Note on the Structural Analysis of Industries

The essence of formulating competitive strategy is relating a company to its environment. Though the relevant environment is very broad, encompassing social as well as economic forces, the key aspect of the firm's environment is the industry or industries in which it competes. Industry structure has a strong influence in defining the competitive rules of the game as well as the strategies potentially available to the firm. Forces outside the industry are significant primarily in a relative sense; since outside forces usually affect all firms in the industry, the key is whether firms have differing abilities to deal with them. The intensity of competition in an industry is neither a matter of coincidence nor bad luck. Rather, the nature of competition in an industry is rooted in its underlying economies and goes well beyond the established competitors already there. The state of competitioa in an industry depends on five basic competitive forces, which are shown in Figure A. The collecive strength of these forces determines the uitimate profit potential in the industry, where profit potential is measured in terms of return on invested capital. Not all industries have equal potential. They, Hiffer fundamentally in theix ultimate profit potential as the collective strength of the forces differs; the forces range from intense in industries like tires, paper, and stecl, where no firm eams spectacular returns, to relatively mild in industries like oil field cquipment and services, cosmetics, and toiletries, where high returns are quite common. This note will be concemed with identifying the key structural features of industries that determine the strength of the competitive forces and hence industr profitability. The goal of competitive strategy for a business unit in an industry is to find a position in the industry where the company can best defcnd itself against these forces or can influence then in its favor. Since collective strength of the forces may well be painfully apparent to all competitors, ihe key for the strategist is to delve below the surface and analyze the sources of each. Knowledge of these underlying sources of competitive pressure highlights the critical strengths and weaknesses of the company, animates the positioning of the company in its industry, clarifies the areas where strategic changes may yicld the greatest payoff, and highlights the places where industry trends promise to hold the greatest significance as either opporturities or threats. Understanding these scuurces will also prove to be useful in considering areas for diversification, though the primary focus here is on strategy in individual industries. To avoid needless repetition, the term "product" rather than "product or, service" will be used to refer to the output of an industry, even though both product and service businesses will be considered. These principles of structural analysis apply equally to preduct and service businesses. Ascociate Profossor Michacl E. Porter propured this note as a basts for class discriesisn. The note is chapter orte of. Competitive Strategy: Techniquer for Analyzing Industries and Competitory (New Yorki The Free Preso, 1950), which contains a comprehtensive frammworkfor analyzing competition and formulating comphtitive slrategy. Copyright 91975 by the President and Fellows of Harvard College. To order copies or requect perainaton to reproduce materials, call 1-800-545-7685 or write Harvard Business School Pul lishing, Boston, MA 02163. No part of this publication may be reproduced, stored in a retricval system, used in a spreadsheet, or transmitted in any form or by any means-clectronic, mechanical. photocopying, recording, or otherwise-without the permission of Harvard Business School.

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