Continuing with an external analysis
Good day everyone, I hope you’re all doing well and had a great week.
In any project that requires change on a large scale, an inescapable part of that process is the initial diagnostic. I’ve written about the PESTEL tool and how you can use it to analyse the external environment and how the Value Chain helps you understand the component parts of your business and the value each link brings towards your final profit.
In this issue, I continue the diagnostic to better understand the market in which you operate or are targeting. This article assumes you’ve read the previous articles and that you know or have determined your segmentation — the specific, detailed definition of your customers or potential customers. I know it is another blob of theory, but it’s important to start with the fundamentals, whether you’re are digital or not! The digital specific stuff is coming soon, I promise 😄.
On to the issue. Remember you can discuss it on the Slack. Have a good weekend.
Photo by William Iven on Unsplash
When you operate a business, detailed knowledge of the market in which you reside is important to have on an ongoing basis, particularly with Digital Transformation, as by definition, Digital Transformation is constantly evolving.
Digital Transformation more closely resembles a penalty shootout whereby not only the goalposts move, but the participating teams are constantly changing, and the rules of the shootout are modified in relation to the who scored or not, when and how.
The framework I introduce in this issue is, once again from Michael Porter who else? It’s called the Fire Forces Framework, first published in the HBR in 1979 and it is as relevant today as it was then. Broken down into five components the Five Forces Framework (5F) is sometimes used with a 6th component and renamed 5F+1. Here I look at each component in detail.
Threat of new entrants
Unless your business has a serious moat to prevent attacks from competitors, you are under threat. Any market that generates profits for businesses will automatically be subject to the potential threat of a new entrant. In this scenario, there are only two outcomes, either the market expands or is already big enough to support several businesses providing the same products or services, or the competitor will eat away at your market, reducing your profits. If profitability falls to zero, a situation called perfect competition, the industry will eventually cease to exist or run at a bare minimum.
A good example of this effect can be seen in the PC industry. The original IBM PC was a premium device and commanded healthy profits for IBM. The commoditisation of the PC industry — for reasons I’ll not discuss here although suffice to say the widespread availability of designs and OSes played their part — led the industry to the inevitable path of lower and lower costs to the client, which were financed by lower and lower costs of sales (COS) and hence lower and lower quality of the final product.
So, what are some of the threats you need to take into account, and how do you counteract them?
Some markets inherently have barriers to entry — i.e. start-up costs, certifications, regulations etc. — like those of professional services (Lawyers, Accountants for example) and markets where regulation are a necessity. The drug industry is highly regulated for obvious reasons and a recent example of how that industry is ‘protected’ (and rightly so) is the scandal of Theranos (1). The book Bad Blood does a remarkable job of telling the story, thoroughly recommended.
Some industries are approved monopolies, like government institutions, and others just require huge start-up costs. Where Digital Transformation is disruptive is that it enables businesses to start up with much lower costs and have a presence that is comparable even the largest corporation on the planet. If your business is a brick and mortar business you should be examining in detail how new digital businesses might be able to provide the same thing as you, only with lower COS.
Another area to examine is the network effect and the switching costs that businesses like Facebook enjoy. Because of the network effect — all your friends are on it and any new acquaintances are probably on it — Facebook benefits from the fact that you’ll find it hard to quit Facebook because you will essentially isolate yourself. In a less nefarious representation, a business that develops and expands its moat providing value to the customer will reap the benefits of sales and profit.
Threat of substitutes
Any industry has its potential substitutes, for example, the telephony industry started out with landlines, but today’s landscape offers users with alternatives using a different technology, mobile phones using cellular technology and in some cases satellite technology.
When analysing your products and services with respect to substitutes or potential substitutes, a number of factors need to be considered. For example, a buyer’s susceptibility or readiness to purchase a substitute may be based on brand loyalty but legal barriers may exist — think Huawei. The US 5G market is just getting started and built out. Huawei has been outright banned from providing critical infrastructure in the US (and other regions like Australia and Japan) because of its links to the Chinese government.
As in the case of the threat of new entrants, switching costs are to be considered here. In fact, a great example is the ride-hailing services first developed in large US cities, like Lyft and Uber. The existing taxi companies relied too much on the barriers to entry being immutable, regulation. Once regulation allowed for individuals to supply transport services for the general public, their industry imploded. It cost nothing to try an Uber over an existing cab service, in fact in most cases it was cheaper and faster. The average percentage of riders waiting less than 5 minutes for a traditional taxi was around 37%, with Uber that figure jumped to 90% (2).
Bargaining power of customers
The bargaining power of customers is best understood as the power consumers of the product or service have to put the business under pressure. The antidote businesses employ to counter this pressure are designed to reduce buyer power and often imply sophisticated fidelity programs, increasing value for the customer and other moats as describes above. The thing to remember most is that a customer who has many choices is a powerful customer.
