Industry Analysis

An organization needs to understand the nature of relationships within its industry to allow the enterprise to develop strategies to leverage existing relationships.

A useful framework to use in this analysis is Porter's five forces model for establishing industry attractiveness for businesses. This analysis should be done at the level of the individual strategic business unit (SBU) rather than at the level of the organization as a whole, otherwise the range of relationships that a multi-departmental company faces causes the focus of the analysis. Porter identified five factors that affect the level of competition and thus profitability in an industry:

1. Supplier

The power of suppliers is strongest where:

> Control of supply is concentrated in the hands of a few players.

> The cost of switching to a new source of supply is high.

> At times when the supplier has a strong brand.

> The supplier is in an industry with a large number of small disparate customers.

2. Buyer

Where the power of buyers is strong:

> A few buyers control a large percentage of the volume market. For example, grocery and electrical goods retailers in the UK dominate the market and are therefore in a very strong position against their suppliers.

> There are a large number of small suppliers here. The meat industry in the UK has a large number of small farmers supplying a large number of large supermarket-dominated retail sectors.

> The cost of switching to a new supplier is lower.

> A supplier's output is relatively undifferentiated, effectively reducing barriers to alternative sources of supply.

3. Potential entrants

The threat of potential entrants is determined by several barriers to entry that exist in any industry:

> The capital investment required to enter an industry can be very high in areas such as electric power generation or chemical production.

> A good competitor that moved early in the industry may have established cost advantages regardless of the size of their operations. They have had time to establish critical aspects of their operations such as effective sources of supply, best locations and customer franchises.

> In some industries it may be necessary to achieve economies of scale in production, distribution or marketing.

> Access to the right distribution channels can be difficult. Peugeot/Citroen bought Chrysler's entire UK operations to gain an impressive dealership network in Britain.

> Government laws and policies such as patent protection, trade relations with other states, and state-owned monopolies can all act to prevent entry by competitors.

> The possibility of adverse reactions by a well-established firm to the entry of a new competitor into the market may be sufficient to act as a deterrent.

4. Substitutes

Substitution can happen in several ways:

> A new product or service may eliminate the need for a previous process. Insurance services delivered directly by manufacturers over the phone or over the Internet are an alternative to the services of an independent insurance broker.

> Replacing an existing product or service with a new one, cassette tapes replaced vinyl records only to be replaced by compact discs.

> All products and services suffer from generic substitution to some extent. Customers can opt to buy a car for an expensive vacation.

5. Competitive competition

The intensity of competition in an industry will be determined by several factors:

> The stage of the industry life cycle will be affected. As the industry matures, natural growth reaches a plateau. The only way an organization can continue to advance in an industry is to take away market share from its competitors.

> An important factor is the relative size of competitors. In an industry where competitors are of similar size, competition is likely to be intense as they each strive for a dominant position. Industries that already have clear dominant players tend to be less competitive.

> In industries suffering from high fixed costs, firms will try to achieve the highest possible volume throughput, which may lead to competition based on price discounts.

> There may be barriers preventing firms from withdrawing from the industry. These may be plants and machines which are specialized in nature and therefore cannot be transferred to other uses. Employees may have non-transferable specialist skills. If the industry is maturing, moving towards decline, and competitors are unable to leave the industry, competition will inevitably increase.