Michael Porter’s Five-Forces Model of competitive analysis is a widely used approach for developing strategies in many industries as the intensity of competition among firms varies widely across industries. According to Porter, the nature of competitiveness in an industry can be viewed as a composite of five forces: rivalry among competing firms, potential entry of new competitors, potential development of substitute products, bargaining power of suppliers and bargaining power of consumers. There are 3 steps to use Porter’s Five-Forces Model can reveal whether competition in a given industry is such that the firm can make an acceptable profit. Firstly, identify key aspects or elements of each competitive force that impact the firm. Secondly, evaluate how strong and important each element is for the firm. Lastly, decide whether the collective strength of the elements is worth the firm entering or staying in the industry.
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Rivalry among the competing firms is the most powerful among the five forces as the successful firm provide competitive advantage over the strategies pursued by rival firms. The changes in strategy can be met with retaliatory countermoves, such as lowering prices, enhancing quality, adding features, providing services, extending warranties, and increasing advertising. There are many factors may cause the rivalry increased such as the number of competitor increases as competitors become equal in size and capability, demand decreases and grow slowly, price decline and others. For example, Ford and General Motors’ both losing money in North American auto operations and their market share decline constantly when Toyota and Honda have stepped up their marketing and production effort in the United States. Toyota’s new plant starts production with capacity of 200,000 vehicles annually in 2009 become competitors for Ford and General Motors, which equal in size and capability and thus threaten the their status in American.
Second force is potential entry of new competitors. The intensity of competitiveness among firms increases if a new firm can easily enter a particular industry. The barriers to entry n industry may includes specialize gain of technology, lack of experience, strong customer loyalty, strong brand preferences, large capital requirements, lack of adequate distribution channels, government laws and regulatory policies, tariffs, lack of access to raw materials and others. Thus, every firm should stay alert and identify the new firm entry, monitor the new rival firm’s strategies and be-ready to counterattack if needed, and capitalize on existing strengths and opportunities of own firm. Generally, when the threats of new firms entering the market is strong, incumbent firms will lower down their products’ price, adding free gifts and rewards such as extending warranties, adding features or offer financing specials.
Third of the competitive force is potential development of substitute products. Commonly, firms are in close competition with the producers of substitute products in other industries such as plastic container producers competing with glass, paperboard and aluminum can producers; and acetaminophen manufacturers competing with other manufacturer of pain and headache remedies. Competitive pressures arising from substitute products increases due to the decline of substitute products’ price and lower switching costs for consumers. For instance, producers of eyeglasses and contact lenses face the increasing competitive pressure from laser eye surgery; producers of sugar face competitive pressure from artificial sweeteners and producers of honey; newspapers and magazines face the competitive pressure of Internet and 24-hour cable; and malls and shops face the competitive pressure of Internet online shopping.
Fourth of the competitive force is bargaining power of suppliers. It affects the intensity of competition in an industry, especially there is a large number of suppliers, a few of raw material substitute or cost of switching raw materials is expensive. Thus, the suppliers and producers should cooperate and assist each other to enhance their long-term profitability with reasonable prices, standard quality, just-in-time deliveries to reduce inventory costs and development of new services. However, firms may pursue a backward integration strategy to gain control or ownership of suppliers when suppliers are unreliable and too costly or not capable. Conversely, many firms use outside suppliers for component parts rather than self-manufacture them as it is more economical. For example, in outdoor power equipment industry, Murray is a producer if lawn mowers, rotary tillers, leaf blowers, and edgers obtain their small engines from outside manufacturers, Briggs & Stratton who specialize in produce huge economies of scale of engines.
The last competitive force is bargaining power of consumers. The bargaining power of consumers is a major force affecting the intensity of competition in an industry if they are concentrated or large amount or buy in volume. The rival firms offer extended warranties, special services, or free gifts to gain customers loyalty. The bargaining power of consumers can increase if they can inexpensively switch to substitute, update with sellers’ products, prices, and costs, lower selling price with greater extent warranty coverage and accessory packages. For example, Tesco offers full range of groceries with thousand of products and ClubCard point to help consumers spending less. Tesco also has it advertisements in television program, Internet (Its own webpage, www.tesco.com.my), roadside signboards and printed promotion papers for consumers. These ensure the status of Tesco always has higher bargaining power of consumers as compare others rivals.
