Understanding Industry Structure and Cola Wars

Shaping industry structure

a strategic action mgrs take when looking at industry structure exploiting structural change is recognizing and reacting to the inevitable. Co.s can shape industry structure. Co. can lead its indsutry toward new ways of competing that alter five forces for better. innovator can benefit more by shifting competition in directions where it can excel. All competitive forces are subject to influence. Ex) to neutralize supplier power, co.s can estblaihs clear stds for producing inputs, sponsor second source suppliers, or backward integrate into production of some inputs. To counter cust power, co.s can enhance services that raise switching costs. Product features can be designed that open up more distance from subs or establish weapons other than price as basis for competition. To scare off entrants, co.s can raise FC of competing by escalating R&D costs. improving industry structure requires resources, credibility, power that only large players have. Theres a bad side to shaping industry structure. ill advised changes in practices and ways of competing can undermine industry structure instead of improving it. Facing pressures to gain mkt share or with innovation for its own sake, mgrs can spark new kinds of competition that no co. can win.

Exploiting industry change

a strategic action mgrs take when looking at industry structure industry change brings opportunity to spot and claim promising strategic new positions. ex) rise of dells direct distrb model in personal computer industry exploited number of industry trends. An increase in cust knowledge of Pcs led to more corp custs to want unique specs and not require 3rd party resellers. increasing reliance on standardized and modular inputs w/ declining prices, opened opportunity for Dell to build customized computers to order. Strategists need sophisticated understanding of competitive forces to access opportunities by industry change. ex) internet would remove distrib of music as barrier to entry unleashing new players in music. Since digital distbr became issue, new music lables have been rare and number of record co.s has declined from 6 to 4 today. This isnt to say that music industry is unchanged by digital distrb. Piracy and downloading created illegal but potent subs. Labels tried to develop technical platforms but no rival wanted to sell music thru these platforms. Apple created itunes.

Industry growth rate

industry attribute that affect competition mistake is to assume fast growing industries are attractive industries. Frowth does tend to mute rivalry bc expanding pie offers opportunities. The full effect of growth depends on how growth influences overall industry structure. Fast growth can put suppliers in powerful position and high growth w/ low entry barriers will draw in entrants. Even w/o new entry, high growth rate doesnt guarantee profitability if custs are powerful or subs are attractive. ex) personal computer business has been least profitable industries in recent yrs.

Government

industry attribute that affects competition government involvement inst good or bad for industry profits nor is it understood as sixth force. instead its effective to analyze specific govt policy to see whether it improves or undermines industry structure. Either effect is possible. ex) patents raises barriers to entry, boosting industry profits. govt policies favoring unions may raise supplier power and diminish profit potential. Bankruptcy rules allow failing co.s to reorganize rather than exit can lead to excess capacity and intense rivalry. Best way to understand how govt influences competition is to analyze how present govt policies affect competitive forces.

the role of complementary products/services

industry attribute that affects competition often industrys product/service is used together w/ others produced by diff industries. Computer software and hardware for ex are valuable together and worthtless separated. Personal digital assistants are valuable on their own but their value is enhanced by thousands of apps that 3rd party developers create. When value of two products together is greater than sum of each products value alone, we say theyre complements. - complements important in affecting demand of product. Some co.s partner with other firms to produce complementary products. - complements have ambiguous effect on industry structure. theyre neither bad or good for profits. it depends on how they influence the 5 competitive forces. - effective strategists look for opportunities to alter condition sin complementary industries in their favor by boosting demand, improving overall structure, or advancing firms relative standing w/in its industry.

Industry Structure

is manifested in strength of 5 competitive forces, determines an industrys long run profits bc forces shape division of value among industry actors- whether profit constrained by subs or new entrants, bargained by custs or suppliers, or competed away by rivals. Attentin to long run industry conditions rather than fleeting factors; this is reflected in profitability over business cycle not in a single yr.

The power of customers

one of porters 5 forces powerful custs can force down prices, demand higher qlty, or more service, and play competitors off against each other all at expense of industry profits. Customers are powerful if: 1) have clout relative to industry participants, 2) they emphasize price reductions as means to exercise clout.

Rivalry among existing Competitors

one of porters 5 forces takes familiar forms such as price discounting, new product introductions, ad campaigns, service escalation, etc. Degree to which this undermines an industrys profit potential depends on basis on which co.s compete and on intesity w/ which they compete. Price is typically most destructive basis of competition for profitability. Price reductions transfer profits directly from an industry to its custs, and theyre easy for competitors to see and match, making successive rounds of retaliatory cuts more likely. Also, competition on services or features allow industry competitors to support good margins.

