Industry Analysis: Demand and Competition

Introduction and objectives

• Explores the external environment of a firm, in order to achieve a successful strategy
• Business strategy relates toward strategies for profit
• Notes the primary focus is on industry enviroment

From environmental analysis to industry analysis

• The business environment consists of all external influences affecting a firm's decisions and performance
• Environmental influences can be classified by source (political, economic, social, technological) or proximity (task and macro environments)
• PEST analysis helps identify factors that shape competitive conditions within an industry
• Understanding these forces aids in predicting industry evolution, enabling firms to foresee opportunities and threats

The determinants of industry profit: Demand and competition

• The starting point for analysis is what determines the level of profit in an industry
• Prerequisite for profit is customer value creation
• Value creation alone doesn't guarantee profit because surplus value is spread between customers and producers through competition
• Industry profits depend on product value to customers, intensity of competition, and the bargaining power of producers relative to their suppliers

Analyzing industry attractiveness

• Industry profitability isn't random, but is derived by factors in the industry structure
• Industries like pharmaceuticals have high profitability due to differentiated products, price-insensitive consumers, and patent protection
• Industries like personal computers have cutthroat pricing because of commoditization
• Smaller niche markets support higher profitability, because they are easily dominated by single firms

Porter's five forces of competition framework

• Competition is classified and analyzed using a widely known framework
• Profitability depends on five sources that indicate competitive pressure such as:
  • Competition from substitutes
  • Competition from new entrants
  • Competition from existing rivalry
  • Bargaining powers of suppliers
  • Bargaining powers of buyers
• Substitute products affect prices customers are willing to pay for a product
• The absence of substitutes can cause insensitivity for consumers to product price
• The presence of substitutes can cause customers to switch to a substitute, and lowers a product's demand

The threat of entry

• High returns on capital attract outside firms into industry
• Unrestricted entry of new firms lowers profit rates
• A barrier to entry is advantages existing firms have over new entrants
• The height of a barrier is measured as a cost disadvantage faced by potential entrants

Rivalry between established competitors

• State of overall competition is the level amount of competition among firms within the industry
• Aggressive competition can push prices down below cost with industry-wide losses are incurrent
• Seller concentration refers to the number and size distribution of competing firms within a market

Excess capacity and exit barriers

• Industry profitability drops drastically during recessions
• Balance between capacity and demand is essential
• Unused capacity encourages firms to cut prices to attract new business
• Excess capacity can cause price competition

Bargaining power of buyers

• Firms compete in the input and output markets
• Firms buy markets inputs like raw materials, and financial and labor services
• Firm outputs are goods sold to customers (distributors, consumers, manufacturers)
• Transactions create value for buyers and sellers
• Strength firms faces depends on the customer's price sensitivity and relative bargaining power in markets

Bargaining power of suppliers

• Industry producers/companies are buyers, and input producers are suppliers
• Ease of switching between suppliers and realtive bargaining power are key
• Raw materials, components supplied by small to large companies cause lacking of bargaining power
• Hence, commodity suppliers seek to boost their bargaining power with labour unions or market cooperatives

Applying industry analysis to forecasting industry profitability

• Industry structure drives competition, so that it can be applied to forecasting industry profitability in the future

Defining an industry

• The challenge in analysing an industry is defining it, because different firms supply a market
• A correspondance comes between both, so what's the difference?
• What firms compete to supply what particular product or service?

Complements: A missing force in the Porter model?

• Complements have the opposite effect than substitutes
• The presence of substitutes reduces value of a product, and complements increase value
• Value of a car depends on petrol/fuel, service, car insurances
• Where products are complements, they have less value to customers as the whole system must valued by the customer

Segmentation analysis

• The need deefined is to define industries narrowly or broader depending on the questions being answered
• Processes of partitioning a product based on the characteristics influencing behaviours, and evaluating conditions from the submarkets
• Essential if competition falls across submarkets that are attractive, such as hardcord gamers, casual gamer, and etc

Dealing with dynamic competition

• Using five forces analysis to predict profitability is that the structure if stable, otherwise dynamic forces, innovation, and entrepreneurship transform structure
• Overlaps with industries containing the seeds of their own destruction by drawing incursions from new strategies and products
• Intensity and quick competitive moves requires fast adaptation for companies

From industry attractiveness to competitive advantage

• Five forces allow determination of an industry's potential for profits
• Let's look to sources of competitive advantage
• Need comprehensive analysis of competitive strategy by factors that help succeed

Case Insights:

• Case Insight 2.1: PEST analysis of marijuana industry includes political factors of regulations and licensing, trademark conflicts, as well as economical factors in costs of labor and capital. Social factors include shifting of societal attitudes

• Case Insight 2.2: Substitutes in Colorado Marijuana-growing industry for recreational use are alcohol and other drugs. Licensing requirements represent a barrier of entry into the industry. The number of licenses is likely to create a large rivalry between competitors

• Case Insight 2.3: As time goes on in the marijuana industry, price competition will intensify. Over time a few large players will dominate.

• Case Insight 2.4: Ambitious growers in the marjiuana and retailors may seek to alter industry structure to their own advantage

• Case Insight 2.5: Consumers may substitute for other products for marijuana basis because of price, but resources required to grow are similiar to growing special plants

• Case Insight 2.6: The different strains of marijuana can have different potency and favor. This may need to focus on factors when segment specialists