Some markets become competitive for several reasons. Globalization is the first reason. It makes the competition map wider because it involves foreign players. For example, it encourages foreign goods to easily enter the domestic market, increasing supply. Thus, domestic companies must compete not only with other domestic players but also with foreign companies.
Then, if we relate to Porter’s five forces, markets become competitive, for example, when substitutes emerge. They may offer lower prices, more readily available in the market, or superior quality. Thus, substitute products divert consumers from the current market. Good examples are the electric car and conventional car markets. Both are close substitutes. Increasing consumer awareness of the environment is driving customers to switch to electric cars, reducing the market size of conventional cars.
The industry life cycle also has implications for competition. For example, competition will tend to be intense when the industry enters a decline stage. This is because players can only rely on repeat purchases from existing customers, encouraging them to fight over each other’s customers.
Before going into more detail about what factors drive markets to be competitive, let’s briefly discuss the industry life cycle and Porter’s five forces model. Both are important to explain how market competition is becoming more intense.
What is Porter’s five forces model?
Michael Porter outlines five forces to explain competitive pressures in the marketplace. In some applications, these five forces explain why profitability in one market is higher than in another, associated with competitive pressures. The five forces are:
- Threat of new entrants
- Threat of substitution
- Bargaining power of buyers
- Bargaining power of suppliers
- Rivalry between players
The first four determine the rivalry between players in the market. In other words, rivalry in the market depends not only on the nature of the market, for example, the number of players and their size, but also on the other four forces.
For example, competition becomes more intense when barriers to entry are low. Thus, it is easy for new players to enter the market. They bring additional capacity to the market, push prices down, and increase pressure on incumbents.
Or, increased rivalry occurs due to a high threat of substitution. Substitution diverts customers out of the market, lowering demand in the market. As a result, existing players have to compete more fiercely for a smaller market share.
Rivalry between players
Competition is high when many players in an industry of relatively similar size. Thus, each cannot affect output and prices in the market.
In addition, it is difficult for companies to coordinate competitive strategies with many players of similar sizes, such as through signaling. Hence, they have no chance to engage in unfair competition, such as engaging in collusion.
The high rivalry may be due to internal factors, namely the nature of the market. For example, markets require low economies of scale and small investments to operate and compete effectively. Thus, many small companies easily enter the market.
Or, high rivalry can also occur due to external factors. For example, the government lifted investment bans for foreign investors or trade barriers. These policies allow more players to enter the market.
What is an industry life cycle?
Industry life cycles tell us how an industry evolves over time. It involves several stages, each of which has implications for market size, growth, profitability, and competition. The five typical stages include:
In the introduction stage, competition is low. Even so, companies usually still face losses. Zero or very low revenue. But, on the other hand, costs are still high because they have to educate consumers about why they should use the product. Most consumers are not aware of the products offered.
Then, in the growth stage, competition is also still low. Companies can generate sales by acquiring new customers. The growth potential is still large, opening up opportunities for all players to record high sales.
In the early period of the growth stage, demand comes mostly from new customers. But, once it was close to the maturity stage, the new customers available started to become scarce. And players are growing from repeat sales, and some may still be able to acquire new customers.
Then, in the maturity stage, demand comes mostly from repeat sales. Growth slowed, and competition began to intensify as players had to seize customers from competitors to increase market share and record high sales.
Finally, in the decline stage, some companies stay in the industry. Others opted out to pursue growth in other markets.
Existing companies struggled to book sales. As industry growth declines, seizing customers from competitors is the only way to maintain sales. This situation leads to intense competition, putting pressure on profitability.
Then, to reduce the competition intensity, the industry usually consolidates. For example, some may merge with other companies. Or, a big player acquires a smaller competitor.
Why are some markets becoming more competitive?
Competitive rivalry can be attributed to changes in Porter’s five forces or industry life cycles. For example, the technological change raises the threat of substitution, increasing competition because existing players do not only face players in the market. However, they also have to compete with players in the substitute market to satisfy customer needs.
In addition, technological advances can also speed up the cycle, making the market quickly transition from a growth stage to a decline stage. Portable music players or MP3 players are good examples, where technology is quickly being replaced by smartphones, likewise with cameras and camcorders.
Globalization is the first reason why some markets are becoming competitive. It is a process by which the world becomes more integrated. Thus, foreign goods easily flow into the domestic market. But on the other hand, domestic goods also easy to flow into the international market.