Threat of New entrant

one of porters 5 forces new entrants to an industry bring new capacity and desire to gain mkt share. This threat puts a cap on profit potential of an industry. When threat is high, profits cant rise too high w/o attracting new competitors such as those diversifying from other mkts bc can leverage existing capabilities to shake up competition, as microsoft did when it entered the mkt for internet browsers. This depends on barriers to entry and on reaction from existing competitors that entrants can expect. If entry barriers are low and newcomers expect little retaliation from competitors, threat of entry is high and industry profitability moderated.

Threat of Substitutes

one of porters 5 forces substitutes are easy to overlook bc may look diff from industrys product: ex) someone looking for fathers day gift, neck ties and power tools may be substitutes. Substitutes nearly always exist. One substitute is to do w/o a product, and another is for custs to perform a service for themselves. Subs limit an industrys profit potential by placing a ceiling on prices that co.s in industry can charge. An industry must distance itself from subs via performance or mkting or it will suffer earnings and growth. the more attractive is price performance trade off offered by sub products the tights is the lid placed on industrys profit potential. ex) sugar producers learned lesson w/ high fructose corn syrup. Subs reduce chaos an industry can reap in good times while constraining size of industry. ex) suge in demand of wired telephone lines was capped as custs opted for mobile telephone their first and only phone line. Subs that deserve most strategic attention are 1) those that are subject to trends improving their price performance trade off w/ industrys product or 2) produced by industries reaping high profits that may erode w/ competition.

The power of suppliers

one of porters 5 forces suppliers can exert bargaining power by raising prices, shifting costs downstream to industry participants, or limiting qlty of goods and services they provide. Powerful suppliers can squeeze profitability out of industry thats unable to pass on cost increases in its own prices. ex) Microsoft has contributed to erosion of profitability among personal computer makers by raising prices on operating systems. The PC makers, competing for custs who can switch among them, have limited freedom to raise their prices accordingly. An industry will depend on multiple groups of suppliers, including suppliers of labor. The power of each important supplier group depends on number of structural characteristics of the industry.

Restrictive government policy

one of sources of barriers to entry govt can limit or foreclose entry via controls such as license requirements, patent protection, foreign investment barriers, and limits on access to local raw materials sources. ex) liquor and taxi industries are regulated in most developed countries. subtle restrictions on health care and coal mining. Govt can hieghten barriers indirectly thru controls such as pollution and safety regulations, which raise stds newcomers need to meet. *govt can also make it easier by funding research and making it available to all firms

Unequal access to distribution channels

one of sources of barriers to entry newcomer must secure distribution of its product/service. Ex) a new food item must displace others from supermkt shelf via price breaks, promotions, intense selling efforts, or some other means. The more limited wholesale or retail channels are and more that existing competitors have tied them up, tougher entry into industry will be. sometimes access to distribution is high barrier so new entrant has to create own distribution channels. ex) upstart low cost airlines in europe avoided distribution thru travel agents, who tend to favor established higher fare carriers, and have encouraged passengers to book their own flights via internet websites.

supply side economies of scale

one of sources of barriers to entry the economies arise when firms that producee at larger volumes enjoy lower costs per unit bc spread FCs over more units, employ more efficient technology, or command better terms w/ suppliers. This deters entry by forcing co. to come in at large scale or to accept cost disadvantage. ex) scale economies in research, production, consumer mkting, and OEM sales are barriers to entry in microprocessor industry, protecting incumbents such as Intel. Economies of scale can also arise in logistics, finance, and information tech infrastructure.

capital requirements

one of sources of barriers to entry the need to invest large financial resources in order to compete creates a barrier to entry. Capital may be necessary for fixed facilities and cust credit, invtrys, and start up losses. High barrier if capital is required for unrecoverable expenditures such as up front advertising or R&D. While major corps have financial resources to invade almost any industry, huge this in certain fields, such as mineral extraction, limit the pool of entrants. In tax preparation services, in contrast, this is minimal and threat of potential entrants is high. *if industry returns are attractive and if capital mkts are efficient investors will provide entrants w/ funds they need.

customer switching costs

one of sources of barriers to entry these are FCs that buyers face when they change suppliers.. They may arise bc buyer who switches vendors must alter product specs, retrain employees to use new product, or build up new procedures or systems. The larger these costs are, the harder it will be for an entrant to gain custs.

