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Threat of New Entrants (one of Porter’s Five Forces)

See also:
Porter’s Five Forces of Competition
Supplier Power
Buyer Bargaining Power
Threat of Substitutes
Intensity of Rivalry
Complementors (Sixth Force)

Threat of New Entrants Definition

In Porters five forces, threat of new entrants refers to the threat new competitors pose to existing competitors in an industry. Therefore, a profitable industry will attract more competitors looking to achieve profits. If it is easy for these new entrants to enter the market – if entry barriers are low – then this poses a threat to the firms already competing in that market. More competition – or increased production capacity without concurrent increase in consumer demand – means less profit to go around. According to Porter’s 5 forces, threat of new entrants is one of the forces that shape the competitive structure of an industry. Thus, Porters threat of new entrants definition revolutionized the way people look at competition in an industry.

Threat of New Entrants Explanation

The threat of new entrants Porter created affects the competitive environment for the existing competitors and influences the ability of existing firms to achieve profitability. For example, a high threat of entry means new competitors are likely to be attracted to the profits of the industry and can enter the industry with ease. New competitors entering the marketplace can either threaten or decrease the market share and profitability of existing competitors and may result in changes to existing product quality or price levels. An example of the threat of new entrants porter devised exists in the graphic design industry: there are very low barriers to entry.

As new competitors flood the marketplace, have a plan to react before it impacts your business. Download the External Analysis whitepaper to gain an advantage over competitors by overcoming obstacles and preparing to react to external forces, such as it being a buyer’s market. 

A high threat of new entrance can both make an industry more competitive and decrease profit potential for existing competitors. On the other hand, a low threat of entry makes an industry less competitive and increases profit potential for the existing firms. New entrants are deterred by barriers to entry.

Barriers to Entry

Several factors determine the degree of the threat of new entrants to an industry. Furthermore, many of these factors fall into the category of barriers to entry, or entry barriers. Barriers to entry are factors or conditions in the competitive environment of an industry that make it difficult for new businesses to begin operating in that market.

Examples of Barriers to Entry

A high production-profitability threshold requirement, or economy of scale, is an entry barrier that can lower the threat of entry. Highly differentiated products or well-known brand names are both barriers to entry that can lower the threat of new entrants. Significant upfront capital investments required to start a business can lower the threat of new entrants. Whereas, high consumer switching costs are a barrier to entry. When access to distribution channels is an entry barrier – if it is difficult to gain access to these channels, the threat of entry is low. Access to favorable locations, proprietary technology, or proprietary production material inputs also increase entry barriers and decrease the threat of entry.

And of course, if the opposite is true for any of these factors, barriers to entry are low and the threat of new entrants is high. For example, no required economies of scale, standardized or commoditized products, low initial capital investment requirements, low consumer switching costs, easy access to distribution channels, and no relevant advantages due to locale or proprietary assets all indicate that entry barriers are low and the threat of entry is high.

Other factors also influence the threat of new entrants. Expected retaliation of existing competitors and the existence of relevant government subsidies or policies can discourage new entrants. While no expected retaliation and the lack of relevant government subsidies or polices can encourage new entrants.

Threat of Entry Analysis

When analyzing a given industry, all of the aforementioned factors regarding the threat of new entrants may not apply. But some, if not many, certainly will. Of the factors that do apply, some may indicate a high threat of entry and some may indicate a low threat of entry. But, the results will not always be straightforward. Therefore it is necessary to consider the nuances of the analysis and the particular circumstances of the given firm and industry when using these data to evaluate the competitive structure and profit potential of a market.

