1 Industry Analysis  Basic econ conditions determine industry structure SCP model of firm performance Industry structure => firm conduct => Firm performance

2 Defining the relevant market : Sunscreen lotions One basic system was the Standard Industrial Classification (SIC) 2-7 digit 2,3: manufacturing 28: Chemical products 284: cleaning and toilet products 2844: Perfumes, Cosmetics, and other toilet preparations 28445: Glamorous toilet preparation market

3 Porter’s five forces model Rivalry among competing firms Barrier to entry (threat of new entrants) Supplier power Buyer power The threat of substitutes

4 Barriers to entry For a potential new entrant, the cost of entry depends on the existence and height of barriers to entry  size of payoff Decision trees and entry barriers:  expectations of incumbent reactions  costs of failure (exit cost)

5 Threat of new entry The existence of first mover advantage

6 Threat of new entry Incumbents are eager and able to attack High cost of failure

7 Supplier power Indicators of threat of suppliers in an industry Suppliers are a credible threat to integrate forward into the buyers’ industry. suppliers’ industry is dominated by a small number of firms satisfactory substitute products are not available to industry firms industry firms are not a significant customer for the supplier group suppliers’ goods are critical to buyers’ market success. Suppliers’ goods are highly differentiate and have created high switching costs for industry firms.

8 Buyer power Buyers threaten backward vertical integration Indicators of buyer power in an industry Number of buyers is small Product sold to buyers are undifferentiated and standard Products sold to buyers are a significant percentage of a buyer’s final costs. Buyers are not earning significant economic profits

9 Presence of substitutes Changes in consumer tastes often lead to an increased threat of substitutes Substitutes can ultimately replace an industry’s products and services Cross elasticity of demand

10 Rivalry among competing firms Coordination among firms in an industry reduces the intensity of competition large number of competing firms that are roughly the same size Herfindahl-Hirschman index = 10000*∑Si^2 (where Si is the market share of the i firm)  Concentration ratio: C4: the percentage of the total industry sales or employment accounted for by largest 4 firms in that industry)

11  information exchange: pre-announcing price changes, trade association institutional mechanisms can improve the ability of firms to coordinate through information exchange and incentive management  Incentive management: best price provisions.

12 Conducting industry analysis with Porter’s five forces model identifies the forces that help explain the average level of performance in an industry.

Another force: complementors For example, Microsoft and Intel 13

14 Opportunities in industry environments Fragmented industries:  Industries where a large number of small firms operate (e.g., commercial printing)  few barriers to entry, or need for local control Emerging industries  Newly (re)created industries

15 Opportunities in industry environments  Divestment (quick withdrawal) mature industries declining industries  Slowing industrial demand growth, overall reduction in profitability (e.g., fast foods, auto)  Declined in sales over a period of time (e.g., defense industries), overcapacity in mfg and distribution  leadership strategy (become a market share leader to facilitate other firms’ exit)  niche strategy (reducing the scope)  harvest strategy (long, systematic, phased withdrawal)

16 Opportunities in industry environments  Winner-take-all strategy Network industries (increasing-return industries)  The value of a product or service depends on the number of products or services being sold