game." Stay focused on what can be improved, not what should have been improved in past projects.

Remember to analyze both the positive and the negatives. Few industries will be attractive across the board.

Be objective and open to new ideas, changes in thinking, etc. After

What are the lessons learned? How can the company use them in the future?

How has this analysis assisted you, your project and/or organization?

Have you been able to implement any of the recommendations? Remember to utilize the analysis and your learning from it in future projects, if/when applicable.

Complementary Methods

Competitor Profiling

Driving Forces Analysis



Forecasting

Strategic Group Analysis STEEP/PEST analysis

SWOT analysis

Trend analysis Value Chain Analysis

Additional Resources

See chapter 7 (pg. 109-126) on Five Forces Industry Analysis in the (2013) book Analysis without Paralysis: 12 Tools to Make Better Strategic Decisions, 2nd Ed., by Babette E. Bensoussan and Craig S. Fleisher, Upper Saddle River, NJ: FT Press.

Business and Competitive Analysis: Effective Application of New and Classic Methods by Craig S. Fleisher and Babette Bensoussan, 2007, Upper Saddle River, NJ: FT Press.

Strategic and Competitive Analysis: Methods and Techniques for Analyzing Business Competition by Craig S. Fleisher and Babette Bensoussan, 2003, Upper Saddle River, NJ: Pearson/Prentice Hall.

Standard & Poor's Industry Surveys: This is usually the best place to start. Use it to learn about industry trends, challenges, external market drivers, operations, and key competitors. It covers over fifty major global industries.

Datamonitor360 (was called Marketline): This offers global and country-specific industry profiles, drawing on Datamonitor's market research reports of a large range of industry sectors. Includes a basic Five Forces analysis based on Datamonitor's primary research; helps analysts conduct due diligence to validate assumptions.

First Research: Not as deep an analysis of the overall industry as S&P, but focuses on business challenges, drivers and opportunities provides important data often left out by others. It covers 200+ broad industries and sectors.

Industry Associations: Most major industry associations publish industry surveys, outlooks, aggregate data, benchmarks and more. While many post some information on the web, explore purchasing publications (most are very reasonably priced) and speak to a staff for additional leads.

Industry Trade Magazine "Special Issues": Look at core industry trade magazines for special features, such as annual "state-of-the-industry", top company rankings, and more. Use Factiva, Business Source Complete and the actual magazine web site to locate.

Alan S. Michael’s LinkedIn group called “Corporate Planning, Strategy, and Strategic Market Implementation” often has worthwhile discussions about industry analysis.

Presentations & Public Speaking

Mtm4 white paper industry analysis (featuring the 5 forces)