Things to consider from a digital perspective are those factors that influence your potential buyers’ decision to purchase from you or not. Unfortunately, in a digital world selling purely digital goods, your competition is international by definition. Customers are inherently more powerful than say a small shop in a village all alone where customers have but no choice than to frequent it. If you are selling physical goods using online methods, considering the value you bring to your customers, your differentiation vis a vis the competition and the impact of your COGS amongst others is important to analyse and determine. The Value Chain analysis can help you do this, particularly if you extend the analysis beyond your business, by understanding where you fit in a large value chain of goods and services.
Bargaining power of suppliers
Just like the bargaining power of customers, it’s best to think of suppliers in terms of their potential to exercise pressure on your business. It’s additionally important to define what suppliers are should be included in this analysis. Suppliers are not just the distributor from whom you purchase your raw materials or packaged goods for resale, your suppliers are also your employees who supply services for a price (often intangible like working conditions, work hours, holiday days etc.). Many of the same factors discussed above are just as relevant here, however, you need to look at them from the supplier perspective.
Competitive rivalry
Now that I’ve discussed the factors that influence the specific market being analysed, the competitive rivalry is fairly simple to determine by using the knowledge gained above we can determine for example, how many competitors there are in the market, their relative power, whether the market can support multiple rivals or just one monopoly, whether the moats are deep and wide or shallow and narrow. As an overview, it should tell you about the attractiveness in your market. If you’re thinking of opening a general store on a strip mall of general stores (an extreme example I grant you) it should be obvious that the competitive rivalry is going to be intense, and don’t forget will almost certainly entrain the death of one or more general stores in the same area. Alternatively, if your product or service is sufficiently distinguished and the business model adapted to provide value for the customer with relatively few or no competitors, the rivalry is low to inexistent. But beware! I mentioned in the opening, things change, and with Digital Transformation, things change fast. This analysis needs to be kept up-to-date frequently.
The +1 — Public Powers
Although mentioned in the threat of new entrants and substitutes, public powers, i.e., the state and its various structures that may make it more difficult for you and your competition to operate. The food industry is a good example where state laws about the cleanliness, the cold chain and other rules ensure safety for the consumers but inversely put up barriers to entry for potential businesses. These legal constraints should be separated from the powers and threats as they are not dependent upon the industry and can change for political reasons and not necessarily other concerns. Keeping them in mind when analysing your market can help you identify potential future risks, just look at the Uber/Taxi business mentioned above.
Last Word
Remember, the forces being exerted on each of the above components can be both positive and negative. If you, for example, are an incumbent in the telephony industry and government regulations are strengthened, your first thought may be that it is an inconvenience and a cost for you, but deeper analysis will probably show that it is even more of a difficulty for potential competition and will defect strengthen your position. The GDPR regulations will do nothing but strengthen Facebook’s position. I’ll not do a deep dive as to why, suffice to say that GDPR requires infrastructure and software development beyond the means of smaller social networks, thus making Facebook even more resistant to competition.
Diagrammatically represented, the Porter 5F model typically looks like this:
As ever, feel free to use this as a starting point for your own analysis, or call me.
Reading List
Pros and cons of countries going cashless - ICT Pulse
Photo by Gerd Altmann on Pixabay
A good article on the strengths and weaknesses of a cashless economy. Michele Marius’s site is a great resource to get an overview of what iOS happening in the ICT world in the Caribbean. She additionally has a podcast and I will be a guest on it in the near future. I’ll link to it once it is released.
5G is here! Can it deliver on Affordable Access to close the digital divide? - Web Foundation
Talking about substitutes in the Porter 5F model, 5G could be considered a substitute for traditional broadband services using ADSL. The promise of 5G is faster speeds, lower latency, better density (a big problem for 3/4G) and further distance coverage. This article looks at its impact in developing regions and how it may or may not help those regions catch up or even surpass the existing infrastructures in developed regions. I’m sceptical, but admit the potential is there.
Photo by Mario Caruso on Unsplash
A 'Blockchain Bandit' Is Guessing Private Keys and Scoring Millions - Wired
A fascinating story of the theft of “secure” blockchain protected cryptocurrencies.
Bednarek tried putting a dollar's worth of ether into a weak key address that the thief had previously emptied. Within seconds, it was snatched up and transferred to the bandit's account. Bednarek then tried putting a dollar into a new, previously unused weak key address. It, too, was emptied in seconds, this time transferred into an account that held just a few thousand dollars worth of ether. But Bednarek could see in the pending transactions on the Ethereum blockchain that the more successful ether bandit had attempted to grab it as well. Someone had beaten him to it by mere milliseconds. The thieves seemed to have a vast, pre-generated list of keys, and were scanning them with inhuman, automated speed.
Photo by Stanislaw Zarychta on Unsplash
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1 No, not Thanos!
2 Source: Hit Refresh
