Porters Five Forces 16

PORTER'S FIVE FORCES

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Introduction

In the following paper, I have analyzed the oil industry based on the framework of Porters five forces. Subsequently, the focus is made on the most significant forces in the industry. Eventually, the issue of an outside-in approach has been considered.

Undertake a Porters Five Forces Analysis for an Industry

The oil and gas industry is one out of the industries that face a mounting pressure. This is because the demand for these products continues to rise each passing day (Yeomans 2004). However, the industry is organized as an oligopoly. Producers work together to control the output levels (Simmons 2005). The oil and gas resources are exclusively held by the few countries across the world. Although the deposits of these two resources are big, an act of operating a structured approach under the OPEC platform implies that the conventional wisdom of the prices could come down and may not apply (Shirin 2004). Up until the disappearance of the Gulf Oil, the oil industry had been dominated by seven major players. The group was led by Shell and Exxon (Shirin 2004). The other key players in the industry are those shown below. image1.png

Based on the above graph, the number of players remains small. Although other players have entered the industry, the rest continues to remain small. In practice, few players operate like a monopoly; although the market structure is oligopolistic. Going by global markets trends, the levels of competition are small. This is partly because the cost of entering the industry remains restrictive (Fleig 2005). Thus, the industry is able to remain an exclusive place for few players. In such a scenario, the players have much power which they use to control other stakeholders especially consumers (Hansen & Wernerfelt 1989).

The preference for the oil and gas exploration industry is based on the nature of operations. As indicated above, oil and gas are in the huge levels in few countries the deposits are being found (Gordon 2005). Thus, the expectation is that the prices should decline despite the fact that the demand continues to rise (Barnett, Greve and Park 1994). However, the OPEC group has allowed the countries having the resources to operate like a cartel (Yergin 2003). Consequently, the industry players have been able to benefit much to the chagrin of\ customers. Hence, I am primarily choosing the industry for the analysis given the unconventional manner in which it operates. Similarly, the industry is of the primary importance to life. The energy sector is highly critical to say the least. This is because every other sector of the economy depends on the energy sector. As a result, the industry is of much interest. Closely related to the importance of the energy sector, it is also necessary to highlight that in the recent past issues concerning a climate change has assumed an added significance due to devastating effects of the phenomenon (Sobel 2000). Oil and gas are the major contributors, since they are used as the key sources. However, they are non-renewable. Thus, focusing on the industry is significant. Another critical aspect rests on the need to apply the five forces of Porter while analysing any industry. In my assessment, the industry offers a perfect case to apply the Five Forces of Porter.

Strategy is also an important tool in the field of business. It has a huge linkage to Porters analysis (Grant 2000). Strategy refers to the process of combining the goals and objectives of the entertainment industry, particularly in New York, into one comprehensive plan. The strategy is usually drawn from the market research of a prospective company. It is geared towards attaining a maximum profit potential (Mintzberg 1994). Strategy is also based on general activities the firm puts into practice in order to ensure the entertainment industry is flourishing. The basics of strategy as a process require the executive personnel as well as the workers to be responsible and committed to their tasks. This helps to realize the positive growth in the entertainment industry (Porter, 1980).

Porters Five Forces

A Threat of New Entrants

The danger posed by the entry of new entrants remains relatively low in the industry. This is due to the barriers for the entry such as the high costs associated with the capital, economies of scale, proprietary technologies, distribution channels, geopolitical factors, and etc. (Okada & Adelman 2012). In brief, new entrants require large sums of money to join the industry. Thus, it is extremely hard for new players to enter the market.

Business Rivalry

Business rivalry centers on the nature and the extent of competition (Ginsberg 2006). The business is commodity-based, an aspect that heightens the levels of competition. Other industries such as those that supply energy, fuel and chemicals also add to the levels of competition (The Wall Street Journal 2012). However, the growth rate of the industry is approximately two percent (Halliday 2005). This means that there are no threats to the opportunity. Furthermore, in a commodity-based market, industry players derive a competitive edge by producing at lower rates (Levinthal & Myatt 2006). Since significant competitors, which include BP, Royal Dutch Shell, Conoco Philips, and Chevron are fewer, business rivalry is relatively low.

