Michael Porter’s framework describes an industry as being influenced by five forces: buyer power, supplier power, threat of substitutes, threat of new entrants and the degree of rivalry between existing firms within the industry. A strategic business manager can use Porter’s model to more clearly understand the industry environment in which its firm operates and to therefore develop a competitive edge over rival firms.
After analyzing the carbonated soft drink, ready-to-eat breakfast cereal and specialty coffee industries using this framework, I found that the three industries were very similar in their degree of bargaining power among suppliers, threat of substitutes and most importantly, the degree of rivalry among existing firms. However, the three industries varied in their degree of buyer power and threat of new entrants. The bargaining power of the buyers in the soft drink industry differs from the power of the buyers in both the ready-to-eat cereal industry and the specialty coffee industry.
Specifically, the power of the buyers in the cereal and coffee industries can be classified as low; whereas in the carbonated soft drink industry it is more moderate. In the ready-to-eat cereal industry, the three major cereal manufactures “accounted for 59 percent of 1993 ready-to-eat sales by volume” in the massive eight billion dollar industry. Because of the enormous amount of money in the industry and therefore the large amount of money that the three major firms brought in for grocery stores, grocery stores had no choice but to stock cereal on their shelves.
Furthermore, due to factors such as brand loyalty, consumers were willing to pay a premium price for these branded cereals. For example, cereal prices rose 15. 6 percent between 1990 and 1993 “compared to a 5. 9 percent increase in overall food prices. ” (Corts, 5). This apparent consumer insensitivity to price kept the negotiating power of the buyers to a minimum and allowed the industry to thrive. Similarly, loyalty to high-quality specialty coffee and the ability of the firms within this industry to differentiate themselves from the basic coffee industry, allowed the specialty coffee industry to flourish.
As the Starbucks case specifically states, research “found that once a consumer learned to appreciate a high-quality specialty coffee, he or she did not go back to his or her favorite average quality brew. ” (Kachra, 3). Lastly, the major firms in the ready-to-eat cereal industry and Starbucks in the specialty coffee industry took control of their distribution/ retail channels through some form of forward integration. Ultimately, the bargaining power of the buyers in these two industries was extremely low, if any at all.
On the other hand, the power of all of the buyers in the carbonated soft drink industry was not so limited. The buyers with the most bargaining power in the carbonated soft drink industry were those with national or local fountain accounts. According to Cola Wars Continue: Coke and Pepsi in 2006, “Competition for national fountain accounts was intense; and CSD companies frequently sacrificed profitability in order to land and keep those accounts. ” (Yoffie, 4).
Additionally, there was intense competition among firms for prime shelf space in supermarkets, the soft drink industries main distribution channel, which did give this buyer some negotiating power. However, another buyer, the bottlers, had very little bargaining power; which ultimately causes the buyer power in the industry to be classified as moderate. The increased power of the buyers in the carbonated soft drink industry hindered the ability of the firms within this industry to set the price of their goods, relative to the ability of the firms in the specialty coffee and ready-to-eat breakfast cereal industries.
The threat of new entrants is classified as low in both the carbonated soft drink and breakfast cereal industries. In the carbonated soft drink industry, the main barriers to entry are the capital requirements for bottling plants, access to distribution channels and high brand loyalty to Coke and Pepsi. According to the Cola Wars case, a bottling plant could cost as much as 75 million dollars and “Coke and Pepsi each required close to 100 plants to provide effective nationwide distribution. ” (Yoffie, 3).
Additionally, Coke and Pepsi have deals with many distribution channels; such as cooperative merchandising agreements and franchise agreements with their bottlers that forbids the bottlers from carrying “directly competing brands. ” (Yoffie, 3). These agreements limited the ability of new entrants to utilize the distribution channels that would make them successful in the industry. Lastly, Coke, Pepsi and Cadburry Schwepps claimed about 89. 3 percent of the soft drink industry, with Coke and Pepsi accounting for the majority.