Competitive strategy is concerned with how a strategic business unit achieves competitive advantage in its domain of activity meanwhile competitive advantage is about how an strategic business units (SBU) creates value for its users both greater than the costs of supplying them and superior to that of rival SBUs. An SBU can have lower costs than its competitors or it can have products or services that are so exceptionally valuable to customers that it can charge higher prices than competitors. There are two basic criteria that can help in identifying appropriate SBUs: Market-based criteria and Capabilities-based criteria. For Market-based criteria, if the parts of an organization are targeting same types of customers through the same sorts of channels and facing similar competitors, they might he regarded as the same SBU. As for Capabilities-based criteria, if they have similar strategic capabilities then the parts of an organization should only be regarded as the same SBU. (Gerry, Richard and Kevan, 2011)
According to Michael Porter, strategies allow organizations to gain competitive advantage from three bases generic strategies: cost leadership, differentiation and focus. Porter’s five strategies imply different organizational arrangements, control procedures and incentive system. Through these strategies, larger firms with greater access to resources typically compete on a cost leadership and/or differentiation basis while smaller firms often compete on a focus basis. Management should perform cost-benefit analyses to evaluate “sharing opportunities” among a firm’s existing and potential business units by effectively “transfer” skills and expertise among autonomous business units in order to gain competitive advantage. These sharing activities and resources enhance competitive advantage by lowering costs or increasing differentiation. Various strategies could yield advantages in cost leadership, differentiation and focus but they are depend on factors such as type of industry, size of firm and nature of competition.
First of the Five Generic Competitive Strategies is Low-Cost Provider Strategies. It is a powerful competitive approach in markets to defend against the rivalry among competing firms and potential entry of new competitors as buyers are sensitive to price changes of the product by aim to operate the business in a highly cost-effective manner. It also open-up a sustainable cost advantage over competitors to defends against potential development of substitute products and increase the bargaining power of consumers by setting lower selling price as compare with substitute products or competitors. This strategy require both suppliers and producers to assist each other to enhance their long-term profitability by achieving low cost through different approach such as new development services and technologies, just-in-time deliveries and thereby reduced inventory costs. A low-cost provider has two options for achieving superior profit performance Option 1 is use the lower-cost edge to under price competitors and attract price-sensitive buyers in great enough numbers to increase total profits. In turn, option 2 is refrain from price cutting altogether, be content with the present market share and use the lower-cost edge to earn a higher profit margin on each unit sold, therefore this can raising the firm’s total profits and overall return on investment. (Thompson and Strickland, 2001)
Under cost-based strategies, there are two tough requirements underlines by Porter. First of all the principle of competitive advantage indicates that a business’s cost structure needs to be lowest cost as lower than all the competitors. For the second requirement, the low cost should not pursue in total disregard for quality as well. For example, low-cost Chinese car producers based on cost-leadership with proximity seeking to export into Western markets not only need to offer cars that are cheap but cars that are acceptable in terms of service, reliability, network, style, resale value and other important characteristic. (Gerry, Richard and Kevan, 2011) The organization can achieve a cost advantage by perform value chain activities more efficiently than rivals and control the cost drivers of the value chain activities , and revamp the firm’s overall value chain to eliminate or by-pass some cost-producing activities. There are several example firms that are well known for their low-cost leadership strategies are Matalan, Target, Wal-Mart, BIC, McDonald’s, METRO Cash Carry, Makro, and Briggs and Stratton. For example, Matalan, the British women’s clothing market seeks to use large economies of scale and tight cost discipline to serve wide range of women with reasonably clothing at a good price. Meanwhile, Wal-Mart is testing Neighborhood Market grocery stores to complement “Pennies-n-Cents” sections in 20 Supercenters, and Target is trying out “The 1 Spot” in 125 of its stores. (Philip and Gary, 2006)
