Five forces model is a strategy for companies to use to analyze the relative attractiveness or value of an industry before they enter the industry. It also helps existing companies in the industry to understand the strengths and weaknesses of their product or service for further improvement. It is important for companies to fully understand their industries' situation, so that they can plan a effective business strategy for the company.
The five competitive forces are:
1) Competitive Rivalry --
Competitors in an industry are chasing for a competitive advantage over other rivals. The intensity of competitions is different in different industries. So, the company’s business strategic manager should first look at the competitive rivalry when analyzing an industry. It means to see whether the industry has a strong competition between existing players.
Competitive rivalry is usually high when:
2) Power of suppliers –
The second thing to look at is to see how strong the position of sellers is.
Suppliers have great influence in an industry, especially in producing industries because they need raw materials, labor, and other supplies to make a finished product. If the power of suppliers is high, suppliers can set a high price for their products to earn more profit because buyers have no choice but to go by the high prices.
Power of suppliers is high when:
Power of suppliers is low when:
3) Power of buyers –
Power of buyers is also called the customer’s power. It takes an important role in an industry. Managers can reduce the power of buyers by setting up loyalty program for customers, such that the company will reward customers for constantly choosing that company to do business.
The power of buyers is high when:
The power of buyers is low when:
A strategic manager should also consider the threats of substitutes, which is the easiness of product or service to be substituted by product or service in other industries. Usually, threats of substitutes occur in an industry through price competition.
The threat of substitutes is high when:
The last force in the model is the threat of new entrants, which is the easiness of new competitors to enter the industry. When entry barriers are low, the threat of new entrants is high and vice versa. Having a high entry barrier in the industry can protect the level of profits of existing competitors by reducing the rate of new entrants.
Sources of entry barriers:
Extra information on the Five Forces Model: