Digital marketing agencies and online business can often benefit by doing some strategic business planning. Using a framework like Porter’s Five Forces can be a straightforward way to get this competitive analysis done. Although Porter’s concepts may be unfamiliar to you, they are certainly worth the difficulty required to learn their central concepts.
The most important thing for digital marketers is that they grasp enough of Porter’s key concepts so that they can start using it as a tool in their digital business.
Porter’s Five Forces is a useful tool to have in your business toolbox to do a competitive analysis of your particular digital business environment.
Because business conditions can change rapidly, you may need to do these competitive industry scans every year. Some scans can be time-consuming depending on how deep you need to go, which will change according to industry. If your analysis requires a deep dive every year or so, try to pick a few of your most important factors that you can gauge quarterly. These can be executive level summaries that scan for any significant changes and emerging threats in your industry.
Porter’s Five Forces
Porter’s Five Forces is a process for doing a competitive analysis on any particular marketplace invented by Professor Michael E. Porter of Harvard University. It is a resource-focused methodology as it factors industry costs and how businesses deal with them. The primary purpose of Porter’s method is to determine the competitive intensity of your particular industry. High competitive intensity (where a marketplace is flooded with a wide mix of products and services) creates what is called a red ocean. The sea is red because you have lots of sharks fighting over a finite supply of consumers. The redder the sea, the less likely your company will be able to make a profit.
It’s important to understand how intensely red the ocean that you’re competing in is colored. If a marketplace is stuck in a red ocean, then see if there is a nearby blue ocean you can compete in with fewer competitors. A blue ocean gives you more flexibility to make more profit. If a company can slightly shift their product or services to cater to this less competitive space, they can reap proportionally more reward for the same amount of effort.
Porter’s #1 Force – Competitive Intensity
Competitive intensity forms the first of Porter’s Five Forces. Competitive intensity is made up of all the factors that conspire to create a red ocean type of industry. These factors can affect profits down as competitors try to jostle for position. To figure out how competitive your industry is, start with the following eight factors to assess the competitive intensity of your industry.
The eight factors of Porter’s competitive intensity.
According to Porter, eight factors go into determining the relative competitiveness of a marketplace.
1. Are there lots of competitors? If there are a lot of people opening the same type of business, then the competition in your space may be too intense for your business to be viable.
2. Is there real industry growth? If you are in a quickly growing industry such as many online businesses are these days, this may bode well for you even if the sector is filled with competitors. Growth rates change over time, so be sure to make regular forecasts to adjust your future expectations.
3. Are there high fixed costs? Fixed costs such as storage costs create an incentive where competitors that are in the industry battle to stay in it.
4. Is there a lack of differentiation? When every digital agency spends money on marketing and branding, it can be hard to differentiate between various online businesses. A good example is a marketing agency that promises companies more leads. Think about what can distinguish your business from the hundreds in your state alone that promise the same benefit?
5. Is capacity added to significant increments? Imagine a scenario where a stadium is trying to forecast its ideal capacity. To add more seats, it needs to create a multi-million dollar extension to its existing infrastructure. It’s not like it can create 100 new seats just by going to the chair factory. Take the example when a hotel needs to add volume for the holidays. The hotel industry has to add a lot of capacity all at once. These high marginal costs can act as a deterrent for other competitors to enter the space.
6.Do businesses use their diverse, competitive strategies in a particular market? If you’re competing against companies that use a range of competitive strategy, it can difficult to come up with a different plan that helps you stand out.
7. Are you in a high stakes industry? Imagine an industry like solar power or cancer research. Businesses in these industries have significant things at stake for our humanity as a whole. It’s imperative that you be the best for society to be rewarded as quickly as possible. High stakes industries are therefore extremely competitive.
8. Is there a high exit barrier? Once you are in industry, is it difficult for businesses to get out? Firms that are difficult to liquidate tend to stick around longer whether they’re doing well or not.
An example of competitive intensity in online business is online storage. While some online storage companies like Dropbox have been able to differentiate themselves, there are so many competitors that they mostly have to compete on price.
Porter’s #2 Force – Ease of Entry
The second of Porter’s Five Forces is how easy is it for a company to get into your industry. You have to ask whether it is expensive for an average person to jump into your industry? Larger, well-established companies may have large economies of scale. There could also be barriers to entry in the market such as licensure requirements and expensive permits that keep the less-committed out. There could be a significant capital barrier to entry into a niche. Some businesses require specialized capital equipment that you would need before you could compete in that particular industry.