demand side benefits of scale

one of sources of barriers to entry these benefits aka network effects arise in industries where buyer's willingness to pay for co.s product increases w/ number of buyers who patronize co. Buyer trust larger co.s more for crucial product. Buyers also value being in "network w/ larger set of fellow custs. ex) ebay offers more potential trading partners. ex) microsoft windows -users prefer this bc other users have windows and they want to be compatible with them. - this source discourages entry by limiting willingness of custs to buy from newcomer and reducing price the newcomer can command until it builds up large base of custs.

incumbency advantages independent of size

one of sources of barriers to entry these co.s may have cost or qlty advantages not available to new entrants no matter their size. These advantages can be proprietary technology, access to best RM sources, govt subsidies, favorable geographic locations, or cumulative experience that has allowed current co.s to learn how to produce efficiently. Sometimes such advantages are legally enforceable as they are thru patents.

Changes in industry structure

shifts in industry structure come from outside an industry due to technological, cust or other developments. Choices or innovations from within the industry culminate in a new structure. Sometimes industry structural change boosts proft of an industry or reduces it. 5 competitive forces provide framework for identifying those industry developments that are most important for anticipating their impact on industry attractiveness. these include: 1. shifting threat of new entry 2. Changing supplier power 3. changing buyer power 4. shifting substitution threat 5. New bases of rivalry

industry attributes

these are looked at to assess industry competition. They can be highly significant, but significance depends on effect on competitive forces. They include: 1. industry growth rate 2. government 3. technology and innovation 4. role of complementary products and services

shifting threat of new entry

under changes in industry structure - changes to any of 7 barriers can raise or lower threat of new entry. ex) expiration of patent may unleash new entrants. Products in ice cream industry has filled up limited freezer space in grocery stores making it harder for new ice cream makers to gain access to distribution in N. america and Europe. - strategic decisions of leading competitors often have major impact on threat of entry. ex) walmart, kmart, and toys r us began to adopt new distribution and invtry control technologies w/ large fixed costs including automated distbr ctrs, bar coding, and point of sale terminals. These investments increased economies of scale making it hard for small retailers to enter business and for small players to survive.

changing supplier and buyer power

under changes in industry structure as factors underlying supplier and buyer power change w/ time, their power rises or declines. ex) global appliance industry, competitors including electrolux, GE, and whirlpool have been squeezed by consolidation of retail channels (decline of specialty stores and rise in big box retailers like home depot). At same time, rising global demand for appliance grade steel, driven by thing like growth in china has made suppliers more powerful in the short run.

shifting substitution threat

under changes in industry structure most common reason that subs become more or less threatening over time is advances in technology create new subs or shift price performance comparisons in one direction or another. ex) microwave ovens, were large and priced over $2000 making them poor subs for conventional ovens. W/ technological advances, theyre now subs. Flash computer memory improved recently to be sub for low capacity hard disk drives.

New bases of rivalry

under changes in industry structure rivalry intensifies over time. As industry matures, growth slows. Competitors become more similar as industry conventions emerge, technology diffuses, and consumer tastes converge. Industry profitability falls, and weaker competitors are driven from business. This story has been played out in many industries like tvs, snowmobiles, aerosol packaging, and telecommunications equip. Its not inevitable that industries trend toward more intense rivalry and price based rivalry. Mergers and acquisitions can alter nature of rivalry. ex) mergers with exxon and mobil have raised concerns among consumer advocates and some policy makers about possibility of muted competition. Technological innovation is another factor in reshaping rivalry. ex) in retail brokerage industry, beginning of internet triggered far more intense competition on commissions and fees than in past.

A customer is price sensitive if:

under power of customers if... - products it purchases from industry represent a fraction of its cost or expenditures. Buyers likely to bargain for favorable price, as consumers do for home mortgages. When product is small fraction of costs then less price sensitive - cust group earns low profits, is strapped for cash or is under pressure to cut purchasing costs. Highly profitable/cash rich buyer = less sensitive. - when qlty of buyers' products or services is little affected by industry's product, highly sensitive. Where qlty of buyers products is very affected by industrys product, buyers are less price sensitive. ex) buying prodution qlty cameras, makers of motion pics look for vendors w/ qlty and reputation. - buyers overall costs arent significantly affected by the industry. where an industry's product can pay for itself many times over, buyer is interested in qlty than price. ex) logging bus of oil wells, where accurate survey can save thousands of dollars in drilling costs, and in services such as investment banking and accting, where poor performance can be costly and embarrassing.

