The term barriers to entry is part of the so-called 5 competitive forces by Michael Porter, used for strategic business planning.
According to this view, the most competitive companies are those that have the greatest ability to make a profit. And you can achieve or protect profitability through these five competitive forces:
- Customers or buyers
- Substitute products or services
- Current competitors
- New entrants
In this post, we will better understand how each of these forces work. We’ll pay special attention to new entrants. We’ll analyze some examples of entry barriers to defend new entrants from them, or that should be overcome by those who wish to enter a new market.
Together with SWOT analysis and the Ansoff Matrix, Porter’s five competitive forces are some of the most widely used strategic planning tools, learn more about them in these posts:
- What is SWOT analysis and how do you use it in a company
- Use the Ansoff Matrix and Determine Business Growth Strategies
Entry Barriers and the Other 4 Porter Competitive Forces
1- Customers or buyers
The bargaining power of buyers will determine the degree of competitiveness of an industry. By nature, buyers want to receive the maximum benefits possible by paying the lowest price.
Thus, the greater the bargaining power of buyers, the lower the competitiveness of a company competing in that market.
Conversely, suppliers expect to charge as much as possible and deliver as little as they can. In situations of monopoly or oligopoly, for example, when there is only one supplier or few of them, their bargaining power is very high, reducing the competitiveness of companies in this sector.
3- Substitute products or services
This is more important than it was in the past when it comes to strategic planning for a business.
Substitute products are those that supply the same need that your company provides to the market, but belong to another segment.
Thus, it’s easy to see that theatrical shows are a substitute service to the cinema, but it’s fundamental to stick to other entertainment not so obvious, after all, a company that offers TV series’ or movies via stream doesn’t stop offering a service substitute to the cinema.
Services such as AirBnB, for example, are substitute products for traditional hospitality, and it is precisely through the use of new technologies and the digital transformation that substitute products and services are entering new markets in a surprising way.
4- Current competitors
The level of rivalry between the current competitors of a market, when very high, diminishes the competitiveness of the companies that operate in this sector.
Those who work in the beverage or banking sectors are subject to a strong rivalry, which diminishes the profitability of competitors who are constantly reacting to or anticipating the actions of others.
5- New entrants
New entrants are competitors who want to establish themselves in a market to which they did not previously belong. They’re not substitute products or services, but from other companies wishing to provide the same products or services of the brands which are already established in the market.
Of course this will not be easy, especially if there are so-called entry barriers.
Entry barriers are characteristics of a market that make it hard to be new competitors.
In order for you to better understand this concept, let’s look at a number of examples of entry barriers.
But before that, check out this video from Harvard Business Review which explains in a very didactic way the five competitive forces of Michael Porter:
8 examples of entry barriers
1- Trademarks consolidated in the market
Entering a market with prestigious and established brands is extremely difficult to establish. It is this type of challenge that Chinese automobile brands pass when trying to enter international markets.
A traditional entry barrier is the existence of patents. It is only after the expiration of this legal protection that other competitors will be able to manufacture a product or provide that service in much the same way as the patent holder.
3- Government policies
To open a bank, for example, a number of legal requirements and licenses must be obtained. These rigid government regulations for some areas are examples of typical entry barriers.
Unlike opening a restaurant or a network of hotels, some market segments such as insurance companies and hospitals, in addition to the financial institutions already mentioned, need better oversight to protect society, which makes entry into these markets more difficult.
4- Mastering cutting-edge technologies
It’s easier to manufacture lawn mowers than cars, as these are easier to produce than airplanes.
The mastery of certain technologies can also be a good example of barriers to entry.
5- Economies of scale
When entering a market, a new entrant will hardly be able to produce the same quantities as already established competitors. Fixed production costs can make it very difficult to overcome this initial stage, making the arrival of new competitors impossible.
6- Learning curve
Some industries are characterized by complex operations or demand training’s which aren’t always easy to learn. Luxury restaurants and fashion labels are a typical example where entry of new competitors often only happens when a chef or a stylist has already learned enough in the company where they were and decide to open their own business.
7- High capital requirements
The energy industry is one of the most obvious examples of this type of entry barrier. Imagine the amount of capital needed to build a nuclear power plant or an oil rig!
8- Access to distribution channels
Many suppliers require exclusivity from their distributors or they’re already satisfied with the profitability that traditional brands offer and prefer not to take a risk on new entrants.
Those who want to overcome entry barriers in a new market can design more efficient and effective processes than established competitors. This avoids challenges such as economies of scale, for example.