Supplier Power

Oil drilling and extracting firms are the primary suppliers of the companies involved in the industry (Gordon 2005). The supplier power is high in this sphere since OPEC is in charge of up to forty percent of the world oil (The Wall Street Journal 2012). This gives the organization much influence in regards on the control of the oil supply. The influence of OPEC is a threat since the firms in the industry buy oil and gas in an open market platform (Tolf 1976). Further, the countries that host the company are unstable. Hence, there is a threat to the company on this front.

Buyer Power

There are two main consumers of the industry's products. They include industrial and individual consumers. Industrial consumers have the low power. Similarly, individual power is low based on the high levels of demand for oil and gas products. Projections also reflect that the demand for oil products would continue to rise (The Wall Street Journal 2012).

A Threat of Substitutes

In each industry, substitutes pose a threat (Snow & Hrebiniak 1980). However, in the oil industry, such threats are limited. They only come from nuclear, biomass, solar, geothermal, wind and hydroelectric sources of power (Okada & Adelman 2012). These sources of power do not present a major threat to the industry for now. However, the developments in processing of coal might present a major challenge to the industry.

Which Are the Most Important Forces that Affect the Oil and Gas Industry?

Deciding that the force has the highest relevancy in the industry is quite intriguing. This is because each force has a considerable weight regarding how business is being conducted. By virtue of this, the implication is that each force has a considerable effect on profit margins. However, keeping the profitability in mind, the Threat of Substitutes and Supplier Power are deemed to wield the considerable influence as implied by Prahalad and Hamel (1990).

Although all five forces are significant, the relevancy is that they hold in different industries varies. In order to establish the most significant forces, a more critical review of these forces is necessary. The first force is Barriers to Entry. It is clear that the easier entry into the industry is, the higher the levels of competition are (Mintzberg & McHugh 1985). The aspects that prevent firms from entering the sphere are viewed as barriers. Barriers in any industry include: prevailing loyalty to current brands, shopper programs, high initial and fixed costs, the resource scarcity, high costs of switching providers, government restrictions, and etc. (Porter 1996).

In the case of the oil industry, there are thousands of companies across the world. Despite the presence of several companies, the entry costs remain prohibitive. Moreover, issues such as the location affect the barriers for an entry. For instance, some pumping trucks which are necessary in the well sites are costly. Other sites of the industry need some highly specialized employees to operate the equipment as well as make some drilling decisions. The implication is that the barriers to entry are high in such an industry. As already pointed, although there is the competition in the industry, the levels are low as the industry works like an oligopolistic market. Thus, this force is significant in assessing the sphere.

Supplier power is equally critical in the analysis of industries (Porter 1980). As indicated above, supplier power rests on the pressure that suppliers are able to exert on business. In practice, when one or few suppliers have a big influence, the effect will be felt on the companys volumes as well as its margins (Henry 2008). The primary reasons why suppliers have the power are detailed below. The first one is based on the presence of fewer producers of this product in question. The second aspect is based on the absence of substitutes. Closely tied with the absence of substitutes is the notion of the fact that switching between products could be expensive (Porter 1980). The other major reason is that the product has a high demand. Similarly, the idea that suppliers have more power than producers influences on the state of affairs.

Whereas there are many oil and gas companies across the globe, in truth, the oil and gas industry are both under the dominance of few powerful companies (Yeomans 2004). This is closely based on the fact that large amounts of investments are required to enter the industry. The implication is that competition in the industry is at minimal levels. Keeping the number of entrants low is an influential factor in terms of profits. Thus, a low entry rate implies that existing firms would continue enjoying the prevailing benefits associated with a big market share.

It is notable that the oil and gas industry is aptly reflective of the supplier power force. In the industry, there are few suppliers; the product has fewer substitutes which also is very expensive. Besides, the product is very critical as it is highly demanded. Based on this account, the power of suppliers force is among the most influential in the industry. By controlling the supply line, industry players are in the position to maximise their profits.

image2.png

Based on the graph, the supplier power is concentrated among few regions. The situation is made worse basing on the fact that there are few firms dealing with drilling or exploration.