The supplier group is powerful if:

under power of suppliers if... - its more concentrated than industry it sells to. ex) microsoft is close to a monopoly in operating sys - industry participants face switching costs in changing suppliers. ex) might have invested in specialized equip or in learning how to operate suppliers equip. Or may have connected their production lines to suppliers mftring facilities. When switching costs are high, industry participants find it hard to play suppliers off against one another, and suppliers are positioned to extract profit from industry. - suppliers offer products that are differentiated. ex) pharmaceutical co.s have power over hospitals bc of diff drugs - there are no substitutes to what the supplier provides. ex) pilots union have supplier power bc ther are no good alternatives to well trained pilot - supplier group can threaten to integrate forward into the industry. ex) if industry participants make too much money relative to suppliers, they will only induce suppliers to enter mkt - supplier group doesnt depend heavily on industry. Suppliers serving many industries wont mind extracting max profits from each one. if industry accts for large part of suppliers volume/profit, they will want ot protect it thru reasonable pricing and assistance in acts like R&D and lobbying.

Intensity of competition is greatest if:

under rivalry among existing competitors if... - competitors are numerous or equal in size and power. Rivals find it hard to take away business. W/o industry leader, practices desirable for industry go unenforced. - industry growth is slow. Causes fights for mkt share. - exit barriers are high. These arise bc of specialized assets or mgts devotion to specific business. These barriers keep co.s competing even thugh they may be earning low or negative returns on investment. excess capacity continues and profitability of healthy competitors suffers as sick ones hang on. -rivals are highly committed to business but have diverse approaches, origins, and personalities. w/ diff ideas about how to compete rivals run head on into each other. Clashes of personalities and egos have exaggerated rivalry in fields such as media and high technology.

Industry analysis/ Porters 5 forces - Soft Drink industry

- ppl dont buy better products, they buy products they tink is better - why is coke and Pepsi making money on sugar and water? to understand, need to look at industry. Central goal is superior long run ROI 1) Barriers to entry 2) threat of substitutes 3) Buyer power 4) Supplier Power 5) Rivalry among competitors

Newcomers are likely to have second thoughts about entry if:

1) incumbents have previously responded vigorously against new entrants 2) incumbents possess resources to fight back, including excess cash and unused borrowing power, available productive capacity, or clout w/ distribution channels and custs. 3) incumbents seem likely to cut prices bc they want ot retain mkt shares bc industry as whole has excess capacity 4) industry growth is slow so newcomers must gain volume by taking it from incumbents. - entry barriers should be assessed relative to capabilities of potential entrants which may be foreign firms in related industries. Strategist must be mindful of how newcomers might find creative ways to surpass apparent barriers

Defining competition

Mgrs concentrate single mindedly on direct antagonists in fight for mkt share that tey fail to realize theyre competing w/ custs and suppliers for bargaining power and theyre battling the threat of subs. A strategist who sees rivalry extending beyond existing competitors will detect wider competitive threats. Also will understand structural underpinnings of each competitive force and will be equipped to analyze threats. Industry structure thinking reveals differences in custs, suppliers, subs, potential entrants, and rivals that demark distinct competitive arenas in which distinct strategies are needed and diff than industry. Think structurally about competition.

Rivalry among competitors

Soft Drink industry, porters 5 forces - Pepsi and coke dont compete on price; nonprice competition - they compete w/ ads, taste tests, shelf space, brand extensions, new pckg - coke bought bottlers for a period of time to better efficiency and then sold it bc they were receiving only 10% while they expect 40% returns. - coke and Pepsi use differentiated strategy so both win - they are able to live together and not take mkt share from each other. - coke can spread costs over gallons of coke they sell - coke owns fountain sales and retail channels - pepsi diversified into other brands and invested Pepsi money to build new brands BE CAREFUL W/ DIVERSIFICATION! - cokes international business is 80%

Buyer Power

Soft Drink industry, porters 5 forces - cust and bottlers are buyers - bottlers have no power - LOW bc high switching costs - bottlers need coca-cola bc negotiates deals for bottlers - coke can cut bottler out or threaten to do so which would be forward integration since coke will go directly to the retailer.

