Porters Five Force Model Might Contribute

Introduction

A SWOT analysis is one of the most popular techniques used to analyse a company’s internal and external environment, and a common tool for companies to assess their strengths, weaknesses, opportunities and threats in relation to their competitors. In order to gain a thorough understanding of this, managers must consider the competitive environment. Michael Porter (1979), belonging to Harvard Business School, proposed a model which analyses and describes the competitive environment of an industry in terms of five basic competitive forces. The model was designed as a means for organizations to understand their competition and determine strategy. It goes into the nature of the competition, examining the external threats and identifying the opportunities to achieve competitive advantage. This enables organizations to understand their competitive strengths and weaknesses and then devise suitable mechanisms to overcome competition (Porter, 1980).

This paper suggests that a Porter’s Five Forces model can be used to enhance SWOT analysis, supplementing the analysis of a company by identifying the competitive pressures of the industry. Focus of this paper is solely on establishing exactly how the model contributes by assessing each individual force, therefore leading to five different ways of interpreting a SWOT analysis. No considerations of alternate models that might contribute to a SWOT analysis are given; neither are reasons against how the Porter’s Five Force model doesn’t contribute. The five forces that Porter devised are: the threat of new entrants, the bargaining power of buyers, the bargaining power of suppliers, the threat of substitutes, and the rivalry amongst competitors. Each of these forces affects a company’s ability to compete in an industry. Relevant examples will be given on how companies have implemented the Porter Five Forces model and how each force influenced the company’s SWOT analysis in the example.

Bargaining Power of Buyers

The bargaining power of buyers can be seen as a crucial factor in a company’s environment because it analyses arguably the most important stakeholder, the customers. Wise and Baumgarter (1999) agree that the key to a lot of company’s success has been through ‘taking the route downstream’, toward the customer. They argue that barriers to competition have moved away from superior products and toward customer allegiance. Therefore the goal is to now gain the strongest relationships with the most customers. Soft drink is an example of an industry where its main competitors, Coke and Pepsi, have gained huge buyer power thanks to extensive advertising and brand equity. Greg Farrell (2010) reported that Coca Cola credited their increase in sales to heavy advertising to emerging market consumers. Coke and Pepsi’s long history of heavy advertising have gained them a huge amount of loyal customers across the world, leading to well established global identities (Greenwald and Khan, 2005). This means it is difficult for other competitors to advertise their brand and has accumulated to a decreased chance that customers will buy from other competitors.

Coca Cola and Pepsi also offer retailers high margins for the shelf space they offer, which makes it very tough for new entrants to convince retailers to substitute their products for Coke and Pepsi. This means retailers’ shelves are dominated by Coke and Pepsi products, and therefore gives buyers little choice in their selection. In terms of a SWOT analysis, the buyer power Coke and Pepsi hold relates to their strengths as companies. An analysis of the industry buyer power would show that, in relation to a SWOT analysis, they hold major strengths in advertising and brand equity over competitors, and have little threat from potential entrants or substitute products.

Another example of using an analysis of an industry in order to leverage buyer power and transfer it into strengths and opportunities would be Google’s takeover of DoubleClick (BBC News, 2007). DoubleClick is a leading company in advertisement serving, therefore with Google already possessing a 90 percent share of the German, Spain, France and Britain search market, this acquisition means Google can dominate the advertising market increasing their power even more (Holahan, 2007). By having so much of the market share, this considerably reduces the choice consumers have of choosing advertisements that aren’t served by Google. This means Google has a high influence over the buyers, significantly reducing any possible threats in a SWOT analysis and underpinning the strengths Google has over competitors.

Bargaining Power of Suppliers

The bargaining power of suppliers is especially important in regard to driving down costs and penetrating the market. Suppliers pose the threat of exerting bargaining power by threatening to raise prices or reduce the quality of goods and services (Dess et al., 2009:59). By assessing the relative power the supplier has over a company, an analysis of the bargaining power of suppliers in an industry used alongside a SWOT analysis of a company can identify whether the bargaining power results in a strength or weakness to a company in relation to competitors. In general terms, supplier power is wielded by the supplier’s demand of a certain price for goods. If this price is not paid, the company don’t get the goods. However, in some markets such as the UK supermarket, major competitors have an overwhelming advantage over lesser competitors – they can dictate the price they pay the supplier (BBC News, 2009).