Another force that I consider very critical is the availability of substitutes. As explained earlier, the chances that a consumer switches to another product are significant. The chances of switching between or among the products rest on the cost of switching. Switching products could affect the profitability since sales would decline if the number of substitutes is high. When the cost of switching is low, there is a serious threat. Few factors are known to affect substitutes. The primary issue is the comparability. For instance, a substantial rise in the price of tea could herald the switching to its consumption owing to their similarities. The presence of a similar product could be viewed as a new entrant into the industry.

In the oil and gas industry, substitutes include coal, solar power, hydroelectricity, nuclear energy and wind power. However, oil and gas have more uses as they are also used in the production process of various products. Thus, the realization that oil and gas are difficult to substitute has paved way for the enjoyment of much power by dealers in the industry. For instance, firms dealing in seismic drilling face relatively no threat from substitutes (Gordon 2005). In my assessment, the force is not very critical in the industry analysis. This force, alongside buyer power is ranked low. This is because buyers have no power in the industry. Starkly put, buyers need the product. Similarly, the absence of ready substitutes coupled with a high cost of switching between or among the products implies that buyers have a very limited power. When buyers have the limited power, industry players are able to manipulate prices. Thus, it is possible for firms to maximise profits.

The Outside-in Approach to Strategy Formulation

Strategic formulation refers to planning which is a primary aspect that each organization has to consider (Grant 2000; Mintzberg 1994). Primarily, strategic planning determines the direction that an organization takes towards achieving its desired objectives by developing a competitive edge (Prahalad 1993). Despite the fact that the approach must be taken, difficulties often emerge in regards to the best way (Hofer & Schendel 1978). Put frankly, no one knows the best way to achieve business goals. There are so many approaches that organizations employ in pursuing their goals. The approach that works well for the organization A may not achieve the same results for the organization B. Thus, the question regarding what the best approach is remains elusive. For instance, there is no outright preference for either an outside-in strategy or an inside-out strategy (Buzzell & Gale 1987). The outside-in strategy is based on focusing the customers (Hamel & Prahalad 1993). The outside-in strategy is mainly contrasted with the inside-out strategy. The inside-out strategy centres on a focus of the strengths or weaknesses of an organization (Bowman 2008).

Based on the outside-in strategy, competitors are not the only source of the current competition since competitors continue to emerge each day (Jay 2002). The implication is that whatever happens outside a firm has a consequence in the operations of firms. Put differently, outside events shape the organizations. Thus, the outside-in strategy is significant as it allows firms to use what is happening outside to formulate its strategy. The outside-in strategy focuses on how the degree of risk that the organization is willing to take (Teece 1980).

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Risks are the opportunities to businesses (Hamel & Prahalad 1993). This is reinforced by the notion that organizations take risks because they pursue the growth, survival and prosperity all the time. The fact that the business environment keeps changing all the time presents a challenge. To respond to these challenges, organizations have to re-invent themselves continuously. Thus, organizations using the approach are in the forefront by seeing changes, looking at the customers needs in order to adapt to the emerging trends.

Accountability is also an element of the outside-in approach. The notion looks how individuals in business take their responsibility over the decisions they make regarding the certain issues. For instance, a manager in a power and electricity company should be careful with the process of decision making. This is because it affects the business along with the adjacent community. The decision to set up a power company near any school may have some drastic effects on students or patients due to the several risks involved. Such firms apply the outside-in approach and locate their firms far from the societal vicinities.

The outside-in approach is also centred on a herding instinct. This is the desire to kowtow to the opinions of other firms in the market. Unless the advising firm carries a bad reputation with it, any firm has some time to heed to the advice (Pitts & Stotler 2007). Herding helps the one to avoid mistakes as well as be updated with the modest technology. An emerging trend in business needs the one to follow a herd in decision making. This process is hard since most people consider themselves as the best decision makers. Once one gets the results, he determines whether the decision has been worth made.