An example in the online business of ease of entry is the web hosting business. It’s relatively easy for anyone to setup as a host and starts accepting payments. This creates a “red sea” situation where there is a large pool of competitors.
Porter’s #3 Force – Buyer’s Bargaining Power
The third of the Five Forces is the bargaining power of buyers, which in this case means customers. Just like in real estate, you could either be in a buyer’s market or a seller’s market. If there is lots of supply with relatively slack demand, a buyer can negotiate the price down until they get a great deal. On the other hand, there might be so much demand that the seller has more bargaining power to get a price more conducive to making a profit. You obviously want to stay away from industries where the buyers have all the pricing power. These industries have a marketplace imbalance such that the businesses have to work harder to service their customers.
An example of buyer’s bargaining power in online business is the online ad serving industry. The rates that advertisers pay for display advertising continues to drop, an indication that the buyers have the leverage in this marketplace.
Porter’s #4 Force – Threat of Substitutes
The fourth of the Five Forces is the threat of substitutes. This tenet gauges how easy it is for a consumer to get what they need from another industry. Let’s say you run a concrete business. People needing to repave their driveways will need to come to you. Now they could substitute an inferior product like asphalt or a more expensive product like natural stone, but those products are not exact substitutions. On the other side of the spectrum, let’s look at food. If you’re hungry, you can eat anywhere to satiate your hunger. Food has a high threat of substitution, and anyone getting into the restaurant business knows that they will have to fight hard to get people coming back.
The threat of substitutes is something that digital businesses have to be especially wary of. You may be thinking about a great digital service or app idea, but what will anchor people to stay with your app? You’ll have to map out a set of features that your competitors are missing from their service. You’ll always have inertia and brand loyalty on your side if you’re one of the first to market in your digital niche, but you’ll need more to make your digital service “sticky” to consumers as they will have plenty of choices.
Porter’s #5 Force – Supplier’s Bargaining Power
The fifth and final of the Five Forces is the bargaining power of vendors. When your suppliers have lots of bargaining power, you are competing more heavily because for resources. If the supply of supplies that your company needs can be increased without you threatening to look elsewhere, then your costs will be higher. The biggest supply cost for most businesses will be their labor supply. If you need to hire skilled computer technicians that are in short supply, then you will need to escalate wages to attract suitable candidates. In the online business world, there’s an unusually high demand for computer programmers and developers. This causes their wages to rise in proportion to their scarcity.
Another aspect of the bargaining power of suppliers includes the share of their business that you have for them. If you are one of their most valuable customers, then you’ll have tremendous bargaining power. However, if you are a small customer for that supplier, you lose any bargaining power that you have. An example of this is when Apple needed faster PowerPC chips from Sony for their PowerMac line of computers. As Apple applied pressure to Sony to increase the clock speeds of their G5 PowerPC processors, Sony was able to brush Apple off as the Playstation dwarfed Apple’s demand in their supply chain. Apple had no choice but to switch to Intel chips for both their desktop and laptop computer lines.
There’s one final thing to look at when it comes to your supplier’s effect on competitive intensity. What if the company that is supplying you with your raw materials or services can themselves create a comparable offering? That means by hiring a product team; they could enter the industry to compete with you. The supplier that had been driving up the competitive intensity of your supply chain costs now has jumped into your ocean. Their existence now increases their bargaining power with you, since they can just keep their inputs for themselves instead of selling them on a wholesale basis to you.
Implementing the Five Forces for Your Company
We’ve gone over the Five Forces of Porter’s model that can raise the costs of digital businesses and make them less competitive. These include
• The competitive intensity of a marketplace.
• The threat of new entrants into a market.
• Bargaining power of buyers, as well as those of-of suppliers.
• The possibility that a consumer will substitute away from your business to a competitor.
If you’re entering a digital industry, you’ll need to tabulate this information as you’re assessing the competitiveness of your marketplace. Look at how many competitors are there in your industry. If it’s a high number, that’s not so promising. But if there’s a small number, that could open up an opportunity. This doesn’t mean that your analysis is done. You still have to gauge how many competitors your industry can handle and how quickly the industry is growing. There may also be cost advantages if it’s easy to enter a particular market. But if you are already in the industry, a little barrier to entry will pose a threat to you. A higher const of entry would help form a protective barrier and give you fewer competitors to compete against.