Jason Hall (2007) reported supermarkets’ dominance, where three-quarters of food in UK are bought from the four major supermarkets – Tesco, Asda, Sainsbury’s and Morrisons. This tends to lead to a high proportion of a suppliers work being dedicated to one of the big four companies. The company then has power over the supplier and can reduce costs when other competitors can’t. If the supplier refuses to reduce the price, they will be left with a much smaller market for their produce. The UK supermarket is an example of how companies have analysed the bargaining power of suppliers in the industry, exposed the opportunities and threats they pose, and applied a suitable strategic move which would lead to sustainable competitive advantages, which in SWOT analysis terms refers to strengths over competitors.

Potential Entrants

The threat of new entrants refers to the possibility that the profits of established firms in the industry may be eroded by new competitors. This threat is dependent on the barriers to entry in an industry, and these barriers affect a company’s environment, especially external, and how a company should approach their strategy. Greenwald and Kahn (2005) believe the barrier to entry is the most important factor to a company in any given industry, stating “no other feature of the competitive landscape has as much influence on a company’s success as where it stands in relationship to these barriers”. The barriers of entry to potential entrants in an industry are largely dependent on the competitive advantages that companies in the industry behold. The competitive advantage, or lack of, that a company has will determine how this force contributes to their SWOT analysis. If a company has a sustainable competitive advantage, then it will be a strength of theirs and possibly a threat to other companies. If a company lacks a sustainable competitive advantage, or a potential entrant possesses a competitive advantage, then this would be a threat to the company who doesn’t hold a competitive advantage, and an opportunity to the potential entrant.

Amazon is an example of a company that recently suffered from competition from new entrants. Kharif (2010) wrote about Amazon’s Kindle now being seriously threatened by Apple, thanks to new features that the Kindle doesn’t have. Apple introduced the IPad and announced it would feature a versatile tablet computer that lets users read electronic books and perform a range of other computing tasks. This led to Amazon’s shares in the EBook market forecasted to drop from 90% to 35%. The emergence of the Apple IPad would have been seen in a SWOT analysis of Amazon as a major threat. Whereas, in terms of an Apple SWOT analysis, the new features would be a strength, and creating a device that included EBook as well as other appealing features would have been seen as a major opportunity.

An example of an industry which has raised its barriers high would be the UK supermarket industry. Greenwald and Khan (2005) argue that cooperation between competitors is possible and beneficial and can be accomplished without breaking the law. This is seen as being common in the UK supermarket industry, with the main competitors continually adding product lines that only they can compete with, therefore raising the threshold of the industry higher and higher, to the point where it’s now near impossible for new companies to enter the market. In 2007, there was an enquiry from the Office of Fair Trading into supermarkets working together to raise dairy products at a cost to the consumer of £270 million (Wallop, 2007). Michael Savage (2007) stressed how this was just another example of the major supermarket competitors in the industry exercising their power over the industry. Being able to raise the prices of commodity products proves just how high the barriers to entry are in the industry, meaning the top companies, Tesco, Asda, Morrisons and Sainsbury’s, have little threats and many strengths in their SWOT analysis’.

Threat of Substitutes

The threat of substitutes contributes directly to a SWOT analysis by providing either threats or opportunities to a company. All firms within an industry compete with other industries producing substitute products and services. The threat that substitutes pose depends largely on the price-to-performance of the product or service which customers can use to satisfy the same need (Karagiannopoulous et al., 2005). The emergence of the Internet has increased the possibilities of substitute products and how companies leverage the Internet has ramifications on the state of a company’s strengths, weaknesses, opportunities and threats. The majority of substitute products in recent years have been the result of advancements in technology and the Internet.

A prominent example of this is the competition the movie rental company, Blockbuster, received from the online movie service, Netflix. James Doran (2008) commented on how Blockbusters dominance was thwarted by the fast-paced world of entertainment media. They failed to see Netflix as a serious competitor until it was too late, where they then realised that customers preferred the cheaper and easier option of attaining DVDs by mail or even streaming a movie on their own computer. Randall Stross (2010) recently wrote about how Netflix’s streaming option opened up the second distribution channel it was lacking, and showed how an online-only service can remain as a profitable operation because executives focus just on the online business. In the Porter’s Five Forces model, Netflix posed a significant threat to Blockbuster. If Blockbuster would have analysed the threat of this force and applied it to their SWOT analysis, there is a much higher possibility they could have forecasted the threat and have avoided their downfall. An analysis of the industry would have identified Netflix as a company that had used the Internet to leverage sustainable competitive advantages leading to strengths and opportunities in their SWOT analysis.