High Threat of Entry of New Competitors When:

  • Profitability does not require economies of scale
  • Products are undifferentiated
  • Brand names are not well-known
  • Initial capital investment is low
  • Consumer switching costs are low
  • Accessing distribution channels is easy
  • Location is not an issue
  • Proprietary technology is not an issue
  • Proprietary materials is not an issue
  • Government policy is not an issue
  • Expected retaliation of existing firms is not an issue

Threat of New Entry is Low if:

  • Profitability requires economies of scale
  • Products are differentiated
  • Brand names are well-known
  • Initial capital investment is high
  • Consumer switching costs are high
  • Accessing distribution channels is difficult
  • Location is an issue
  • Proprietary technology is an issue
  • Proprietary materials is an issue
  • Government policy is an issue
  • Expected retaliation of existing firms is an issue

Threat of New Entry of competitors Interpretation

When conducting Porter’s 5 forces industry analysis, a low threat of new entrants makes an industry more attractive and increases profit potential for the firms already competing within that industry, while a high threat of new entrants makes an industry less attractive and decreases profit potential for the firms already competing within that industry. The threat of new entrants porter’s 5 forces explained is one of the factors to consider when analyzing the structural environment of an industry. To continue to expand your analysis, download the free External Analysis whitepaper by clicking here .

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SWOT Analysis

See Also:

Porter’s 5 Forces of Competition
Core Competencies
How to Write an Action Plan
How to Turnaround a Company

SWOT Analysis

The SWOT Analysis – an acronym standing for Strengths, Weaknesses, Opportunities, and Threats – assesses a company’s competition in the desired field or market. This analysis serves as an excellent tool for decision-making, either for personal use or from a business standpoint.

Business SWOT Analysis: Planning, Performance, and Evaluation

The purpose of a SWOT analysis, from a business point-of-view, is to organize a proper business strategy around the internal and external factors that affect one’s business. Existing or older businesses may use a SWOT analysis to predict or proactively adapt to the environmental changes pertaining to their business. New or starting businesses may use this analysis to plan ahead before their actual business plans to assess potential road bumps or advantages they can use.

How to Complete a SWOT Analysis

When mapping out a business strategy with a SWOT analysis, you first look at the four elements in your company: Strengths, Weaknesses, Opportunities, and Threats. Strength and Weaknesses are considered internal factors that might affect a company. These are characteristics, rather than physical elements surrounding the business, such as profitability or shortages. The Opportunities and Threats are considered external factors. These are the physical elements such as network or competition.

SWOT Analysis

Benefits of a SWOT Analysis

With the SWOT Analysis you can:

  1. Analyze the current situation of a company.

    SWOT shows the leaders of a company how realistic their situation is. With the simple grid system, people can visualize and organize their thoughts. This list may be pages long, but with the SWOT Analysis, you can easily distribute and interpret the information easily.

  2. Provide different perspectives when executing a decision.

    When completing a SWOT analysis, a leader of a company is forced to consider all different types of potential aspects that affect the company, not only what they see on a regular basis.

  3. Simplify; SWOT does not require extensive technology or payment during completion.

    You can do this method on a computer, piece of paper, or dry-erase board. And it’s free – straight from your mind.

Limitations of a SWOT Analysis

In comparison to many other types of business analysis, SWOT may not be as ideal because:

  1. The method is not as detailed.

    The SWOT analysis only has four factors, compared to other types of analysis which have seven or eight different factors. The method is useful with analyzing an idea or small maintenance in business planning. But you may need other methods to be paired with this analysis in order to get a full, detailed plan.

  2. You have to make a new SWOT every time you make a change.

    When updating a plan or making  a new decision, you have to consider all four factors in the SWOT analysis that might alter your previous factors. We recommend updating your SWOT analysis at the end of every financial year to project future losses, or when you don’t meet your goals.

  3. Subjectivity.

    In any decision-making process, the data collected must be reliable and un-biased. It is easy to misinterpret or over-represent your own strengths and opportunities versus weaknesses and threats when not done in a group setting.

Download your free External Analysis whitepaper that guides you through overcoming obstacles and preparing how your company is going to react to external factors.

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Margin vs Markup

See Also:
Gross Profit Margin Analysis
Retail Markup
Chart of Accounts (COA)
Margin Percentage Calculation
Markup Percentage Calculation

Markup vs Margin Differences

Is there a difference between margin vs markup? Absolutely. More and more in today’s environment, these two terms are being used interchangeably to mean gross margin, but that misunderstanding may be the menace of the bottom line. Markup and profit are not the same! Also, the accounting for margin vs markup are different! A clear understanding and application of the two within a pricing model can have a drastic impact on the bottom line. Terminology speaking, markup percentage is the percentage difference between the actual cost and the selling price, while gross margin percentage is the percentage difference between the selling price and the profit.

