Harvard Professor Michael E Porter, the world’s top management guru, developed the two most widely acclaimed and influential models for information systems planning and strategic management:
Competitive Forces Model, and
Porter has had a lasting influence on strategic management with the books he authored about the competitive advantages at industry level and global level in eighties. Since then, these models have become a guiding Bible for organisations worldwide.
Porter’s ideas faced some criticism in the last decade-and-a-half due to the development of the new economy, called the Internet economy. Compared to old economy, the conditions to do business have changed fundamentally in the Internet world.
The rise of various e-business applications and various companies relying on Internet for business, knowledge, etc., has strongly influenced all industries.
In the eighties, the economic situation illustrated:
A period of strong competition,
Relatively stable market, and
Changes in technology were not as rapid as today.
In Porter’s model, the focus was on:
Actual situation such as organisation’s relation with customers, suppliers, etc.,
Intensity of competition, and
Predictable developments in areas of new entrants, substitutes, etc.
Porter’s framework relies on developing the competitive advantages from strengthening the parameters within the ‘five forces framework.’ These models do not address today’s dynamic changes that have the power to transform industries.
Three New Forces by Larry Downes
Larry Downes is a consultant, educator and speaker on developing business strategies in an age of constant change caused by information technology. He works with Fortune 500 businesses in a variety of industries, and serves on the advisory boards of several startups. In his article Beyond Porter, the five forces model is no longer viable.
He introduces three new forces that require a new strategic framework and set of very different analytic and business design tools.
Digitalisation: As computing power and communications bandwidth become cheaper, more and more activities move to a digital format. The rise of public networks makes this information more widely available, increasing the possibilities for collaborating and competing.
Downes quotes example of the rise of online shopping malls, operated by telecom operators and credit card organisations. Organisations that use the five forces model and base on thinking strategy of today, would never see changes coming in time. This has been the trend in last couple of years, with improvements in network bandwidth, information is available in digital format and more widely adopted.
Online communication, collaboration, coordination and competition have gained traction and increased the possibilities and strategies for innovation.
Globalisation: The world is rapidly migrating to one very large network (the Internet) whose attraction, based on Metcalfe’s Law, is irresistible. The effects are felt throughout the production and distribution chain, as local businesses become global overnight, customers engage in borderless commerce, and competition kicks into overdrive.
Since the rise of Internet, we are seeing a steep increase in business process outsourcing and IT enabled services such as call centre activities, e-learning, etc. It has improved the distribution logistics. Customers have a chance to shop around and compare prices globally. As a result, local mid-sized companies have to compete in a global market, even though they do not import or export their products and services.
Global and networked markets impose new demands on organisation’s strategies. Competitive advantages emerge from the ability to develop lasting relationships with customers and partners leveraging far-reaching networks for mutual advantage.
De-regulation: The current trend towards deregulation reflects a belief by governments and regulated industries alike that the disease (open, international competition) is better than the cure (laws to protect local economies). The result is a radical shrinking, outsourcing, and restructuring of traditional enterprises.
Countries around the world are going through this phase. For instance, the insurance, telecom, and aviation sectors are de-regulated in India. The energy sector was de-regulated in the United States in 2002, giving rise to competition and good service to consumers.
Downes summarises that the role of IT differentiates strategy of the Porter world and new forces in new world. In the old economy, IT was used as a tool for implementing change. Technology has become the most important driver for change.
Is Porter’s ‘five forces model’ still viable?
In fact, digitalisation, globalisation and deregulation have become powerful forces in last few years. Porter’s models rarely consider Downes’ three forces. Technological progress, especially IT, has influenced today’s market to a great extent. Henceforth, it is not practical and viable to just develop a strategy solely on Porter’s models.
The new economy has transformed from its initial euphoria to a more sustainable economic eco- system. But the speed of technological change and innovation has not slowed down. Economic laws that apply to products and services cannot be simply transferred to the new category called Information goods. The production, marketing, etc., of products and services are different for different categories.