The music industry is another industry that has been largely affected by substitute products. An analysis of the threat of substitutes would have identified the opportunities and threats forecasted to all companies in the industry. James Hall (2011) reported on the transformation of the industry from CDs to online download. The technological shift led to an estimated 540 specialist record shops closed in the UK between 2000 and 2008. Porter (2001) recognised that the Internet makes information widely available, reduces the difficulty of purchasing and distribution, and allows buyers and sellers to find and transact business more easily. A recent example of the technology shift increasing the threat of substitutes is Spotify’s threat to Apple’s ITunes. Spotify allows consumers to stream as much music as they like for a monthly subscription fee as opposed to the downloading format on ITunes (Cellan-Jones, 2009). Depending on the success of Spotify, this could potentially see another shift in the music industry. The threat of substitutes consists of customers constantly looking for cheaper and easier ways to satisfy their need in a product or service. It is essential for a company to analyse the industry on a regular basis for these threats and incorporate them into their SWOT analysis.

Competitive Rivalry

The competitive rivalry in an industry can be the most defining of all five forces. The level of rivalry among competitors has a direct impact on the profitability of an industry and therefore has relative impact on the other four forces in the model (Porter, 2008:32). The rivalry among competitors can be influenced by many different forms, including price discounting, new product introductions, advertising campaigns and service improvements. The intensity of the rivalry in an industry will directly affect the SWOT analysis of a company by opening up various different opportunities and threats depending on the intensity and identifying which of the aforementioned forms are most suitable to pursue in order to be competitive (Porter, 2008:32). For example, influences to the SWOT analysis of companies in the soft drink industry would be related to competition in advertising, new products introductions in the mobile phone industry, and price rivalry in the airline industry.

The airline industry is a prominent example of how important it is for a company to adapt its strengths according to the industry it is in and the level of intensity in that industry. The airline industry is characterised by a large number of competitors that offer a near identical service and very few switching costs for buyers. This leads to competitors being encouraged to cut prices in order to win new customers and compete in the industry (Bannatyne, 2009). The rise of budget airlines, such as Ryanair and EasyJet, altered the industry with their low-cost flights. They recognised the customer’s basic need of wanting to fly to their desired destination, cut costs on the various ‘frills’ associated with flights, and began to offer flights to customers at a much lower price (Toyne, 2001). This posed a significant threat to competitors who then had to consider cutting prices even further in order to compete with low-cost airlines. The elements of SWOT analysis in the airline industry, therefore, are affected by how well companies can leverage their pricing in order to gain customers from competitors. This is true to other industries that are influenced by other forms. The elements of SWOT analysis in the soft drink industry are affected by advertising performance and in the mobile phone industry by the ability to introduce quality new products.

Conclusion

Managers must analyze the external environment to minimize or eliminate threats and exploit opportunities. The range of examples presented in this paper demonstrates how industries are constantly changing and are not static. Therefore a continuous process of environmental scanning and monitoring as well as obtaining knowledge on present and potential rivals is necessary in order to be competitive. A thorough awareness of how the factors contribute to a company’s SWOT is beneficial not only for deciding what industries to enter but also for assessing how to improve a company’s competitive position.

Although Porter’s Five Force model is effectively a tool used to analyse an industry, it can be useful in conducting a SWOT analysis of a company because it identifies the strengths, weaknesses, opportunities and threats in relation to a company’s competitors. A good analysis of this allows companies to adapt their strategy in order to improve on weaknesses, leverage strengths, capitalize on opportunities and reduce threats. Both analysis techniques can be used together in the pursuit of an understanding of the multitude of elements affecting the profitability of companies.

A key link between Porter’s Five Force model and SWOT analysis is the possibility to use information gained from an external analysis of the competitive environment — which refer to a company’s opportunities and threats — and transfer it into a company’s internal environment — which refers to a company’s strengths and weaknesses. The transfer of this information is done through the realization of a company’s competitive advantages. Porter’s model is designed for companies to use the information from the industry analysis in order to develop competitive advantage. And the competitive advantage that a company holds over competitors then features directly in a SWOT analysis. Porter (2000:3) states how a company can only outperform rivals if it can establish a difference that it can preserve which delivers greater value to customers. This ‘preserved difference’ can be regarded to as a sustainable competitive advantage; therefore the identification of this through the Porter’s Five Force model can be seen as the foremost contributor to a SWOT analysis.