Subject 2. Factors, not forces
Industry Growth Rate
A fast growth industry does not necessarily mean it is an attractive industry. Suppliers and buyers can be powerful in such an industry, and new entrants and good substitutes can be attracted to bring down the profit potential.
Technology and Innovation
Industry profitability is not a function of what the product looks like, or whether it embodies high or low technology but of industry structure. Some very mundane industries such as postage meters and grain trading are extremely profitable, while some more glamorous high technology industries such as personal computers and cable television are not profitable for many participants.
The government is sometimes referred to as the sixth force in the Porter's Six Forces model if the government has the potential to impact on all the other five forces, whether favorably or unfavorably. It should be noted, however, that government involvement is neither inherently good nor bad for industry profitability.
Complementary Products and Services
One school of thought looks at the sixth force to be complementors, which are businesses offering complementary products to the sector in focus and being analyzed (Grove 1996). The author states that these complementary businesses, as a sixth factor, affect the industry as changes in these businesses (such as new techniques, approaches or technologies) can impact on the dynamics between the industry and the complementors. However, complements don't affect industry profitability directly: they do so through the way they influence the five forces.
Practice Question 1To evaluate an industry's long-run profit potential, a strategist should focus on:
I. The power of buyers and sellers.
II. The industry growth rate.
III. The threat from existing competitors, substitutes and potential new entrants.
IV. The government.
V. Technology and innovation.Correct Answer: I and III
A strategist should focus on five forces (I and III) instead of fleeting factors (II, IV and V).
Practice Question 2Which industry is always attractive?
I. A fast growing industry.
II. An industry with advanced technology.
III. An industry with strong complements.Correct Answer: None of them
I. Such an industry may attract powerful buyers, sellers, newcomers and good substitutes.
II. Advanced technology does not make an industry structurally attractive.
III. Complements don't determine the profit potential of an industry directly.
Practice Question 3Complements can have either positive or negative impact on:
I. The power of buyers.
II. The power of sellers.
III. The threat of substitutes.
IV. The existing competitors.
V. The potential new entrants.Correct Answer: All of them
Complements can have either positive or negative impact on all five factors.
Practice Question 4A high industry growth rate can potentially:
I. put suppliers in a powerful position.
II. draw in new entrants if the entry barriers are low.
III. put customers in a powerful position.
IV. draw in attractive substitutes.
A. I, III and IV
B. I, II and III
C. I, II, III and IVCorrect Answer: C
Fast-growing industries are not always attractive.
Practice Question 5According to Porter, government involvement is ______ for industry profitability.
A. inherently good.
B. inherently bad.
C. neither inherently good nor bad.Correct Answer: C
A strategist should analyze how specific government policies affect the five competitive forces.
Practice Question 6Several visible attributes of an industry include:
I. The power of buyers and sellers.
II. Industry growth rate.
IV. The power of substitutes.
A. II and III
B. I and IV
C. I, II, III and IVCorrect Answer: A
I and IV are part of an industry's underlying structure.
Practice Question 7Which government policy is inherently good for industry profitability?
B. A government policy that favors unions.
C. Bankruptcy rules that allow failing companies to reorganize rather than exit.Correct Answer: A
B may raise supplier power and C may intense rivalry.
Practice Question 8The presence of complements can:
I. raise or lower entry barriers.
II. make substitution easier or harder.
III. make buyers stronger or weaker.
A. I and II
B. I and III
C. I, II and IIICorrect Answer: C
Complements affect profitability through the way they influence the five forces.
Study notes from a previous year's CFA exam:
2. Factors, not forces