There are 4 key cost drivers that can help deliver cost-leadership: Input costs, Economies of scale, Experience, and Product/Process design. Input costs play important role in the cost leadership such as labour costs and raw materials costs. Many firms seek competitive advantage through locating their labour-intensive operations in countries with low labour costs such as set up service call-centers in India or manufacturing factory in China or set its factory close to raw material sources. For example, the Brazilian steel producer, Companhia Siderúrgica Nacional (CSN) benefits from its own local iron-ore facilities (Cost-leadership eith paraty). (Gerry, Richard and Kevan, 2011) In turn, Adidas set up factories in Vietnam, Thailand, Philippines and China cause attracted with their low labour costs. Economies of scale define as how increasing scale usually reduces the average costs of operation over a particular time period, perhaps a month or a year particularly about high fixed costs. It can arise whenever the activities can be performed more cheaply at larger volumes than small volumes and from the ability to spread out certain costs like Research and Development (R&D) and Advertising over a greater sales volume, simplifying the product line, scheduling longer production runs for fewer models, and using common parts and components in different models. For example, Henry Ford’s philosophy was to perfect the production of the Model T so that its cost could be reduced and more people could afford it. (Philip and Gary, 2006) For pharmaceutical manufacturer, it is needs to do extensive R&D before produce a single pill so economies of scale can be spreading the high fixed costs over high level of output: the average cost due to an expensive R&D project halves when output increases from one million to two million. However, diseconomies of scale are possible happen as large volumes of output might require special overtime payments to workers or involve the neglect of equipment maintenance might become very expensive, therefore, the economies of scale curve is typically U-Shaped with the average cost per unit actually increasing beyond a certain point.
Experience also can be a source of cost efficiency as it implies that the cumulative experience gained by an organization with each unit of output leads to reductions in unit costs. Firstly, there are gains in labour productivity as staffs simply learn to do things more cheaply over time according to the learning curve effect. Secondly, costs are saved through more efficient designs or equipment as experience shows what works best. There are three implications for business strategy in terms of the experience curve. First of all, entry timing into market is important: early entrants into a market will have experience that late entrants do not yet have and thus, it will gain a cost advantage. Second, it is important to gain and hold market share, as companies with higher market share will have more ‘cumulative experience” because of their greater volumes. Third, even the gains from experience are typically greatest at the start as indicated by the steep initial curve that improvement normally continue over time.
Product/Process design also influences cost. For example, organizations can choose to interact with customers through cheap web-based method, rather than via telephones or stores and engineers can choose to build a product from cheap standard components rather than expensive specialise components. There are several number of firms have created electronic value chains that enable them to function as “Internet middlemen” and use the instant communications capability of the Internet to match buyers and sellers. For example, Well Fargo and Chase Manhattan both operate Websites, where purchasing agents cooperate can pool their purchases to get better deals or special treatment from suppliers then make money by charging a fee for transactions. Singapore-based Advanced Manufacturing Online provides an Internet-based system that enables Asian suppliers and customers to send orders and solicit price quotations for Motorola, Matsushita and Taiwan Semiconductor Manufacturing. These new e-markets allow buyers and suppliers gather electronically and conveniently shop for better terms yet give sellers quick access to buyers to save on selling and marketing costs. (Thompson and Strickland, 2001)
The firm can revamp overall value chain to eliminate or bypass some cost-producing activities such as securing new suppliers or distributors, selling products online, relocating manufacturing facilities, and so on. Traditional wholesalers and retailer to revamp their value chain structure by creating an alternative distribution channel that allows many kinds of business-to-consumer transactions in cyberspace to be handled faster, more conveniently and less expensive than in the physical world of marketplace to protect their sales and market share. For instance, Internet companies such as Carorder.com have developed software capability that allows prospective motor vehicle buyers to place orders online for custom-equipped cars and trucks and pick up their vehicles at designated points. Therefore, it will bypass the car dealership part of automotive value chain. There are other innovative Internet companies are creating electronic value chain systems to provide buyers with mortgages, loans, insurance, new and used textbooks, flowers and groceries. (Thompson and Strickland, 2001)
