The competitive environment and rivals' strengths and weaknesses
A competitor (rival) is another business trying to win the same customers. The competitive environment is how many rivals there are and how strongly they compete.
- Many rivals โ customers have lots of choice โ firms must keep prices low and quality high.
- Few rivals โ firms have more power over price.
Studying rivals
A firm compares itself with each rival on:
- Price โ who is cheaper?
- Quality โ whose product is better or lasts longer?
- Customer service โ who is friendlier and faster?
- Location โ who is easier to reach?
- Brand and reputation โ who do people trust?
A simple tool is a market map: plot rivals on two features (for example price and quality) and look for a gap. The firm then builds on its strengths and fixes or avoids its weaknesses, or targets a rival's weakness.
Risk and uncertainty
Risk is the chance that something will go wrong, when that chance can be estimated from past data or research. Example: about 1 in 5 new shops in an area closes within two years.
Uncertainty is when the future cannot be predicted at all, so no chance can be calculated. Examples: a sudden new law, a pandemic, a new technology, or a big rival arriving without warning.
Sources of risk and uncertainty for a business
- Competition: rivals cut prices or open nearby.
- The economy: interest rates or unemployment change.
- Customers' tastes change.
- Costs: raw material prices jump.
Reducing risk
- Market research before starting.
- A business plan with a cash-flow forecast.
- Starting small and testing the idea.
- Insurance for risks that can be insured (fire, theft).
- Selling more than one product.
Why entrepreneurs accept risk
An entrepreneur is a person who starts a business and takes the risk of losing their money and time. Why do it?
- Profit: the chance to earn more than a normal wage.
- Independence: being your own boss and making your own decisions.
- Doing what you love: turning a hobby or skill into work.
- Pride and achievement: building something new.
- Helping others: solving a problem in the community (a social enterprise).
The key idea: entrepreneurs believe the possible reward is worth the risk. Higher risk usually comes with a higher possible reward.
Porter's five forces
Porter's five forces is a tool for judging how attractive (profitable) an industry is. Each force is a pressure on profit.
- Rivalry among existing firms: many similar rivals โ price wars โ low profit.
- Threat of new entrants: if it is cheap and easy to start up (low barriers to entry), new firms join and share the profit. Barriers include high start-up cost, strong brands, patents and laws.
- Threat of substitutes: different products that meet the same need (video calls instead of flights for meetings). Many substitutes โ firms cannot raise prices.
- Bargaining power of suppliers: if there are few suppliers or the input is unique, suppliers can charge more, squeezing profit.
- Bargaining power of buyers: if buyers are few and large, or can switch easily, they push prices down.
Using the model
Weak forces โ an attractive industry with high profit potential. Strong forces โ a tough industry. Firms respond by building barriers (brand, patents), making products different (to reduce rivalry and substitutes), using several suppliers, and building loyalty (to cut buyer power).
Limits: it is a snapshot, industries change quickly, and it says little about cooperation between firms.
Try it: map your local market
Pick a type of shop near your home (for example snack shops or phone repair shops). List three rivals. Score each 1โ5 on price, quality, service and location. Which has the biggest weakness? Then, in the 3D free-play step, set the five forces for that market and read the profit potential.
Key formulas and definitions
- Competitor = a business trying to win the same customers.
- Risk = bad outcome whose chance can be estimated.
- Uncertainty = future that cannot be predicted or measured.
- Entrepreneur's choice: possible reward vs risk of loss.
- Five forces: rivalry, new entrants, substitutes, supplier power, buyer power.
- Stronger forces โ lower profit potential.
Worked examples
1. Two gyms are in the same street. Gym A: $30 a month, new machines, open 6 amโ10 pm. Gym B: $20 a month, old machines, open 24 hours. Give one strength and one weakness of each.
Gym A strength: modern machines (quality); weakness: higher price. Gym B strength: lower price and 24-hour opening; weakness: old machines. Gym A could stress quality and classes; Gym B could target students and night workers.
2. Classify each as risk or uncertainty: (a) about 2% of items sold online are returned each year; (b) a brand-new virus might close shops next year.
(a) Risk: the chance (2%) is known from past data, so it can be planned for. (b) Uncertainty: nobody can measure the chance or the effect in advance.
3. Use Porter's five forces to explain why profit may be low for a city taxi firm.
Rivalry: many taxis and ride apps. New entrants: easy, a driver only needs a car and a licence. Substitutes: buses, trains, bikes and walking. Buyer power: riders compare prices on apps and switch instantly. Supplier power: fuel prices are set by large oil firms. Most forces are strong, so profit potential is low.
Common mistakes
- Using risk and uncertainty as the same word. Risk can be measured; uncertainty cannot.
- Listing only price when comparing rivals. Also compare quality, service, location and brand.
- Confusing substitutes with rivals. A rival sells the same kind of product; a substitute is a different product meeting the same need.
- Saying strong forces mean high profit. Strong forces push profit DOWN.