So, who rules when seeking effective ways to optimize profitability?. Many mistakenly believe that if a product or service is marked up, say 25%, the result will be a 25% gross margin on the income statement. However, a 25% markup rate produces a gross margin percentage of only 20%.

(NOTE: Want the Pricing for Profit Inspection Guide? It walks you through a step-by-step process to maximizing your profits on each sale. Get it here!)

Markup vs Gross Margin; Which is Preferable?

Though markup is often used by operations or sales departments to set prices it often overstates the profitability of the transaction. Mathematically markup is always a larger number when compared to the gross margin. Consequently, non-financial individuals think they are obtaining a larger profit than is often the case. By calculating sales prices in gross margin terms they can compare the profitability of that transaction to the economics of the financial statements.

Steps to Minimize Markup vs Margin Mistakes

Terminology and calculations aside, it is very important to remember that there are more factors that affect the selling price than merely cost. What the market will bear, or what the customer is willing to pay, will ultimately impact the selling price. The key is to find the price that optimizes profits while maintaining a competitive advantage. Below are steps you can take to avoid confusion when working with markup rates vs margin rates:

Still deciding whether to use margin or markup to establish a price? Easily discover if your company has a pricing problem and fix it with either margin or markup. Download the free Pricing for Profit Inspection Guide to learn how to price profitably.

margin vs markup

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margin vs markup

Margin vs Markup Chart

15% Markup = 13.0% Gross Profit
20% Markup = 16.7% Gross Profit
25% Markup = 20.0% Gross Profit
30% Markup = 23.0% Gross Profit
33.3% Markup = 25.0% Gross Profit
40% Markup = 28.6% Gross Profit
43% Markup = 30.0% Gross Profit
50% Markup = 33.0% Gross Profit
75% Markup = 42.9% Gross Profit
100% Markup = 50.0% Gross Profit

66

Intensity of Rivalry (one of Porter’s Five Forces)

See also:
Porter’s Five Forces of Competition
Threat of New Entrants
Supplier Power
Buyer Bargaining Power
Threat of Substitutes
Complementors (Sixth Force)

Porter’s Intensity of Rivalry Definition

The intensity of rivalry among competitors in an industry refers to the extent to which firms within an industry put pressure on one another and limit each other’s profit potential. If rivalry is fierce, then competitors are trying to steal profit and market share from one another. As a result, this reduces profit potential for all firms within the industry. According to Porter’s 5 forces framework, the intensity of rivalry among firms is one of the main forces that shape the competitive structure of an industry.

Porter’s intensity of rivalry in an industry affects the competitive environment and influences the ability of existing firms to achieve profitability. For example, high intensity of rivalry means competitors are aggressively targeting each other’s markets and aggressively pricing products. This represents potential costs to all competitors within the industry.

High intensity of competitive rivalry can make an industry more competitive and decrease profit potential for the existing firms. On the other hand, low intensity of competitive rivalry makes an industry less competitive and increases profit potential for the existing firms.

Conducting an competitor analysis can be overwhelming and confusing. Download the External Analysis whitepaper to gain an advantage over competitors by overcoming obstacles and preparing to react to external forces. 

Porter’s Intensity of Rivalry Determining Factors

Several factors determine the intensity of competitive rivalry in an industry.

Porter’s Rivalry Intensity Increased

If the industry consists of numerous competitors, then Porter rivalry will be more intense. Whereas if the competitors are of equal size or market share, the intensity of rivalry will increase. The intensity of rivalry will be high if industry growth is slow. If the industry’s fixed costs are high, then competitive rivalry will be intense. Additionally, rivalry will be intense if the industry’s products are undifferentiated or are commodities. If brand loyalty is insignificant and consumer switching costs are low, then this will intensify industry rivalry. Industry rivalry will be intense if competitors are strategically diverse – which means that they position themselves differently from other competitors. Then an industry with excess production capacity will have greater rivalry among competitors. And finally, high exit barriers – costs or losses incurred as a result of ceasing operations – will cause intensity of rivalry among industry firms to increase.

