Industry Analysis

Power of Buyers

The reverse situation occurs when bargaining power rests in the hands of buyers. Powerful buyers can exert pressure on small businesses by demanding lower prices, higher quality, or additional services, or by playing competitors off one another. The power of buyers tends to increase when single customers account for large volumes of the business's product, when a substitutes are available for the product, when the costs associated with switching suppliers are low, and when buyers possess the resources to move backward in the chain of distribution.

Availability of Substitutes

"All firms in an industry are competing, in a broad sense, with industries producing substitute products. Substitutes limit the potential returns of an industry by placing a ceiling on the prices firms in the industry can profitably charge," Porter explained. Product substitution occurs when a small business's customer comes to believe that a similar product can perform the same function at a better price. Substitution can be subtle—for example, insurance agents have gradually moved into the investment field formerly controlled by financial planners—or sudden—for example, compact disc technology has taken the place of vinyl record albums. The main defense available against substitution is product differentiation. By forming a deep understanding of the customer, some companies are able to create demand specifically for their products.

Competitors

"The battle you wage against competitors is one of the strongest industry forces with which you contend," according to Cook. Competitive battles can take the form of price wars, advertising campaigns, new product introductions, or expanded service offerings—all of which can reduce the profitability of firms within an industry. The intensity of competition tends to increase when an industry is characterized by a number of well-balanced competitors, a slow rate of industry growth, high fixed costs, or a lack of differentiation between products. Another factor increasing the intensity of competition is high exit barriers—including specialized assets, emotional ties, government or social restrictions, strategic interrelationships with other business units, labor agreements, or other fixed costs—which make competitors stay and fight even when they find the industry unprofitable.

INDUSTRY ATTRACTIVENESS AND INDUSTRY SUCCESS FACTORS

"Industry attractiveness is the presence or absence of threats exhibited by each of the industry forces," Cook explained. "The greater the threat posed by an industry force, the less attractive the industry becomes." Small businesses, in particular, should attempt to seek out markets in which the threats are low and the attractiveness is high. Understanding what industry forces are at work enables small business owners to develop strategies to deal with them. These strategies, in turn, can help small businesses to find unique ways to satisfy their customers in order to develop a competitive advantage over industry rivals.

Success factors are those elements that determine whether a company succeeds or fails in a given industry. They vary greatly by industry. Some examples of possible success factors include quick response to market changes, a complete product line, fair prices, excellent product quality or performance, knowledgeable sales support, a good record for deliveries, solid financial standing, or a strong management team. "The reason for identifying success factors is that it will help lead you to areas where you can establish competitive advantages," Cook noted. The first step is to determine whether or not the company possesses each success factor identified. Then the small business owner can decide whether the company can and should develop additional success factors.

THE IMPORTANCE OF INDUSTRY ANALYSIS

A comprehensive industry analysis requires a small business owner to take an objective view of the underlying forces, attractiveness, and success factors that determine the structure of the industry. Understanding the company's operating environment in this way can help the small business owner to formulate an effective strategy, position the company for success, and make the most efficient use of the limited resources of the small business. "Once the forces affecting competition in an industry and their underlying causes have been diagnosed, the firm is in a position to identify its strengths and weaknesses relative to the industry," Porter wrote. "An effective competitive strategy takes offensive or defensive action in order to create a defendable position against the five competitive forces." Some of the possible strategies include positioning the firm to use its unique capabilities as defense, influencing the balance of outside forces in the firm's favor, or anticipating shifts in the underlying industry factors and adapting before competitors do in order to gain a competitive advantage.

 PREV  1 | 2