The ability of a new entrant to wedge itself between these highly established branded firms and their loyal consumers is nearly impossible. Likewise, brand loyalty to the major firms in the ready-to-eat cereal industry was strong as these companies alone accounted for 59% percent of the industries’ sales by volume in 1993 and for about 86 percent of market shares in the industry. (Corts, 2). Also similar to the carbonated soft drink industry are the rest of the major barriers to entry in the ready-to-eat cereal industry: capital requirements, access to distribution channels and economies of scale.
The high barriers to entry in these two industries have allowed the major competitors to thrive without any real fear of a new company coming into the industry, outperforming them and taking away their profits. On the other hand, “given the low barriers to entry in the retail specialty coffee market, there were more than 3,485 competitors” at the time the Starbucks case was written several years ago. There was also room for about 6,500 more specialty coffee retail shops in a short two year span, with thousands more likely to pop up in the years following the case study.
The high threat of new entrants makes pricing more competitive among the firms within the industry. Additionally, a firms desire to differentiate its product relative to its current and future competitors is greatly increased. Starbucks, for example, attempts to differentiate itself from other specialty coffee retail shops by selling an “experience” rather than a good and by creating an image of Starbucks as a “third place” rather than a normal coffee shop. They also put a great deal of effort into perfecting their signature roasting and blending method.
By doing this, Starbucks believes that they are ensuring “that even if a roaster were to defect to another competitor, he/she would not be able to duplicate Starbucks’ signature roasts. ” (Kachra, 10). Lastly, it is important to note that the degree of rivalry was high in the carbonated soft drink, ready-to-eat breakfast cereal and specialty coffee industries. Throughout the years, the competitive margin between Pepsi and Coke has narrowed and the race was extremely close at times.
The two firms competed using lower prices, by offering larger bottles and as a result of the declining consumer demand for carbonated soft drinks, they compete by using various marketing techniques and on innovation. As an example of an aggressive marketing campaign, Pepsi made its motto “Beat Coke” at one point, which clearly demonstrates the high degree of rivalry between the two firms. Although Coke and Pepsi offer similar products, they do each have certain competitive advantages.
For example, they each use different distribution channels to sell their products: Pepsi focuses on sales through retail outlets while Coke concentrates on fountain sales. They even create contracts with national franchises in order to control which brand the franchise are allowed to sell at their restaurants and food chains. All of these competitive strategies, although often very aggressive, allowed for a healthy rivalry leading to profitability for both Coke and Pepsi. Similarly, the high degree of rivalry between the three major firms in the ready-to-eat breakfast cereal industry was constructive for the competing firms.
For example, the ready-to-eat cereal industry is a very advertising intensive industry: media expenditures alone topped 800 million dollars in 1993, which was a quarter of all food industry advertising. This intense level of advertising is one of the leading reasons why the established firms and industry itself are so profitable. Although the degree of rivalry among firms in the specialty coffee industry is not quite as high as in the carbonated soft drink and breakfast cereal industries due to the novelty of the industry, it is still fairly high.
As discussed earlier, the way in which Starbucks differentiates itself from its competitors is what helps Starbucks maintain their competitive position within the industry. Lastly, in all three industries the bargaining power of the suppliers is low, which allowed the firms within the industries to have control over raw material prices, quality and so forth. For example, in the carbonated soft drink industry, Coke and Pepsi have Master Bottling Agreements that severely limit the control of their bottlers.
In the specialty coffee industry, “Exporters of high quality coffee were very anxious to become Starbucks suppliers because Starbucks purchased more high quality coffee than anyone else in the world. ” (Kachra, 9). Additionally, the three industries are all classified as having a low to moderate threat of substitutes. For example, with consumption of carbonated soft drinks falling in recent years, it would seem logical that substitutes such as coffee, beer or wine might replace soft drinks.
However, Americans still drink carbonated soft drinks more than any other beverage. This low to moderate threat of substitutes in the industries required the firms within the industries to constantly try to differentiate their products in order to create a competitive advantage and minimize the true threat of substitutes. Ultimately, the carbonated soft drink, ready-to-eat breakfast cereal and specialty coffee industries are all extremely profitable and the major firms within the industries will continue to sustain profitability.