Porter’s Rivalry Intensity Decreased

And of course, if the opposite is true for any of these factors, the intensity of Porter rivalry among competitors will be low. For example, the following indicates that the Porter intensity of rivalry among existing firms is low:

  • A small number of firms in the industry
  • A clear market leader
  • Fast industry growth
  • Low fixed costs
  • Highly differentiated products
  • Prevalent brand loyalties
  • High consumer switching costs
  • No excess production capacity
  • Lack of strategic diversity among competitors
  • Low exit barriers

Porter’s Intensity of Rivalry Analysis

When analyzing a given industry, all of the aforementioned factors regarding the intensity of competitive rivalry Porter placed among existing competitors may not apply. But some, if not many, certainly will. And of the factors that do apply, some may indicate high intensity of rivalry and some may indicate low intensity of rivalry. The results will not always be straightforward. Therefore it is necessary to consider the nuances of the analysis and the particular circumstances of the given firm and industry when using these data to evaluate the competitive structure and profit potential of a market.

Intensity of Rivalry is High if…

If any of the following occurs, then intensity of rivalry is high.

• Competitors are numerous

• Industry growth is slow

Fixed costs are high

• Competitors have equal size

• Products are undifferentiated

• Brand loyalty is insignificant

• Consumer switching costs are low

• Competitors have equal market share

• Competitors are strategically diverse

• There is excess production capacity

• Exit barriers are high

Intensity of Rivalry is Low if…

If any of the following occurs, then it may indicate that the intensity of rivalry is low.

• Competitors are few

• Unequal size among competitors

• Competitors have unequal market share

• Industry growth is fast

• Fixed costs are low

• Products are differentiated

• Brand loyalty is significant

• Consumer switching costs are high

• Competitors are not strategically diverse

• There is no excess production capacity

• Exit barriers are low

Porter’s Intensity of Rivalry Interpretation

When conducting Porter’s 5 forces industry analysis, low intensity of rivalry makes an industry more attractive and increases profit potential for the firms already competing within that industry, while high intensity of rivalry makes an industry less attractive and decreases profit potential for the firms already competing within that industry. The intensity of rivalry among existing firms is one of the factors to consider when analyzing the structural environment of an industry using Porter’s 5 forces framework.

Start preparing your external analysis so you can react in realtime when the intensity of rivalry threatens your company. Don’t loose out because of an external force. Download the free External Analysis whitepaper by clicking here.

Intensity of rivalry

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Intensity of rivalry

Sources on Porter’s Intensity of Rivalry

Harrison, Jeffrey S., Michael A. Hitt, Robert E. Hoskisson, R. Duane Ireland. (2008) “Competing for Advantage”, Thomson South-Western, United States, 2008.

Porter, M.E. (1979) “How competitive forces shape strategy”, Harvard Business Review, March/April 1979.

Porter, M.E. (1980) “Competitive Strategy”, The Free Press, New York, 1980.

Porter, M.E. (1985) “Competitive Advantage”, The Free Press, New York, 1985.

7

Activity-based Costing (ABC) vs Traditional Costing

See Also:
Activity Based Costing
Standard Costing System
Cost Driver
Value Chain
Implementing Activity Based Costing
Absorption vs Variable Costing
Activity Based Management
Process Costing
Overhead
Job Costing

Activity Based Costing Costing vs Traditional Costing

In the field of accounting, activity-based costing and traditional costing are two different methods for allocating indirect (overhead) costs to products.

Both methods estimate overhead costs related to production and then assign these costs to products based on a cost-driver rate. The differences are in the accuracy and complexity of the two methods. Traditional costing is more simplistic and less accurate than ABC, and typically assigns overhead costs to products based on an arbitrary average rate. ABC is more complex and more accurate than traditional costing. This method first assigns indirect costs to activities and then assigns the costs to products based on the products’ usage of the activities.

