Porter’s Five Force Model Usage by MNCs

Porter’s five force model is a strategic tool that is used in analyzing an industry. Michael Porter developed this model while working as a Harvard Business School professor in 1979. Through Michael Porter’s five competitive forces, it is possible to analyze the competitive forces that drive competition and thereby determine the profit potential of a certain industry.

The five forces of competition used in Porter’s five force model look beyond the direct competitors of a company at multiple other aspects of the industry including the industry’s economic environment and the structure of competition, buyers’ bargaining power, suppliers’ bargaining power, the ease of entry of new entrants and the availability of substitute products (Kretschmer, Miravete, & Pernias, 2009). The main concept is to analyze each of these aspects and determine how much they influence the competitiveness of the industry. For multinational companies (MNCs), it is vital to understand the five aspects of Porter’s model in order to remain relevant to its market. This paper analyzes the five forces of Porter’s model and seeks to identify how they are important prior to, during and after entry into a foreign market.

Risk of entry by potential competitors

A company that intends to enter into a market must first analyze the easy of entry into that market. If the market is easy to enter, then the company would be more willing to enter. There are various concepts that surround the ease of entry (Brennan & Brennan, 2008). These include economies of scale, brand loyalty, absolute cost advantages, and customer switching costs. These factors have different levels of relevance to a multinational company when it is exploring, entering and servicing a new market.

For a company that is joining a new market, it seeks to ensure that it can takeadvantage of the new market. It checks to ensure that these factors are in its favor before entering the new market. During entry, it ensures that the conditions do not change and that it can still take advantage of the situation. Finally, after it has entered a new market, it attempts to make sure that the cost of entry of new competitors is high.

Economies of scale: Companies that have a big market share are able to take advantage of economies of scale as a consequence of a) being able to obtain raw material in bulk at a wholesale cost, b) having advanced technology which helps in the improvement in more economic processes, c) saving on marketing and advertisement base on the ability of the company to produce large volumes and d) saving on cost due to the ability of the company due to production of standardized product in mass (Brennan & Brennan, 2008).

A company that is entering into a new market can take advantage of each one of these factors by coming in with advanced technology and with more reliable machinery. The company that is already in the market can take advantage of this option to increase its market share hence reducing the cost of advertising per unit product (Kretschmer, Miravete, & Pernias, 2009). A company that is exploring the market compares its cost of production and considers if it is capable of competing with competitors who offer the same product at a far reduced cost. If possible, the company can look at options of exploiting this opportunity in the future.

Brand loyalty: Brand loyalty occurs consumers have a preference for a product that is produced by a certain company. A company enjoys brand loyalty after extensive advertisement, patenting its products and product innovation (Ormanidhi & Stringa, 2008). If one of the competitors enjoys brand loyalty, then entering companies may not be able to get a sizeable market share.

For an entering company, it would be important to compare its products with those of the competitors. For large companies, entry would be easy as they would most likely be able to produce better quality products at lower rates and would have the funds to advertise extensively.

Customer switching costs: In some markets, the cost of changing from one brand to another may usually be too high. The cost may be monetary or take other forms (Brennan & Brennan, 2008). Telephone providers have found it difficult to enter new markets as customers do not want to pay installation fees for new providers or have to change their numbers.

If the company finds high switching costs in an industry, then it may make up for the cost by providing free installation and providing better quality. It may also buy out smaller companies so that customers do not have to change their equipments (Tavana, 2013). A company can also avoid entering into the market if the cost of switching is too high or offer the products at a significantly low cost hence making the switching costs negligible.

Bargaining power of buyers

Buyers may be the direct users of the product or the distributors or retailers of the product. The bargaining power of buyers includes their capacity to demand for lower prices and for better products. By bargaining for better prices and higher costs of production, buyers can squeeze the profit margin in an industry. Companies that have a capability to make large purchases are able to ask for lower costs (Kretschmer, Miravete, & Pernias, 2009).

For a company that is entering the market, it would first be important to determine how strong its main customers are able to bargain. If the buyers are far larger than the company, then it may be forced to yield to their demands and sell cheaper products (Dess, 2012). If there are numerous suppliers of the product and the buyers are large, then the market has a big competitive threat that may prevent the growth of the entering company.

Google Inc. for example experiences fields of consumers who have a high bargaining power. If the consumers feel that Google is charging too high for its products, they could move to other products (Ormanidhi & Stringa, 2008). Its main products are internet based services like the Search Engine and mail. The company makes money by using adverts that are hosted by its websites. If consumers decided not to use it, it would lose its market share to other companies like Yahoo.

De Beers is a good example of how a company can control the buyer’s bargaining power. At one point, the demand for diamonds was very high. The company increased the supply of the products. When the company produced diamond jewelry at very high prices, buyers stopped buying their products. The company thereby then flooded the market. It did not lower the prices. Instead, it lowered the supply so that demand would remain high. The bargaining power of the buyers has ever since remained low (Tavana, 2013).

