Do It Yourself! - Assessing the attractiveness of a sector using Porter's 5 forces method as an example
- One of the methods used to analyze the market is Porter's 5 forces.
- Porter's 5 forces analysis is used to assess the attractiveness of a sector and is based on 5 different factors, related to the company's environment.
- Porter's 5 forces are worth applying when considering whether to enter a particular market.
- The 5 forces under analysis in Porter's method are: bargaining power of suppliers, bargaining power of buyers, intensity of competitive struggle within the sector, threat of new producers, threat of substitutes.
- A proper analysis should begin by defining the sector in which the company is to operate.
- Once the sector is defined, its size and dynamics must be determined.
- After taking a close look at the sector, pay attention to each of the 5 forces, assign to each a few factors that have a significant impact on that part of the market, and then evaluate these factors in terms of their impact on the company's environment.
- After analyzing all the forces, an overall assessment of the sector's attractiveness can be made.
- In practice, Porter's 5 forces analysis is often expanded to include other methods, such as SWOT analysis, or the PEST method.
Many companies, especially young and innovative ones, make business decisions based on their experience or according to their gut feelings. Often they rely on intuition, not basing their choices on any "hard" numbers and analysis. One can make excuses for the lack of funds for market research, but it is worth considering whether the costs associated with an incorrectly made decision will not be greater than the expenses for market research and analysis. Isn't it more advantageous to spend more money and time now than to "go out of business" later through wrongly made decisions?
In addition, using the right methods and concepts, it is possible to carry out market analysis under "home" conditions, without the need to engage specialized companies and incur large financial expenses. One of the methods used to analyze the market is Porter's 5 forces. The article explains how, using this tool, to carry out an assessment of the sector's attractiveness on your own.
What is Porter's 5 forces analysis?
As the name suggests, Porter's 5 forces concept was developed by Michael E. Porter. He is a well-known economist, researcher, author of many specialized books, consultant, lecturer and teacher. He has taught at Harvard Business School and has developed many theories and concepts of strategy, dealing with problems related to businesses, the economy and society, including market competition and corporate strategy, economic development, the environment and health care.
When to apply Porter's 5 forces analysis?
Porter's 5 forces are worth applying when considering whether to enter a particular market. This method is used to assess the attractiveness of a sector and is based on 5 different factors, related to the environment in which the company operates, namely:
- Bargaining power of suppliers,
- The bargaining power of buyers,
- The intensity of the competitive struggle within the sector,
- The threat of new manufacturers,
- The threat of substitutes.
To better illustrate Porter's 5 Forces theory, I will use the example of an electronics company that manufactures personal computers.
Porter's 5 forces - an example
To better illustrate Porter's 5 forces method, it will be illustrated using the example of an electronics company that manufactures personal computers.
Where to start with Porter's 5 forces analysis? - Assess the attractiveness of the sector
Proper analysis start by defining the sector in which the company is to operate. As a reminder, sector is a narrower concept than industry, and how narrowly you want to define it is up to you. Using the example of an electronics company, a sector can be either "the computer market" or "the market for computers and mobile devices." Later sections of the article use the second option.
Once the sector is defined, its size must be determined. It is most often defined as the sum of the annual turnover of all companies in the sector realized in a given market. Determining the exact figures is very difficult in practice, after all, we will not call every potential competitor to ask about the current year's revenues, even more so if we are doing the analysis using the DIY (Do It Yourself) method. You can find a lot of information on this subject on the Internet or think about it yourself. After all, it is obvious that since the leading laptop manufacturers are global companies, they earn "large" revenues, so let's simply describe the size of the sector as "large."
Then consider the dynamics of the sector. Are manufacturers competing fiercely in creating newer and newer technologies and models of portable computers? No, most generations of this type of equipment are similar. There are, admittedly, innovations such as new software, types of screens, sound cards and so on. However, they are not any "revolution," so I think defining the dynamics of the laptop sector as "average," will be appropriate. To complete the description of the sector, it is necessary to consider the phase of its life. The life cycle of the sector resembles both the life cycle of a product and a company, and is modeled on the growing up and aging of a person. It consists of the following phases:
It can be said that the market for portable computers is mature. As we established earlier, there is no fierce technological competition here, and the laptops themselves are in common use.
How to conduct a proper analysis of Porter's 5 forces?
After taking a close look at the sector, it is necessary to pay attention to each of the 5 forces. After distinguishing all the elements of the analysis, we assign to each a number of factors that have a significant impact on that part of the market. Then evaluate these factors in terms of their impact on the company's environment.
