Michael Porter's 1979 framework uses concepts developed in IO economics to derive 5 forces that determine the attractiveness of a market. Porter referred to these forces as the microenvironment, to contrast it with the more general term macroenvironment. They consist of those forces close to a company that affect its ability to serve its customers and make a profit. A change in any of the forces normally requires a company to re-assess the marketplace.

Four forces -- the bargaining power of customers, the bargaining power of suppliers, the threat of new entrants, and the threat of substitute products -- combine with other variables to influence a fifth force, the level of competition in an industry. Each of these forces has several determinants:

• The bargaining power of customers
  • buyer concentration to firm concentration ratio
  • bargaining leverage
  • buyer volume
  • buyer switching costs relative to firm switching costs
  • buyer information availability
  • ability to backward integrate
  • availability of existing substitute products
  • buyer price sensitivity
  • price of total purchase
• The bargaining power of suppliers
  • supplier switching costs relative to firm switching costs
  • degree of differentiation of inputs
  • presence of substitute inputs
  • supplier concentration to firm concentration ratio
  • threat of forward integration by suppliers relative to the threat of backward integration by firms
  • cost of inputs relative to selling price of the product
  • importance of volume to supplier
• The threat of new entrants
  • the existence of barriers to entry
  • economies of scale
  • proprietary product differences
  • brand equity
  • switching costs
  • capital requirements
  • access to distribution
  • absolute cost advantages
  • learning curve advantages
  • expected retaliation
  • government policies
• The threat of substitute products
  • buyer propensity to substitute
  • relative price performance of substitutes
  • buyer switching costs
  • perceived level of product differentiation
• The intensity of competitive rivalry
  • power of buyers
  • power of suppliers
  • threat of new entrants
  • threat of substitute products
  • industrial growth
  • industry overcapacity
  • exit barriers
  • diversity of competitors
  • informational complexity and asymmetry
  • brand equity
  • fixed cost allocation per value added

This 5 forces analysis is just one part of the complete Porter strategic system. The other elements are strategic groups (also called strategic sets), the value chain, the generic strategies of cost leadership, differentiation, and focus, and the market positioning strategies of value based, needs based, and access based market positions.

Criticism and Extensions

Porter's framework has repeatedly been challenged by other academics and strategists. Kevin Coyne and Somu Subramayam have stated that three dubious assumptions underlie the five forces: that buyers, competitors, and suppliers are unrelated and do not interact and collude; that the source of value is structural advantage (creating barriers to entry); and that uncertainty is low, allowing participants in a market to plan for others behavior. An important extension to Porter was found in the work of Brandenburger and Nalebuff in the mid-1990s. Using game theory, they added the concept of complementors, helping to explain the reasoning behind strategic alliences.

External links

• Porter's Five Forces (http://www.quickmba.com/strategy/porter.shtml)

References

• Porter, M. (1979) "How competitive forces shape strategy", Harvard Business Review, March/April 1979.
• Porter, M. (1980) Competitive Strategy, The Free Press, New York, 1980.