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For example, McDonald’s is pursuing low cost leadership strategy. It is offering McValue Lunch and Dinner, which cheaper as compare normal price for 1pm-3pm and 6pm to 9pm in food industry Malaysia to against the rivalry among firms such as Kentucky Fried Chicken, Burger King and other fast foods restaurant. McDonald offers its foods and beverage with higher quality, lower prices and substantial marketing resources, which defends the potential entry of new competitors. In food industry, McDonald is in close competition with other fast food restaurants such as Pizza Huts, JolliBee, Domino’s Pizza and many others. However, McDonald offers many types of promotions such as “Weekday Breakfast Special”, “Mc Value Lunch”, “Mc Value Dinner” and introduce new desserts: “Coffee with Oreo Cookies McFlurry” and “MILO Supreme McFlurry” to reduce the competitive pressures from substitute products and against the potential development of substitute products. McDonald’s also launched E-Procurement in 2001, a Website that allows qualified and registered users to look for buyers or sellers of goods and services. It will connect headquarters with the global franchises, small suppliers and major suppliers to track purchases and offer customer loyalty programs. For example, the major suppliers of McDonald’s are Dynamix Dairy Industries (Supplier of Cheese), Trikaya Agriculture (Supplier of Iceberg Lettuce), Vista Processed Foods Private Limited (Supplier of Chickens and vegetable Products), Quaker Industries (Supplier of Bun), Amalgam Foods Limited (Supplier of Fish-fillet) and others. The E-Procurement assists McDonald’s and its suppliers and enhancing their profitability with reasonable prices, standardized quality, and just-in-time deliveries, which reduced 85% costs according to the McDonald’s supply chief Edwards. The low-cost strategy is the main factor increased the bargaining power of consumers as consumers are buy in large volume and thereby increased their consumer loyalty especially after established drive-thru and delivery services, which bring more and more convenient and save time to the consumers of employees and students who everyday rush for work.
Second generic strategy of Porter is Differentiation Strategies. Differentiation involves uniqueness along some dimension that is sufficiently valued by customers to allow a price premium. Business may differentiate along different dimension within each market. Successful differentiation can mean greater product image, value, flexibility, greater compatibility, lower costs, improved service, less maintenance, greater convenience, or more features. When a business successfully differentiates itself, the rivalry is reduced as it is outstanding among rivalry firms. Due to its effectively differentiation products with strong preference, brand loyalty and speciality, buyers are less sensitive to prices and therefore it is hard for new entrants to overcome or substitute is hard to affect their firms sales so it does not face the threaten of potential development of new competitors or substitute products therefore it will increased the bargaining power of consumers as well. Generally, firms that pursue differentiation strategy have good relationship and long-term contract with their own specialize suppliers to defend against the bargaining power of suppliers by enhancing both interest.
In clothes retailing, competitors may differentiate by store size, locations or fashion; in car, competitors may differentiate by safety, style or fuel efficiency; in airlines, competitors may differentiate by flight costs, flight performance attributes such as delays and service attributes such as baggage problems or boarding complaints. For example, BMW and Mercedes are at the top end of the car market but they are still differentiate in different ways as BMW with a sportier image while Mercedes with more conservative values. In American airline companies, US Air and Delta are not significantly differentiate from each other in terms of flight performance such as on-time flight and service attributes such as boarding, ticketing and reservations. However, Southwest does stand out as differentiator in terms of both flight delays and service, which makes it, was also the most profitable airlines in America. (Gerry, Richard and Kevan, 2011) Differentiation enhances profitability whenever extra price the product commands outweighs the added costs of achieving the differentiation.