Traditional Costing Method

Traditional costing systems apply indirect costs to products based on a predetermined overhead rate. Unlike ABC, traditional costing systems treat overhead costs as a single pool of indirect costs. Traditional costing is optimal when indirect costs are low compared to direct costs. There are several steps in the traditional costing process.

1. Identify indirect costs.

2. Estimate indirect costs for the appropriate period (month, quarter, year).

3. Choose a cost-driver with a causal link to the cost (labor hours, machine hours).

4. Estimate an amount for the cost-driver for the appropriate period (labor hours per quarter, etc.).

5. Compute the predetermined overhead rate (see below).

6. Apply overhead to products using the predetermined overhead rate.

Predetermined Overhead Rate Calculation

Predetermined Overhead Rate = Estimated Overhead Costs / Estimated Cost-Driver Amount

For example:

$30/labor hr = $360,000 indirect costs / 12,000 hours of direct labor

Activity-Based Costing Benefits

Activity based costing systems are more accurate than traditional costing systems. This is because they provide a more precise breakdown of indirect costs. However, ABC systems are more complex and more costly to implement. The leap from traditional costing to activity based costing is difficult.

Traditional Costing Advantages and Disadvantages

Traditional costing systems are simpler and easier to implement than ABC systems. However, traditional costing systems are not as accurate as ABC systems. Traditional costing systems can also result in significant under-costing and over-costing.

12

Have an Audacious Vision! – Part I

Audaciousbold, daring, or fearless, especially in challenging assumptions or conventions.

As the New Year begins, we like to re-focus on our company’s mission and vision.  Recently, I came across the concept of “audacious vision”.  What does that mean?  Put simply, it’s more than a run-of-the-mill mission or vision statement.  It’s a vision that is bold, daring and fearless and it can be a powerful thing.  Here are a couple of observations about audacious vision…

Having an Audacious Vision

An audacious vision has the power to energize and inspire you and your team. 

CEOs, Presidents, Entrepreneurs, Board Members –

Write down your vision… Make it plain on paper.

This allows everyone in your organization to know the company’s direction and head down the same path.

One of our long-term clients sends out a memo once a month to the entire company reiterating the company’s vision.  The CEO goes to each department sharing the company’s progress while inquiring on his role in making them be as successful as possible.  Even though Strategic CFO acts as an outside consultant to the company, he makes sure we receive the memo so that we are all clear on the direction the company is going.

Great leaders rally people to a better future ~ Marcus Buckingham

An audacious vision has the power to unite and focus us.

CFOs and Controllers –

It is important to understand the vision of the CEO/President/Entrepreneur/Board Member.

As an employee on any level, you should ask about the vision. This will help you to maximize your purpose within the organization.

We are only as strong as we are united, as weak as we are divided ~ J.K. Rowling, Harry Potter and the Goblet of Fire

 

Come back next week for Part II to learn more about what an audacious vision can mean for you and your company!

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Starting the New Year Right!

One of the best practices at our company is to bring the leadership team together to reflect on our successes and short-comings of the past year, then build on them. We find by aligning the key players we can hit the ground running in the first quarter. Below are our steps in setting goals and priorities.

As a team, meet to create an outline and discuss what’s working and what’s not? Divide a whiteboard in two. On the left, what’s working; on the right, what’s not. Analyze every department and critique both the successes and failures during the past year. Put everything down both large and small.

Next, take the top three to five items from each side and circle them with the overarching goal to implement more of what’s working and to fix or stop what isn’t. From these top three to five issues develop an action plan for the next year.

After you’ve compiled your next year’s goals, break them into quarterly milestones – sub goals, so to speak. Assign specific goals to different individuals with the mindset of prioritizing. You can’t do it all.

Once you have your quarterly goals, individuals leave to create their own quarterly plan. Using this strategy, the entire team is on the same page, knowing their expectations and responsibilities. Success will come as you hit the ground running the first week of January with the alignment of your team.

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