5 Factors Influencing the Market Attractiveness
Identified by Michael Porter in the 1970s five powerful factors project industry attractiveness and long-term earning power of any market segment. Each aspiring entrepreneur should be familiar with these powerful determinants of the profitability of any industry.
- The Threat of Entry;
- Buyer Power;
- Supplier Power;
- The Threat of Substitutes;
- Competitive Rivalry.
Analysis of these factors can be a valuable road sign for any entrepreneur. It can help them assess their chances of achieving success in the given market without doing it by trial and error.
So, how should a five forces analysis be done? What should be its outcome?
First, you should identify what industry your new business will be in. Will it be software, education, construction, marketing? You can define your industry very broadly or narrowly. Everything depends on the share of the target market which you want to serve.
1. Threat of entry
The threat of entry to any business is connected with start-up costs you have to cover. They are the expenditures incurred during the process of creating a new business. There are pre-opening and post-opening startup costs. The former include expenses for technology, research, a business plan, and the latter include costs connected with the promotion, advertising, employment. Some industries such as construction have very high startup costs while some others like Internet-based industries have very low or none. The threat of entry is very high in industries that are knowledge-intensive and capital-intensive, which basically means you need specialized know-how and a lot of money to start up a business. In contrast to Internet-based industries such as blogging, online training needs little capital or knowledge so the threat of entry is little. Of course, you need to be persistent and motivated, but you don’t need to have millions of dollars or a Harvard Ph.D. to be successful.
The key question to ask:
Is it easy or difficult for companies to enter this industry?
Recap: If you are planning a quick exit strategy, it is likely you will prefer business easy to enter. If you have a plan to build a sustainable venture, you will prefer industries with high barriers to entry so that it was more difficult for others to follow.Back to top
2. Supplier power
Some industries need suppliers who deliver their products, but if the number of suppliers providing the same quality of products is high, their power is weak. In these circumstances, the entrepreneurs have the upper hand because their choice is wide and they can always change the supplier when they are not satisfied with the quality of products or customer care. On the other hand, there are industries where entrepreneurs depend on their suppliers very much because the product they provide is custom made and meets specific standards. Then the power of suppliers to such industries is very strong because a businessman cannot change the supplier easily. It can be either difficult and expensive or sometimes even not possible. Such dependency is never favorable for the entrepreneur.
The key question:
“Do suppliers to this industry have the power to set terms and conditions?”
How much power do we want to give them?
How important will suppliers be to our business?
Can we do something to avoid being too dependent on them?
Recap: While choosing the industry, it is important to take into account the power of our potential suppliers. If we don’t want to become too reliant on certain suppliers, we should think about it at the stage of creating a business model for our business.Back to top
3. Buyer power
The free market offers customers enormous power because they have a wide choice of sellers who are constantly fighting for their attention and money. In such circumstances, sellers need to differentiate their products to attract customers. Some of them choose a strategy based on the lowest price, which is not always the best solution because customers usually want more and more, better quality, and lower prices. Sellers realize how substantial power their buyers have so they are trying to build powerful brands that help them distinguish their products on the market and build loyalty among their customers. Sellers try harder and harder because customers exert enormous pressure on them. It is difficult to find a market segment where sellers have more power than buyers. It happens when the product or service is unique and hard to get, so it results in high demand.
Do buyers have the power to set terms and conditions?
Is it possible to create such a business model that sets its own terms and conditions and has bigger power than customers?
How can we increase our power and decrease buyers’ power?
Recap: Entrepreneurs who are choosing the target market should go over the potential buyer power of their future customers and think about ways how to increase their own power on the market.Back to top
4. Threat of substitutes
When we decide to enter a certain market, it is good to analyze what substitutes to our product exist on the market and how threatening to our product they can be. It is necessary to make a thorough analysis to make a deliberate decision because the number of existing substitutes may have a big impact on the overall success. The reality is that in almost every industry there are some substitutes to our products unless it is extremely innovative. We should assess the chances of surviving on the market. Our strategy should be focused on persuading our potential customers that our product is the best answer to their needs and solves their problems much better than any other available substitute.
Is it easy or difficult to substitute our products to take the market?
Is it possible to persuade customers to use our products instead of their substitutes?
Recap: It is obvious entrepreneurs would like to find markets with the minor threat of substitutes, but nowadays it is almost impossible because of the plentitude of various goods, however, some products may have more substitutes than others.Back to top
5. Competitive rivalry
Before entering any market, it is advisable to research competition to see how competitive our chosen market is. It is extremely important because it is likely that competition already exists and we will have to go head-to-head with them. Everything depends on their current position on the market and how much our product will differ from our competitors’ products. It is possible to win with almost any competitor, but we need to have an excellent branding strategy and product differentiation. Building a strong brand can be time-consuming, but it is usually the best method to grab a fair share of the market.
Is competitive rivalry severe or weak?
What can we do to make our business stand out from the crowd?
Recap: Competition is a very important factor while assessing the chances of business success. Thus, some entrepreneurs create their entire business strategy based on differentiation from their competitors.
When you answer the above questions, you will get an overview of your potential industry. This assessment is valuable because the conclusions might save you from investing a lot of time and money in the wrong industry, which has no potential for development. The overall assessment of the five forces will help you verify how attractive or unattractive your potential industry is.Back to top