Porters 5 Forces Analysis - Understanding Rivalry © jeff Miles Business Doctor Secrets

A Porters 5 analysis focuses on five factors: rivalry, threat of substitutes, buyer power, supplier power and barriers to entry. Today we will focus on one of these five factors: rivalry.

Rivalry

Traditionally, competition among rival companies can cause price wars and a race to the bottom that drives profits to zero. Now firms strive for a competitive advantage over their competition. The degree of the intensity of rivalry among firms varies from one industry to another. Strategic analysts that use SWOT and Porters 5 analysis are interested in these differences.

Economists measure rivalry by certain indicators. The Concentration Ratio (CR) is one of the indicators and is reported by the bureau of census.  The CR indicates the percent of market share held by the four largest companies.

A high concentration ratio means that a high concentration of market share is held by the largest companies. In other words, the industry is concentrated and possibly saturated. With only a few firms holding a large market share, the competitive landscape is more like a monopoly.

A low concentration ratio means that the industry has many rivals and none of them has a significant market share. These are called fragmented markets and are thought to be competitive. The concentration ratio is not the only measure of rivalry.

If the competition among companies in an industry is low, the industry is considered to be "disciplined."

When a competitor acts in a way that triggers a counter-response by other firms, rivalry intensifies. In pursuing an advantage over its rivals, a firm can choose from several competitive moves:

•     Changing prices - raising or lowering prices to gain a temporary advantage.

•     Improving product diversification - improving features, implementing innovations in the manufacturing process and in the product itself.

•     Creatively using channels of distribution - using a distribution method that is unique to the industry. For example, when high-end jewelry stores did not want to sell Timex watches so Timex moved into drugstores and other stores and dominated the low to mid-price watch market.

•     Exploiting relationships with suppliers - for example, from the 1950's to the 1970's Sears, Roebuck and Co. dominated the retail household appliance market. Sears set high quality standards and required suppliers to meet its demands for product specifications and price.

The intensity of rivalry is influenced by the following 10 factors:

1.  A larger number of businesses increase rivalry because more companies have to compete for the same customers and resources. The rivalry intensifies if the firms work in the same share of the market.

2.  Slow market growth causes businesses to fight for market share. In a growing market, firms can improve revenues simply because the market is expanding and they don't have to fight with competitors as much for market share.

3.  High fixed costs increase rivalry. When a company has mostly fixed costs, the company must produce high quantities to obtain the lowest unit cost. As a result the company has a large amount of inventory which leads to an increased need for market share. The result is increased rivalry with everyone trying to sell their large amount of inventory.

4.  High storage costs and/or highly perishable products require that a business sell goods as soon as possible. If other producers are attempting to quickly sell their products at the same time this increases competition.

5.  Low switching costs can increase rivalry. When a customer can freely switch from one product to another there is more competition because it's easier to lure a customer when there is less loyalty.

6.  A low level of product branding is associated with increased rivalry. Strong brand identification, however, increases loyalty and decreases competition.

7.  Stakes are high when a firm is losing market position or has potential for great gains. This increases competition because the firm will try to mount a comeback.

8.  High exit barriers mean that there is a high cost on abandoning the product. The firm must compete. High exit barriers can sometimes cause a firm to remain in an industry, even when the venture is not profitable. A common exit barrier is asset specificity. When the plant and equipment required for manufacturing a product is highly specialized, these assets cannot easily be sold to other buyers in another industry.

Litton Industries' acquisition of Ingalls Shipbuilding facilities illustrates this concept. Litton was successful in the 1960's with its contracts to build Navy ships. But when the Vietnam War ended, defense spending declined and Litton saw a sudden decline in its earnings.

As the firm restructured, divesting from the shipbuilding plant was not feasible since such a large and highly specialized investment could not be sold easily, and Litton was forced to stay in a declining shipbuilding market.

9.  A diversity of rivals with different corporate cultures, histories, and philosophies can make an industry unstable. Mavericks can come onto the scene and make business decisions without proper analysis. 

As a result of upsetting the market in this way, rivalry can become intense as competitors respond to these maverick strategies.

The hospital industry is an example of an unstable industry. In one community you can see different types of hospitals with different philosophies: for-profit hospitals, university hospitals, hospitals affiliated with religious or charitable institutions.

This sometimes leads to intense struggles between the hospitals over who will get expensive diagnostic equipment, etc. There can also be disagreement about how to respond during emergencies and times of crisis.

10.       Industry Shakeout. A growing market and the potential for high profits attracts many new companies and motivates existing companies to increase their production. Eventually the market becomes crowded with competitors supply exceeds demand.

There are too many products and not enough consumer dollars to go around. The growth rate may slow as the market becomes saturated. A shakeout will occur and this creates price wars, intense competition and company failures, leaving only the strongest companies.

Bruce Henderson created the Rule of Three and Four which states that a stable market does not have more than three main competitors. The largest competitor will have no more than four time times the market share of the smallest.