The outside-in approach also looks at the cases of a public opinion and tries to solve them (Hill & Westbrook 1997). For instance, a fast food industry could be willing to solve any cases of defamation from the public on the hygiene of their food. This is due to the adverse effects such as a bad reputation that has to the progress of their business (Hill & Westbrook 1997).

Based on the views of critics, the adoption of the inside-out strategy has its shortcomings. Thus, it may not be a better alternative to the outside-in strategy. For instance, the strategy is associated with unresponsiveness (Pettigrew 2004). In this regard, organizations that use the approach are often too slow to respond to changing circumstances within markets. However, this does not imply that the outside in strategy is without its flaws. It is criticized as it often allows organizations to delve so much into the results delivery to appease shareholders.

Given the current times, being good as the competition is, might not be good enough (Mintzberg 1985). This is because organizations need to embrace strategies that make them better than their rivals significantly. Thus, an organization that adopts the inside-out strategy is under the obligation to review its strengths as well as weaknesses. In this regard, the company must consider where it is more efficient in terms of either producing or selling. After identifying the strengths, the organization focuses on producing the products that have an advantage. In addition, the company employs heavy marketing practices in order to sell products.

It is argued that an inside-out approach works well where the markets are fairly well developed. In such markets, the needs or wants of consumers keep changing. For instance, the hotel and restaurant industry is subject to slow changes. When the industry is subject to slow changes the implication is that companies involved have the time and resources to focus on the research leading to technological improvements.

On the other hand, the inside-out strategy is believed to work well when organizations focus more on the internal aspects. This is possible when firms overestimate their strengths. Similarly, firms could suffer if they underestimate their weaknesses. Moreover, if the company underrates the strengths of competitors, there is a possibility that the failure could occur. The slow nature of responding to changes is likely to predispose a firm to being outcompeted as it could lag behind other industry players. The inside focus could imply that there are some possibilities that the firm could miss the developments taking place outside the industry.

The inside-out strategy entails the identification of the firms abilities before creating and offering the products based on strengths. The strengths must be employed in a manner that other firms are unable to match. Upon launching the approach the firms staff should find a way to find customers to purchase the new products. In the oil and gas industry, firms do not use customer reviews in making some production decisions since competition is quite low.

Apart from using the outside-in and the inside-out approaches, the SWOT analysis is considered as a good alternative in a strategy formulation. The SWOT analysis offers a useful tool that guides in understanding the strengths and weaknesses and identifying opportunities as well as threats that the business faces (Hill & Westbrook 1997). In a business environment, Hill & Westbrook (1997) have observed that the SWOT approach is critical as it helps in carving a sustainable niche.

The SWOT is instrumental in uncovering opportunities that the organization could exploit (Hill & Westbrook 1997). However, in business ventures, one needs to understand the weaknesses that could possibly undermine the pursuit of opportunities (Hill & Westbrook 1997). By envisaging the opportunities and understanding the entity's weaknesses and strengths, it is possible to counter threats to the business. Similarly, the framework is useful to the entity that seeks to differentiate itself from the rest in the market. Thus, it allows the firm to work out a framework that is used to progress.

Strengths are the advantages that the organization boasts over its rivals ((Hill & Westbrook 1997). Equally significant, a comparative advantage signifies strength. A unique brand name would also serve as the strength. On the other hand, the weaknesses of the organization would include the areas that require an improvement or some aspects that should be avoided (Hill & Westbrook 1997). Opportunities represent the favorable conditions or attributes that the organization could spot. Finally, a threat is an obstacle that is likely to undermine the organization from achieving its goals. The SWOT is, thus, a critical framework that could guide assessments into the performance of organizations.

Conclusion

The outside-in strategy recognizes that existing competitors are not the only source of competition as new competitors continue to emerge. This implies that whatever happens outside, the firm has a consequence on the operations of companies. Thus, outside events shape organizations. In this regard, the outside-in strategy is significant as firms that use the approach are able to know what happens outside. This helps to formulate successful strategies. Based on this paper, the outside-in approach is preferable in the circumstances where competition is stiff and consumers preferences keep changing. However, using the approach alongside the inside-out and the SWOT analysis is critical in the strategy formulation.

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