Barriers to Entry

Soft Drink industry, porters 5 forces - established brands like coke and pepsi - economies of scale like advertising efficiencies. ex) have 1 store vs 500 stores and the ad cost = $500. - bottler network- coke has lower cost in bottling - to set up bottling network is expensive. - retail network- hard to get into retailers, retailers use coke and pepsi as traffic builders. Bottlers negotiate w/ retailers - brand equity- The value premium that a company realizes from a product with a recognizable name as compared to its generic equivalent. Co.s create brand equity for their products by making them memorable, easily recognizable and superior in quality and reliability. Mass marketing campaigns can also help to create brand equity.

Supplier Power

Soft Drink industry, porters 5 forces - supplies include bottles, sugar, aluminum, raw materials, high fructose corn syrup. - commodities have huge, intense bidding so low power since theyre commodities

Threat of Substitutes

Soft Drink industry, porters 5 forces - water tea, coffee, energy drinks, organic / sugar, diet, juices - something thats easy to get

positioning the company

a strategic action mgrs take when looking at industry structure industry structure reveals insights for this. Strategy can be viewed as building defenses against competitive forces or finding a position in industry where forces are weakest.

technology and innovation

industry attribute that affects competition these alone arent enough to make an industry attractive or unattractive. the impact of technology on industry attractiveness depends on how tech affects set of competitive forces. Low tech industries are more profitable than sexy industries like software and internet tech that attract competitors.

7 sources of barriers to entry

sources include: 1. supply side economies of scale 2. demand side benefits of scale 3. customer switching costs 4. capital requirements 5. incumbency advantages independent of size 6. unequal access to distribution channels 6. restrictive government policy

industry Analysis/ Porter's 5 forces

to understand industry competition and profitability, one must look beyond their differences and view industries at a deeper level. There are 5 basic competitive forces whose collective strength determine long run profit potential of the industry. Understanding competitive forces and their causes gives strategist way to size up any industry regardless of whether its a product or service, emerging or mature market, high tech or low tech. Analysis reveals roots of industrys profitability while providing framework for anticipating and influencing changes in industry competition (and profitability) over time. 1. threat of new entrants 2. Bargaining power of suppliers 3. Bargaining power of customers 4. Threat of Substitutes 5. Rivalry among existing competitors

customer group price sensitive contd

under power of customers - consumer are price sensitive if theyre purchasing products that are undifferentiated, expensive relative to their incomes, and where product performance has limited consequences. Channels can be analyzed same way, with one important addition. channels gain significant power over upstream mftrs when they influence purchasing decisions of downstream custs, as they do in consumer electronics, jewelry retailing and in agricultural equip distribution. where channels are powerful, exclusive arrangements often arise as producers attempt to lessen their power.

Customer group has power if:

under power of customers if... - its concentrated or purchases in volumes that are large relative to size of single vendor. Large volume buyers are powerful if FCs characterize an industry- as they do in telecommunications equipment, large scale software development and bulk chemicals; this amplifies need to keep capacity filled - industrys products are std or undifferentiated. Buyers believe they can always find equivalent suppliers they tend to play one vendor against another. in overnight delivery, shippers pit UPS, Federal Express, and DHL against another. - buyers face few switching costs in changing vendors - buyers have credible threat of integrating backward to produce industrys product themselves are too profitable. Makers of soft drinks and beer have controlled the power of can makers by threatening to make and making it themselves at times

industry competition gravitates to price if:

under rivalry among existing competitors if... - product lacks differentiation or switching costs. This makes it easy for vendors to shift and competitors believe that modest price cut will bring new custs. ex) airline price wars - FCs are high and marginal costs are low. Creates intense pressures for competitors to cut prices below avg costs, even close to marginal costs to steal custs who make some contribution to FCs. ex) paper and aluminum co.s suffer from this especially when demand slackens. - capacity must be expanded in large increments. Need for this such as in chloride business, disrupts industrys supply-demand balance and leads to periods of overcapacity and price cutting - product is perishable. This creates temptation to price cut and sell product while it still has value. ex) computer models become obsolete quickly, airline tickets, and info may be perishable if it diffuses and loses its value. Indeed, many services are perishable bc unused capacity cant be recovered.

Implications for Strategy

understanding forces that shape competition in an industry is starting point for developing strategy. It reveals most significant aspects of competitive environment and crucial constraints to overall profitability. It highlights industry changes that pose greatest threats and opportunities. industry structure provides baseline for sizing up co.s strengths and weaknesses: where does co. stand vs. buyers, suppliers, entrants, rivals and subs? Also guides mgrs to strategic actions including 1) positioning the co. against current competitive forces, 2) anticipating shifts in forces 3) shaping balance of forces (industry structure) to create new favorable structure or one that favors co.