Generally, a successful differentiation strategy includes strong coordination among the R&D, marketing functions and substantial amenities to attract scientists and creative people. Thus, differentiation strategy needs to clarify about two key factors: The strategic customers and key competitor. It is vital to identify clearly the strategic customers on whose needs the differentiation based. As a differentiator, it is very easy to draw the boundaries for comparison too tightly, concentrating on a particular niche. For example, Mountain Dew and root beer have a unique taste; Ralph Lauren in menswear, Chanel in women’s fashions and accessories, Ritz Carlton in hotel, Cross in writing instruments offer top-of-the-line image and reputation; Rolex in watches offer prestige and distinctiveness; Dell Computer and FedEx offer superior service; BMW and Porsche offer engineering design and performance; Siemens AG and Hewlett-Packard offer a wide range of products and E*Trade and Ameritrade offer internet inconvenience. (Fred, 2009)A successful differentiation strategy allows a firm to set higher selling price for its products and gain customers loyalty as consumers may become strongly attached to the differentiation features. For instance, Rolls-Royce, Tiffany and Gucci have differentiation based competitive advantages linked to buyer desires for status, image, prestige, upscale fashion, superior craftsmanship, and the finer things in life. (Thompson and Strickland, 2001)
The most effective differentiation bases are hard or expensive for rivals to duplicate. This is because competitors are continually trying to imitate, duplicate and outperform rivals along any differentiation variable that has yielded competitive advantage. For instance, when Caterpillar instituted its quick-delivery-of-spare-parts policy, John Deere soon followed suit. When Nippon Airways cut its prices, JAL quickly followed its suit too. (Fred, 2009) Thus, company should ensures that the sources of differentiation strategy must be time-consuming, cost prohibitive, and simply too burdensome for rivals to match. But firm must be careful when employing differentiation strategy cause buyers will not pay higher differentiation price unless their products values exceed the price that they are paying. Microsoft, with its Windows operating system and assorted application software, its ability to assemble large project teams composed of highly talented and antibureaucratic programmers who thrive on developing complex products and systems, and its marketing savvy and knowhow, has stronger capabilities to design, create, distribute, advertise and sell an array of software products for PC applications than any of its rivals. (Thompson and Strickland, 2001) BMW and Mercedes also offer top-of-the-line image and reputation with best engineer design and performance in car market as well.
For examples, BMW’s z23, made in Greer, South Carolina does not compete with Saturns made in central Tennessee. BMW does not face rivalry among competing firms and potential entry of new competitor. This is because it has clearly differentiated itself from others in certain mind of buyers and it also has strong customer loyalty and strong brand loyalty. The potential entry of new competitors will not threaten BMW as its market require large capital investment, specialized possession of patents and component parts. Brand loyalty is hard to overcome so it does not face threaten potential development of substitute products even the many high technology transportation introduced such as electrical car, aeroplane and train. Moreover, BMW applies Wallenius Wilhelmsen Logistic (WWL) with the goal to improve the predictability and visibility of BMW’s outbound global supply chain while simultaneously identifying administrative efficiencies and streamlining the number of external supply chain contacts to a single partner. The WWL mindset creates real benefits by optimizing lead times from factory to dealer, choosing the most efficient supply chain and vessel on the various routes to ocean. The lead times have been reduced by 10% to 15%, and due to total system transparency, inventory costs have been reduced. the valuable benefits provided to BMW include: reduced average lead times, improved delivery precision, better visibility and predictability, and efficiency of internal administration; all of which lead to improved vehicle deliveries to BMW’s customers, both dealerships and end-consumer regular reporting, including Key Performance indicators, ensures continuous improvements. This with factory-to-dealer concept most of the suppliers of BMW from China and Mexico to Germany, South Africa, United States, Australia and other countries such as ShenZhen Vinstar Photoelectricity Company Limited supplies BMW LED Door Lamps; Ningbo Fenson International Trade Company Limited supplies Forged Alloy Wheel; Ningguo Xianhao Auto Parts Company Limited supply Brake Wear Sensor; Catic Fujian Company Limited supplies air flow sensor and many others. Thus, the bargaining power of suppliers is reduced due to BMW has large amount of part suppliers from all over the world. The bargaining power of consumers will not threaten even BMW target for high income level consumers due to its strong brand loyalty. Thus, buyers are less sensitive to prices for BMW effective differentiated strategy as proven with BMW’s report in BMWBlog that BMW Group is up 10.5 percent on sales of 158,563 in the first six months of 2012 compared to 143,521 in the same period in 2011 (BMWBlog, 2012). BMW invested $1 billion into Mexican suppliers who would build parts for the X5, X6 and X7 as they are produced in company’s Spartanburg plant in Sounth Carolina to cut production costs as the labor rates in Mexico are relatively cheap as compare to the US and Germany (WorldCarFan, 2010).