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Rivalry within the sector
Let's start by identifying the rivalry and current competition. First, find out what the major players in the sector are and their market shares. This information can often be found on the Internet. Thus, in the analyzed market, the largest players are:
- Hewlett-Packard (24.1% market share),
- Lenovo (22.2%),
- Samsung (15.6%),
- Acer (12.6%),
- Asus (8%),
- Apple (7.1%),
- Panasonic (3.1%),
- Dell (2.5%),
- Toshiba (2.5%),
- Sony (1.9%).
Then, the level of rivalry between sector participants should be established, which is what the competition analysis. In the case of the mobile computer market, it will be average. Marketing activities of individual companies are noticeable, but they are not very intrusive, and manufacturers "do not plant pigs" on each other. It is also worth considering the form that competition takes. An open price battle is definitely out - the prices of laptops are similar and no one pays attention to the low price in advertising. Promotion and comparative advertising is also unlikely to fit here. You can see promotion and advertising of your own strengths, so this will answer the question of the form of competition.
Threat of new competitors
The next force is the threat from the entry of new players. Let's consider this aspect. All the leaders in the laptop market are global companies with huge budgets, state-of-the-art technological facilities and large-scale marketing efforts. Local companies are practically non-existent in this sector. Therefore, a potential new mobile computer manufacturer would have to have a very large amount of start-up capital and be so-called "Born global," i.e. operate in the global market from the beginning. In addition, the leading manufacturers of mobile computers are highly reputable, so a new type of such equipment offered by a new company should indeed stand out with something groundbreaking. The threat of new players entering the sector can therefore be classified as "low."
The threat of substitutes
The next force we will analyze concerns substitutes. These are all products that satisfy the same need as the products that the analyzed company produces. If we assume that we want to operate in the "mobile devices and computers" market, then in this respect, portable computers, in addition to classic computer functions such as:
- network access,
- Access to multimedia (music, photos, videos, etc.),
- job opportunities,
- contact with other people,
Are devices that can be moved. So let's consider what other devices meet these criteria and what is the level of threat from them. First of all, tablets, their threat level can be described as medium, they are handier than laptops, but less comfortable to work on. Another substitute is smartphones. However, they pose little threat, as they do not have as many options as portable computers, are smaller, have less memory, etc. Overall, the threat from substitutes is low, as laptops have the greatest convenience of use and the highest number of additional features.
Bargaining power of suppliers and buyers
Before us are the last two forces - suppliers and buyers. I will describe them together, since their analysis proceeds in the same way. First consider those groups and organizations to which the analyzed company pays to provide a product or service. When analyzing the attractiveness of a sector on its own, only the most important suppliers will suffice. In the case of laptop manufacturing, these include parts manufacturers, laboratories and laptop transport companies. Next, it is necessary to determine their power of influence on the company. In other words, how strongly our various suppliers "dictate terms" to us. This can be done using a scale from 0 to 5.
In our case, it will mostly be 0 to 2. In an identical way, you should proceed with buyers. Remember, however, that the buyer is not necessarily only "John Smith" who will use our product. Buyers are also distribution channels, i.e., in this case, hardware stores, corporations, and sometimes state institutions. Here, too, it is necessary to determine the strength of the buyers' influence on the analyzed company. As for individual customers, it will be high - it is for them that the product is ultimately targeted. We are slightly less influenced by hardware stores. As for the other types, they represent a small fraction of all buyers, so their power of influence is low.
After analyzing all the forces, an overall assessment of the sector's attractiveness can be made. For the mobile computer market, the "diagnosis" will be as follows:
The laptop market is mature and the companies currently operating in it enjoy strong revenues. Laptop manufacturers do not compete particularly fiercely. Competition mainly takes the form of promoting and advertising their own strengths. The threat from substitutes is low, and companies enjoy a high degree of independence from suppliers. This positive picture is spoiled, however, by the fact that it takes a huge amount of money to enter this market, both to produce on a global scale and for marketing efforts that would cover the entire world.
The analysis conducted in this article gives a good approximation of how to use Porter's 5 forces concept.
In practice, Porter's 5 forces analysis is often expanded to include other methods, such as SWOT analysis, or PEST method. You can also use scoring the attractiveness of the sector. In order to make market research as accurate and detailed as possible, it is a good idea to use the services of a professional consulting firm. The costs incurred in working with specialists will more than pay off, as the organization will be able to make more accurate decisions to ensure success and growth, based on facts and proven data.