Strategy
Session 3
Industry Analysis:
Why do some Industries outperform others?
One way to analyze the state of the industry is to use Porter’s five forces. Micheal Porter is
known for his research in competitive strategic management.
Barriers to Entry:
- High capital costs to enter the market
- No opportunity for smaller entry in the market
o Incumbent economies of scale (large MES)
o Incumbent economies of scope
o Incumbent economies of vertical integration
- Incumbent experience/ learning advantages
- Restricted access to distribution channels
- Customer loyalty to incumbents
- Restricted access to essential inputs
- Threat of retaliation by incumbents
- Excess capacity
- Government/ legal barriers
As seen on the image, the large MES (minimum efficient scale) means that companies
cannot start small in the industry and are facing large barriers to entry. If the MES is high, it
requires very high initial investment to get to the efficient point, and it is therefore very
hard to enter.
It is also important to acknowledge the experience curve. Overall, we can say that the cost
of production per unit declines by 20% to 30% for every doubling of cumulative units
produced.
Buyers
Your organization is powerful if:
- Your product or service is differentiated and unique
- Your product/ service is essential to buyers
- Buyers have few sources of supply
- Buyers have high switching costs
- Buyers have no substitutes available
- Your firm can integrate forward
Suppliers
Your organization is powerful if:
- Supplier’s input is a commodity
- Supplier’s input is inessential to your output
- You are in a large proportion of supplier’s sales
- Supplier has many competitors
- Supplier has few other customers
- You have low switching costs
We can see that when your employees are more unionized, the profitability of your firm
goes down as they have more power to negotiate.
Substitutes
Your product/ service is vulnerable to substitutes if:
- Alternative products or services deliver
o Comparable benefits at a lower cost
o Fewer benefits at a significantly lower cost
- New technology can make your obsolete
- Customers have low switching costs
Competitors:
Intense rivalry can be caused by:
- Low industry growth
- Commodity products and services
- Low brand loyalty
- Low switching costs
- Excess capacity
- High exit barriers
The Herfindahl-Hirschmann index of industry concentration tells us the market share
percentage of the top 2,3,4 firms in the industry
- Measures the industry concentration
- Su of the square share of each firm
What can we do to improve the firm performance according to Porter?
There are basically two ways to improve firm performance:
1. Change the Industry Structure
a. Manage the five forces (Raise entry barriers, reduce rivalry etc.)
b. Manage the value chain, profit pools, complementarities
2. Migrate into attractive industries
a. Manage corporate growth: the corporate portfolio
b. Diversification strategy; merger and acquisition; synergies
Moreover, it seems that we could add a sixth force to Porter’s five Forces. Indeed,
complements are also a crucial aspect to determine the state of the industry you compete
in.
Complements:
- Products that need the existence of others to function
- The rise in price of complements will have negative effects on other products
- Rise in price of oil affects negatively the car industry
- Although the 5 forces are quite central we should also keep in mind complements
and their effects the firm’s profitability.
Porter’s framework assumes:
- Industry structure drives competitive behavior
- Industry structure is fairly stable
But, competition also changes industry structure:
- Implication:
o Within the 5 forces framework, the industry structure leads to competitive
strategy
o Under dynamic competition, the competitive strategy leads to the industry
structure
What is the relevant market?
What industry is Jaguar in?
- The motor vehicle industry
- The automobile industry
- The luxury car industry
- Is its industry global, regional or national?
The key criterion to determine this is the substitutability:
- On the demand side: Are buyers willing to substitute between types of cars and
across countries?
- On the supply side: Are manufacturers able to switch production between cars and
across countries?
We may need to draw industry boundaries differently for different types of decision.