Then, focus strategy is generic strategy is the next generic strategy based on competitive scope. A focus strategy targets a narrow segment of domain of activity and tailors its products or services to the needs of that specific segment to the exclusion of others. Focus strategies come in two variants: cost focus and differentiation focus. A focuser’s basis for competitive advantage is either lower costs than competitors in serving the market niche or an ability to offer niche members something they perceive is better suited to their own unique tastes and preferences. Focus strategies allow firms to narrow their market segmentation to be more specific in targeting customers with potential products. This strategy allow the firms to defend among the competing firms by entitled produced products with the lowest cost and sell with lowest selling prices. This require large capital investment for research and development for latest manufacturing process with lowest production cost and therefore the potential entry of new competitors or substitute products will not threaten their status in the market. Usually, these firms has strategic partnership with a large number of suppliers to defend against the bargaining power of suppliers besides reduced the inventory and logistic costs, defect rates of components and enhancing the quality of components. Such firms usually has their own strong brand loyalty in the market among consumers, and the switching costs is much more higher so the bargaining power of consumers will not be a threat for these firms.
In air travel, Ryanair applies cost-focus strategy by targeting price-conscious holiday travellers with no need for connecting flights; in domestic detergent market, Belgian Company Ecover uses a differentiation-focus strategy by gaining price premium over rivals on account of its ecological cleaning products. (Gerry, Richard and Kevan, 2011) There are many firms employing focused strategy include eBay focus in online auctions, Porsche focus in sports car, Cannondale focus in top-of-the-line mountain bikes, Jiffy Lube International specialised in quick oil changes, lubrication and simple maintenance for motor vehicle, and Enterprise Rent-a-Car focus in providing rental cars to repair garage customers. (Thompson and Strickland, 2001) Starbucks is pursing focus strategy by acquired Seattle Coffee’s U.S. and Canadian operations for $72 million. Starbucks now owns Seattle’s 150 coffee shops and its wholesale contracts with about 12,000 grocery stores and food service stores that distribute Seattle coffee beans. Nippon Airways, Japan’s second largest airline has divesting all other assets as to focus on core passenger and flight operations. Thus, it sold its 13 luxury hotels to Morgan Stanley in 2007. For insurance industry, Safeco divested its insurance and investment management divisions to focus on property casualty insurance operations. (Fred, 2009)
Focus strategies are able to seek out the weak spots of broad cost-leaders and differentiators. Cost focusers identify the areas where broader cost-based strategies fail because of the added costs of trying to satisfy a wide range of needs. Thus, the focuser achieves competitive advantage by dedicating itself to serving its target segments better than others. So, cost focusers identify areas where broader cost-based strategies fail because of the added costs of trying to satisfy a wide range of needs. For instance, Iceland Foods has a cost-focused strategy by concentrated in selling frozen and chilled foods to reducing costs against generalist discount food retailers like Aldi, which have all the complexity of fresh foods and groceries as well as their own frozen and chilled food ranges in food retailer maker of United Kingdom.
Focus strategies are able to seek out the weak spots of broad cost-leaders and differentiators. Cost focusers identify the areas where broader cost-based strategies fail because of the added costs of trying to satisfy a wide range of needs. Thus, the focuser achieves competitive advantage by dedicating itself to serving its target segments better than others. So, cost focusers identify areas where broader cost-based strategies fail because of the added costs of trying to satisfy a wide range of needs. For instance, Iceland Foods has a cost-focused strategy by concentrated in selling frozen and chilled foods to reducing costs against generalist discount food retailers like Aldi, which have all the complexity of fresh foods and groceries as well as their own frozen and chilled food ranges in food retailer maker of United Kingdom. In turn, differentiation focusers look at the specific needs that broader differentiators do not serve well by focus on one particular need helps to build specialist knowledge and technology, increases commitment to service and can improve customer loyalty and brand recognition. For example, AMD and Intel make chips for wide range of computer but ARM Holdings dominates the world market for mobile phone chips, despite being only a fraction of the size of the leading microprocessor manufacturer. (Gerry, Richard and Kevan, 2011)
However, focus strategies depends on three key factors: distinct segment needs, distinct segment value chains and viable segment economies. Distinct segment needs is a focus strategies depend on the distinctness of erodes, it becomes harder to defend the segment against broader competitors such as the boundaries between smartphones used by general consumers and smartphones used by business people are blurring. However, it is become easier for Nokia and Apple to attack the traditional distinctive niche of Research in Motion (RIM) with its BlackBerry business phones. On the other hand, distinct segment value chains is one
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