Week 2 Flashcards
Three Key Strategic Considerations
- What business activities is the firm engaged in?
– Industry membership(s)
- How does the firm attempt to compete with other industry members?
– Competitive strategy
- How does the firm attempt to add value by operating in multiple business areas?
– Corporate strategy
Porter’s 5 Forces Framework
What are the 5 forces
- Rivalry among existing firms
- Threat of new entrants
- Threat of substitute products
- Bargaining power of buyers
- Bargaining power of suppliers
Porter’s 5 Forces Framework
These 5 forces can be further divided into
– Forces affecting the degree of actual and potential competition in the industry
– Forces affecting the bargaining power of buyers and suppliers within the industry
A company’s ‘moat’
A company’s immunity to competition, and thus its predicted ability to sustain higher growth, higher profit margins etc in the future.
Describe wide moat firms
have unique skills or assets allowing them to stay ahead of competition and earn above average profits for many years
Returns exceed cost of capital
Competitive Force 1: Rivalry Among Existing Firms
Higher degrees of competition among existing firms
– Push prices towards the marginal cost of production (i.e. down)
– Differentiation is important e.g. perceived product quality
Competitive Force 1: Rivalry Among Existing Firms
What determines intensity of competition within an industry?
– Industry growth rate
– Concentration and balance of competing firms
– Level of differentiation and switching costs
– Scale/Learning economies and ratio of fixed to variable costs
– Excess capacity and exit barriers.
Competitive Force 1: Rivalry Among Existing Firms
How Industry Growth Rate can influence competition among firms
If industry is stagnant
if industry is stagnant, competition will be fierce, as existing firms fight for ‘slice of the same pie’
Competitive Force 1: Rivalry Among Existing Firms
How Industry Growth Rate can influence competition among firms
If industry is growing rapidly
If industry is growing rapidly, there is room for each firm to increase sales, so normally less price pressure.
Competitive Force 1: Rivalry Among Existing Firms
How Concentration and Balance of Competitors can influence competition among firms
– How many firms in industry?
– Are there a couple of really big players?
• If a small number of firms hold considerable market share, competition may be less severe (or may have less severe implications for profit margins)
Competitive Force 1: Rivalry Among Existing Firms
Product Differentiation Determine intensity of competition?
if products sold are almost identical >>>>higher competition
– If products sold differ in actual or perceived quality, the extent to which a competitor’s product is a potential substitute for your product decreases
Competitive Force 1: Rivalry Among Existing Firms
Switching Costs Determine intensity of competition?
what is Switching costs
costs imposed on the customer if the customer changes suppliers
Competitive Force 1: Rivalry Among Existing Firms
Switching Costs Determine intensity of competition?
Low switching costs
Low switching costs increase competition
Competitive Force 1: Rivalry Among Existing Firms
Switching Costs Determine intensity of competition?
High switching costs
High switching costs decrease competition
• E.g. Payroll outsourcing firms
– Expensive for customer to have to set up their own payroll department
• Microsoft
Competitive Force 1: Rivalry Among Existing Firms
Scale/Learning Economies and Cost Structure Determine intensity of competition?
Economies of Scale exist where
Economies of Scale exist where the average cost per unit of production declines as output increases
Competitive Force 1: Rivalry Among Existing Firms
Scale/Learning Economies and Cost Structure Determine intensity of competition?
If scale economies are very important in an industry,
there will be high competition among existing firms, because changes in market share will have a larger relative effect on profit margins
Competitive Force 1: Rivalry Among Existing Firms
Scale/Learning Economies and Cost Structure Determine intensity of competition?
Scale economies also sometimes
impose barriers to entry, which affects the level of competition from newcomers
Competitive Force 1: Rivalry Among Existing Firms
Excess Capacity and Exit Barriers:Determine intensity of competition?
– If competitors have excess production
If competitors have excess production capacity, they may have incentive to expand output and sell at a price just above incremental cost, driving prices down
Competitive Force 1: Rivalry Among Existing Firms
Excess Capacity and Exit Barriers:Determine intensity of competition?
Exit barriers also increase competition
and include the existence of specialised assets:
• Assets for which the next best use is relatively low (e.g. Machinery specialised to the manufacture of a particular product). These assets will not be worth much on the open market if their current mode of use becomes economically unattractive.
Competitive Force 2: Threat of New Entrants
The ease with which a new (or outside) firm can enter an industry will affect the profitability of firms already operating in the industry.
Competitive Force 2: Threat of New Entrants
Factors affecting the barriers to entry include
– Economies of scale
– First mover advantage
– Relationships with suppliers and customers
– Legal barriers.
Competitive Force 2: Threat of New Entrants
Factors affecting the barriers to entry include
Economies of Scale
If economies of scale are high:
- a new competitor, operating at low volume will struggle to be profitable
- To achieve minimum optimal scale, competitors need to access to lots of $$$$ of finance, which may be hard to obtain from external sources (e.g. banks, equity investors)
Competitive Force 2: Threat of New Entrants
Factors affecting the barriers to entry include
Economies of Scale
If economies of scale are high:
- a new competitor, operating at low volume will struggle to be profitable
- To achieve minimum optimal scale, competitors need to access to lots of $$$$ of finance, which may be hard to obtain from external sources (e.g. banks, equity investors)
