In a perfectly competitive market there is no single firm or company that can influence the prices of a product of service. In order to have a perfectly competitive market there must be no barriers to entry as well as a free flow or perfect information among the firms. There are a large number of both buyers and sellers causing prices and profits to sit at the equilibrium level. In the real world it is nearly impossible to have perfect competition because there are so many conditions the market must meet in order to be achieved. Due to the lack of perfect competition in the real world we have what is known as buyer and supplier power.
Supplier power is the power of an individual supplier to affect the pricing in the marketplace, in their favor. There are many factors that can affect how much power an individual supplier has on buyers in the market. Some of the ways that a supplier can have greater power is when there is only one or a few suppliers supplying a product. Suppliers can gain power if there are high barriers for new entrants. This might include product or service is under patent or unique limiting competition either by law, due to expensive R&D costs or a variety of other reasons. Suppliers may also gain supplier power when the cost to the buyer is high when changing from one supplier to another, or if the buyers account is not attractive to other suppliers.
While it is difficult to maintain supplier power if a firm can achieve this in their market, they have the opportunity to maintain high profit margins. However it is important that suppliers don’t depend on the buyers for too much. If suppliers are unable to sustain their supplier power, they will pass the power to the buyer; this is known as buyer power. When the buyer is the one in power the supplier must constantly work on keeping their buyers happy. This must be done through lower prices, higher quality or new innovations in their field. In a market where the buyer is in control, suppliers only hope to increase profits is through increased market share. The attempt to increase market share keeps the supplier at a constant state of pleasing the buyer. Ultimately the game of high volume will leave these suppliers with minimal profit margins as they are always at the mercy of the buyer.
It will be difficult for some companies to gain supplier power depending on the industry they are in. Supplier power will be weakened if the product is one that is very standardized and easy to copy. Also if there are a large number of suppliers already in the industry supplier power will be nearly impossible to obtain. In order to gain supplier power a firm must not be too reliant on their customers, the market should be fairly inelastic. In order to be inelastic the good must be a necessity to the buyer. Therefore if a supplier is in an industry such as luxury spa treatments, they will see a much larger impact. During a recession, such as we are in now the supplier will see a much greater effect than a firm who sells necessities such as toilette paper.
Supplier power can be determined through Porters five force model. The five force model that was developed by Michael E. Porter of Harvard Business School. The model was created in order to determine how profitable a market would be based on five determinants. The first is threat of substitute products, which would be how easy is it for buyers to change or switch to a different product. The second, threat of the entry of new competitors, how easy is it for new competition to enter the market. The third is the intensity of competitive rivalry, how aggressive is the market and in what ways does the competition compete. The fourth is the bargaining power of the buyer, how price sensitive are the customers and do they have many alternatives. The last and fifth is bargaining power of the suppler or market inputs, this may be for raw materials, labor or services and is determined by the factors discussed above.
An example of a company that was able to create supplier power was Apple with the iphone. Prior to the iphone release Apple created significant hype about the product. This created a high demand for the product even before it was released. The demand lead to people acting in ways that you would not normally see for any other phone. People waited in long lines outside of the Apple store overnight and some paid double or triple the suggested sales price. Once the phone had sold out of its first released batch people were scrambling to get them. Apple released this phone to only be used on the at&t network limiting the ability of the competition to carry the phone. This created supplier power not only for apple but also for at&t.