Zara:whether to Go for New System or Not

While short-term profitability is largely determined by supply and demand, long-term profitability is determined by industry structure. Industry structure is determined by the competitive forces that characterize the industry. These five forces determine the level of industry profitability over the long term through their collective effect on the distribution of value-added among industry participants, suppliers, and buyers. The key issues and factors that affect each of the five forces are discussed below.

Force One: The Threat of New Entrants into the Industry

Key Issue: What is the likelihood of new entrants emerging to alter the competitive landscape in a way that reduces the share of the value-added realized by our firm and other existing competitors?

Discussion: The strength of this force, meaning the likelihood of new entrants emerging, depends upon a variety of factors, most or all of which relate to the size of the barriers to entry present. All else being equal, the higher the barriers, the weaker the threat, and, the greater the pricing power of existing participants. Factors affecting this force include:

Economies of scale that will make it difficult for new entrants to achieve critical * mass.

Product differences and brand identity that will deter customers from switching to * new brands without costly inducements.

Switching costs that the product user will incur if they decide to use the new * entrant.

Capital requirements to construct the facilities and other infrastructure required to * enter the industry.

Access to distribution channels, meaning that existing distributors may be at or near * capacity and/or may not be willing to take on the new entrant's products.

Government policy may require licensing or other approvals to enter the industry, * and these could be time-consuming or difficult to secure.

Cost and/or quality advantages may be enjoyed by incumbent firms, and it may take * time for the new entrant to reach the point where these advantages are realized.

Force Two: The Threat of Substitute Products

Key Issue: Do currently-available (or prospective) alternative products put a ceiling on the price buyers are willing to pay for the industry's current products?

Discussion: Note that this force concerns not only existing potential substitutes, but also those that could become available in the future. This subtle distinction is an important one--not all substitutes must exist to have a pricing impact. Factors that affect the strength of this factor include:

The relative price performance of substitutes. Can the purported substitute products * really do the job that the current products fulfill? If not, this force becomes much weaker.

Buyer propensity to substitute, or how likely are the current buyers to switch, given * a viable alternative. Rupturing a 20-year relationship when the marginal benefits of switching are small is unlikely. However, when the potential benefit to the product buyer is large, the propensity increases.

Switching costs, meaning what is the cost incurred by the buyer. If production * processes need minor retrofitting and the costs are low, the switch is more likely to be made.

Force Three: The Bargaining Power of Buyers

Key Issue: How strong is the negotiating power of the buyers of the firm's or industry's output, and what is the impact on the distribution of the value-added by the industry?

Discussion: The bargaining power of the buyers of the industry's product can be viewed as coming from two main sources--bargaining leverage and price sensitivity.Bargaining leverage relates closely