Bargaining power of suppliers

When a multinational company is venturing in a new market, it must be aware of who the major suppliers will be. If the supplier is very powerful, then it may ask for very high fees for his products (Brennan & Brennan, 2008). The company is then with no option but to make very low profits or increase the prices of customer goods.

Toyota Motor Corporation chooses to use multiple suppliers for each of its products. This implies that those suppliers who want to charge very high prices are threatened with being replaced. This is what happens with multinational companies. Since they are huge, they may consider either producing their own components hence doing away with the need for suppliers. Before entry, MNCs require to research on the suppliers to see if they can obtain their components and raw materials cheaply (Dess, 2012). If not, MNCs have several options during entry. First, the company can use its other suppliers to supply in its current market. Second, it can make its own components or create sourcing mechanisms. Finally, the company may acquire a supplier.

During the occupation of the market, the company should make steps to make sure that it maintains a bargaining power of its suppliers. This can be done through acquisitions, through sourcing from various suppliers and through creating its components if required.

Threat of Substitutes

Companies entering into a market need also to explore the threat of substitutes. Substitutes are products that would offer the same benefit as the company’s product. The higher the number of substitutes a product has, the more its demand is likely to become elastic (Dess, 2012). A product with an elastic demand is not guaranteed to maintain its demand if the company changes its value. The company’s profitability is therefore threatened by the number of substitutes.

A company that is considering entering a market should consider the number of substitutes its products have. It should also consider the prices at which the substitutes are being offered. In cases where the substitutes are offered at a lower price, only consumer loyalty and product quality can save the MNC (Ormanidhi & Stringa, 2008). Sometimes the substitutes can be of better quality, the company suffers increased pressure to increase the quality of its products.

At the point of entry, the company may consider increasing the quality of its products to surpass that of its competitors. The consumer may also consider lowering the quality and the price of its products to win a bigger market share. In most cases however, an MNC considers advertising the competitive advantages of its products.

Competitive Rivalry

An entering MNC requires analyzing the rivalry that exists between its competitors. If the competitors work very strongly to keep their market share, an entering company should be ready to do the same to win a significant market share (Dess, 2012). For this reason, the company should be ready to offer the product that will enable for advertising while at the same reserving a profit and not becoming unreasonably expensive compared to the rest of the market.

The rivalry of competitors raises the prices of advertising, downward pressure on prices, higher advertising, more innovative products from competitors, and more product improvements. A monopolistic company earns the most profits while a perfect competition model earns the least profits.

A MNC that is considering entry into a highly competitive environment should be prepared to handle the competition. This can be done through quality improvement and advertising. The company should employ the maximum potential to dominate the market (Dess, 2012). Multinational companies are often favored by this as they have better quality products, have more funds to put into advertising and have a more trusted brand name that may be renowned even in the new market. These factors increase the chances of success of the company in the new environment.

Once a company has entered its new market, it is necessary for it to maintain its relevance by continuing with advertising. The company should also put more funds into brand improvement, innovation and quality improvement (Schank, 2006). It should also ensure that it understands its competitors to ensure that there are no surprises. The current mobile handset industry is a good example. Mobile handset companies like Apple and Samsung have to keep introducing new and more superior products into the market to increase the competition of the market. Companies also keep analyzing each other’s products to ensure they understand the innovations behind them.

Conclusion

For a company that is considering entering into a new market, research of the market is vital. It enables the company to make an informed choice in the process. Once research has been done, the company should identify its competitive advantages and take advantage of them. Once this has been done the company should strive to stay ahead of the competition by offering better products at reasonable prices (Schank, 2006). MNCs have an advantage over other companies since they have a superior infrastructure. In most cases, they have a higher capability to bargain. For that reason, they most often find competition easier than smaller companies. It would however be necessary for them to remain above the rest of the competition by exploiting their full potential.

References

Brennan, R., & Brennan, R. (2008). Contemporary strategic marketing (1st ed.). Houndmills, Basingstoke, Hampshire: Palgrave Macmillan.

Dess, G. (2012). Strategic management (1st ed.). New York: McGraw-Hill/Irwin.

Kretschmer, T., Miravete, E., & Pernias, J. (2009). Competitive pressure and innovation complementarities. Working Paper.

Ormanidhi, O., & Stringa, O. (2008). Porter’s model of generic competitive strategies. Business Economics, 43(3), 55–64.

Schank, J. (2006). Acquisition and competition strategy options for the DD(X) (1st ed.). Santa Monica, CA: Rand Corp.

Tavana, M. (2013). Competition, strategy, and modern enterprise information systems (1st ed.). Hershey, Pa.: Business Science Reference.