Describe Michael Porter's "Five Forces Model" of Industry Analysis. Explain the way in which these forces interact with each other to unravel the industry structure.

Michael Porter’s Five Forces Model

The Five Forces model identifies five competitive forces that shape every industry and helps determine an industry’s competitive intensity and attractiveness. These forces are:

1. Threat of New Entrants

This force assesses how easy or difficult it is for new companies to enter the industry. High barriers to entry, such as significant capital requirements, economies of scale, government regulations, brand loyalty, and access to distribution channels, reduce the threat of new entrants. Conversely, low barriers increase the threat, potentially leading to increased competition and reduced profitability.

• Example: The airline industry has high barriers to entry due to the substantial capital investment required for aircraft, airport slots, and regulatory approvals.

2. Bargaining Power of Suppliers

This force examines the ability of suppliers to raise prices or reduce the quality of goods and services. Suppliers have high bargaining power when:

• There are few suppliers.
• Suppliers’ products are differentiated.
• Switching costs are high.
• Suppliers pose a credible threat of forward integration (entering the industry themselves).

Example: Intel historically held significant bargaining power over PC manufacturers due to its dominance in the microprocessor market.

3. Bargaining Power of Buyers

This force assesses the ability of customers to demand lower prices or higher quality. Buyers have high bargaining power when:

• There are few buyers.
• Buyers purchase in large volumes.
• Products are standardized.
• Switching costs are low.
• Buyers pose a credible threat of backward integration (producing the product themselves).

Example: Walmart, as a large retailer, exerts significant bargaining power over its suppliers.

4. Threat of Substitute Products or Services

This force considers the availability of alternative products or services that can satisfy the same customer need. A high threat of substitutes limits the prices that companies can charge and reduces industry profitability. The closer the substitute is in terms of price and performance, the greater the threat.

• Example: The threat of video streaming services (Netflix, Amazon Prime) is a significant substitute for traditional cable television.

5. Rivalry Among Existing Competitors

This force examines the intensity of competition among existing firms in the industry. High rivalry typically results in price wars, advertising battles, and increased innovation. Rivalry is high when:

• There are numerous competitors.
• Industry growth is slow.
• Products are undifferentiated.
• Switching costs are low.
• Exit barriers are high.

Example: The smartphone industry is characterized by intense rivalry among companies like Apple, Samsung, and Xiaomi.

Interaction of the Forces & Industry Structure

These five forces don’t operate in isolation; they interact in complex ways to shape industry structure and profitability. For instance:

• High Supplier Power & Low Buyer Power: This combination often leads to high prices and lower profitability for firms in the industry.
• High Rivalry & Threat of New Entrants: This can stifle innovation and lead to a price war, further eroding profitability.
• Strong Threat of Substitutes & High Buyer Power: This forces firms to constantly innovate and offer competitive pricing to retain customers.

The strength of each force determines the overall attractiveness of the industry. An industry with weak supplier and buyer power, high barriers to entry, and a low threat of substitutes is generally considered more attractive and profitable. Conversely, an industry with strong supplier and buyer power, low barriers to entry, and a high threat of substitutes is less attractive.

Force	High Strength	Low Strength
Threat of New Entrants	High Barriers, Limited Access	Low Barriers, Easy Access
Supplier Power	Few Suppliers, Differentiated Products	Many Suppliers, Standardized Products
Buyer Power	Few Buyers, Large Volume Purchases	Many Buyers, Small Volume Purchases
Threat of Substitutes	Close Substitutes Available	Few or Distant Substitutes
Rivalry	Many Competitors, Slow Growth	Few Competitors, Rapid Growth