Globalization increases competition through increasing supply to the domestic market. Thus, the company does not only compete with local players but also foreign players. Although foreign players do not operate in the domestic market, they can sell their products by exporting to the domestic market.
And globalization makes trade more intensive. It requires countries to remove or reduce trade barriers such as tariffs and quotas. Thus, the barriers to entry into the domestic market will be lower.
Due to low barriers to entry, the domestic market involves more players to meet consumer needs. It’s not only local players but also foreign players, although maybe not directly. This situation makes the rivalry between players increasingly fierce.
In addition, globalization also makes it easier for consumers to buy foreign goods. In addition to low trade barriers, access to international markets is easier because the information is more readily available. As a result, it increases the bargaining power of buyers. If they dislike domestic products, for example, because they are expensive or of poor quality, they can switch to foreign products.
Improvement in transportation
Transportation improvements make goods easier and cheaper to transport, either from the international market to the domestic market or from one region to another within the country. As a result, it increases the supply in the market.
Globalization is becoming increasingly intense, one of which is driven by improvements in transportation. Combined with advances in technology, transportation costs have decreased. In addition, technological advances have also accelerated delivery from one country to another through innovation in transportation modes.
The internet is the reason why some markets have become competitive. It not only increases the bargaining power of consumers. But it also lowers switching costs.
For example, the internet, combined with technological advances, facilitates us to find suitable products. We can find many alternatives to buy through our smartphones. Thus, it improves our bargaining position against the company. For example, if we don’t like local products, we can easily surf to find alternative products abroad.
In addition, the internet also lowers switching costs. It makes information more available, thereby reducing search costs. For instance, in the past, we might have had to go from one store to another to find a suitable product. But now, we don’t have to do that. Instead, we simply open our smartphones and surf various e-commerce sites to find what we are looking for. This reduces search costs, including effort, time, and transportation.
Technological advances also give rise to substitution. It increases competition because it satisfies similar needs. Thus, consumers turn to substitute markets when they are more readily available and cheaper. As a result, existing players must also compete with substitute products to satisfy customer needs.
Industry growth rate
Industry growth rates also affect competition. The decline in growth encourages competition to intensify as existing players compete for a smaller market share.
Competition becomes intense when market growth occurs in industries such as oil refineries with high fixed costs. Companies must achieve high sales to achieve economies of scale and break even. As growth declines, they must seize sales from competitors to maintain high sales.
In addition, reduced growth also increases competition when there is idle capacity. Companies struggle to drive sales to produce at optimal capacity. As a result, they may lower the selling price to boost sales. That could lead to a price war.
Then, if we relate to the industry life cycle, negative growth occurs at the decline stage. At this stage, the company can only maintain sales by seizing customers from competitors. At this stage, all potential consumers have used the product; therefore, sales only come from repeat purchases.
For example, suppose a market consists of 100 companies. Meanwhile, market growth declined from $100 billion per year to $90 billion per year. Say, each company has the exact same market share. As a result, the market size per player fell from $1 billion to just $0.9 billion. If a company wants to increase sales to $1 billion, it must seize sales from competitors.
Conversely, if market growth increases to $120 billion, getting $1 billion in sales is easier without involving more intense competition with competitors.
Decreased growth can occur for several reasons. For example, technological changes present substitute products in the market. It has the potential to divert purchases by existing consumers. Typewriters and personal computers are good examples. Personal computers have replaced typewriters and are now being replaced by laptops. Consumers switch from typewriters to personal computers, then to laptops. Likewise, e-commerce exists to substitute conventional retail, encouraging people to switch to online shopping.
Government policies also give reasons why competition is competitive. For example, the government lifted the ban on foreign companies from investing in certain industries. The policy opens opportunities to add new players to the market, increasing competition.
Likewise, privatization also opens up more competition in the market. If, in the past, the service was controlled by the government, it is now left to the private sector to be managed, allowing more private companies to get involved.
Then, removing trade barriers also opens up more supply from abroad. Foreign goods become cheaper when they enter the domestic market, for example, because they are not subject to tariffs. Finally, it forced domestic players to lower prices to be competitive.
What to read next
- Competitive Market: Characteristics and Examples
- Why are some markets becoming more competitive?
- How Do Businesses Respond to A More Competitive Market?