However, I am of the opinion that if one were to base strategy development on few selected models then they are not useful. This was true in the eighties too. Every strategy should base on a careful analysis of all internal and external factors and on their potential future development. This is no new insight.
Further more, we have realised and learnt that the basic laws of economy hold good for the new economy, which is the basis for sustainability of Porter’s ideas. Porter, who is an economist, based the five forces of model on microeconomics. IT just explains microeconomics in a more understandable way.
Porter talks about the attractiveness of an industry that is influenced by the shape of five forces. In economics, the constellation of factors determines issues like profit maximization or supernormal profits.
Mapping Porter’s Five Forces and areas of microeconomics
Porter’s Five Forces —- Areas of Microeconomics
Supplier’s bargaining power — Supply and demand theory,cost
of production theory, price flexibility
Customer’s bargaining power —Supply and demand theory,
customer behavior, price flexibility
Rivalry between Existing players— Number of competitors,
market size, growth
Substitutes Threat —– Effects of Substitution
New Entrants Threat —- Market Entry Barriers
Attractiveness of Industry —- profitability
These laws are unquestionable. In reality, what Porter’s models demonstrate is how the fundamental laws of economics tell the stories of all industries covering all aspects of product/service selling starting by raw-materials supplied by suppliers to manufacturing, to distribution to customers.
Therefore despite all the changes in the industry dynamics and business models — Porter’s ideas are not totally obsolete. Their underlying idea is that every business operates in a framework of suppliers, buyers, competitors, new entrants and substitutes.
This idea is valid in every competition-based economy. Even today, every organisation in the old economy and in the new economy has to produce its goods and services and to sell them by offering an attractive bundle of value for money and supporting services. Every online portal has to produce or buy content, to present it, and to find buyers for its offerings — be it visitors or advertisers.
Hence, organisations still operate in the framework of the five forces described by Porter.
The three forces mandated by Downes made the five forces framework, instable, dynamic and complex.
Even careful market observation cannot foresee all potential new entrants or substitutes that might enter the market virtually overnight, driven by technological progress. Organisations have to adjust their structures, processes, business models and strategies to this new dynamics.
Nevertheless, it is no less important to think about the own bargaining power towards suppliers or customers. The difference is that organisations today have more means to influence competitive forces. Traditional thinking in Porter’s world was largely limited to achieving a better competitive position against other players.
Now it is more important to form collaborations for mutual benefits. This can be ad hoc networks of partners, common standards, strategic alliances and much more in-between.
As a result, Porter’s ideas have become just one tool in a wide array of tool sets available to organisations. This tool is no longer the only or the most important tool. But it is not obsolete either. Rather it should be used in tandem with new and traditional management techniques in order to gain the most comprehensive picture.
It is just that Porter’s models focus too much on economic conditions of the old age. The viability is limited under the transformed business conditions. It is clear that Downes new forces were derived from the transformed economic conditions in a particular era. In next few years or a decade, the three forces would lose some of their importance because other developments would take a driver’s role.
The most sustainable of Downes new forces will probably be digitalisation. Good ‘information’ will become more and more important for any economy. There will be more technological progress in information technology that has the power to transform industries again and again.
Deregulation and globalisation are just temporary drivers. Within a few years, governments will have deregulated everything. Similarly, all companies would adjust their operations to a serve the global economy. Otherwise, companies will have to fear the failure to succeed in the market place.
We are already experiencing this phenomenon. Today, global thinking is fast becoming as standard a management activity as cost control or selling. In all probability, there would not be major transformations from deregulation and globalisation.
Michael Porter’s models will have to be considered for learning how the fundamentals of economies work. Then base the decision to develop the strategy for building and nurturing companies on the forces that drive the economy specific to market, industry and customers.
We should apply the knowledge with their limitations in mind and use them as a part of larger framework of management tools and techniques. I would advise this approach suitable for any organisation’s business model, either new or old economy.