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The Usefulness Of Porters Five Forces In Analyzing Companies: Part 2

This is part 2 of a two-part series on Porters Five Forces, which is a framework which can be applied to the analysis of companies and industries. You can read Part 1 over here. The remaining two aspects of the framework shall be discussed below.

Bargaining Power Of Suppliers

Investors have to assess if the company in question relies on a few major suppliers, or if they can buy from a wide range of suppliers. Bargaining power of suppliers is said to be strong when a company has only a few suppliers it can buy from, due to the uniqueness of the parts/items being sold or because it may be technically challenging to produce the products or provide such services. Companies may get squeezed by suppliers in such cases as they have few alternatives and no substitutes.

For example, a company manufacturing train car carriages would rely on aluminium suppliers as aluminium is their main raw material. As aluminium is a commodity, this means the bargaining power of suppliers is weak as the company has many suppliers to choose from. If, however, a company relies on a supply of gemstones and diamonds, there may only be a few major suppliers of such products and the company has to accept whatever prices these suppliers dictate.

Bargaining Power Of Customers

The bargaining power of customers describes the ability of customers to put pressure on the company and also measures sensitivity to price changes affecting demand. In a nutshell, buyer bargaining power is higher if customers have access to many choices, usually in a fragmented market which has many players offering a product which is not well differentiated. Firms within the industry have to try much harder to attract customers if their products are very similar, and it is much worse if it is a commodity such that customers are indifferent when it comes to choosing between one company and another. Some companies may have to resort to either price wars or loyalty programs just to attract and retain customers, thus sacrificing precious margins in the process.

If there are fewer firms in an industry, bargaining power of customers reduces as there are less competing alternatives for customers to choose from. The price point and positioning of the product may also affect customer bargaining power, as consumer staples generally enjoy more repeat purchases as compared to discretionary and luxury items.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice.