Question

Explain the threats of new entrants in a strategic decision making

Answer 1

The 'threats of new entrant' is one of the five forces discussed in Porter's five-force framework used in analyzing the competitive environment of a firm in a given industry boundary for a particular time frame. This is about how easy or difficult for a new entity to start the business in the given market and what are the typical entry barriers set by the existing players to resist it. Some of the known barriers of entry are as follows:

a) The supply-side economies of scale - The existing players maybe buying a huge quantity of materials from its suppliers and getting discounts for this high volume. New entrants will be unable to order such huge volumes from the suppliers and hence the cost of material for the new firm will always be higher than incumbent competitors.

b) The demand-side economies of scale - Similarly, the existing players may have a huge customer base. The volume demanded will be quite high to reduce the overheads and fixed cost resulting in a low cost of production per unit. A new entrant will not have such a huge customer base and volume and the production cost per unit remains high.

c) Incumbency advantage - The existing firms might have acquired rights over some resources such as process patents, or any kind of intellectual rights. A new firm will just be barred to use such process/ technology and get the related advantages.

d) Capital required - The very nature of the business can itself be a barrier to entry. The business can be highly capital intensive (e.g. automobile) for which a new firm may not be able to acquire the required capital.

e) Customer switching cost - The switching cost of a typical customer in changing the product can be higher. For example, in a cable TV business, a customer, even when frustrated by the existing service, will think twice before considering a new service provider because there will be an additional fixed cost for the equipment and material that he/ she needs to buy. In all such situations, a new firm will experience a higher barrier.

f) Government Policies - Finally, the laws and regulations of the country or state can also play a role in deciding how strong the entry barrier is.