Sunday, September 20, 2015

Application of Five Forces Model to Analysis of Threats in Amazon in the online-book selling industry

We all know about Amazon, right? How about their evironmental threats?

Porter's Five Forces Model is the king of recognizing a company's environmental threats, or those forces outside their control that could either improve or take down their company. By looking at the five forces, a company can guage their attractiveness/competitiveness and, based on the analysis (which is more qualitative than a quantitative Excel sheet), adjust their strategy accordingly.


Amazon has it all, right? Let's see.

1. The threat of entry

Technically, it should be easy for someone to compete with Amazon: it's cheap to create an online platform and to minimize costs to a competitive level since there are no brick-and-mortar stores to erect. In fact, any current brick-and-mortar store could carry their customer base over to a similar online model, much like Barnes & Noble and Borders did in the online book-ordering segment, which Amazon created in the mid-90s.

But Amazon has natural costs of entry that would make any new entrant an actual threat. As easy as it is to enter the online market, it will be almost impossible to reach Amazon's level.

  • Economies of scale: Amazon has 10,000+ vendors and has 75% repeat purchasers. They have built an impressive network of warehouses that were originally for book selling, but have grown to match their increasing product lines. 
  • Product differentiation: Amazon has no unique goods, meaning they have formed relationships with vendors in almost every sector, including books and other online entertainment.
  • Cost advantages: Amazon's cost structure is lower than any of its competitors, and is considered to be one of its secrets. They spend three more times than the top five competitors put together on R&D, resulting in breakthrough efficiency and effectiveness models, including search improvements and removing 88% of the reasons users stop an online shopping search.
Ultimately, the threat of new entrants could be considered low.

2. The threat of rivalry

Amazon has a multitude of rivals spanning a multitude of products and services, either directly or indirectly, and even more so as the internet increasingly becomes a main vessel for buyers. And as companies see the profit margin for going online, it’s a guarantee that more will come. However, Amazon has the advantage of 75% return buyer rate, making the switching cost high for a lot of buyers who are accustomed to Amazon’s layout, customer service (which remains high), and benefits (Amazon Prime).

Ultimately, the threat of rivalry could be considered high.

3. The threat of substitutes

Amazon offers such a wide range of products and services, they have a potential substitute or two at least every variation of that product or service in both the internet and retailing industries. (The benefit being that on Amazon, it’s all in one spot. Hello, convenience.) Amazon’s patented 1-click ordering offers a competitive advantage, but otherwise, any rival could technically substitute a product or service that Amazon offers.

Ultimately, the threat of substitutes could be considered high.

4. The threat of powerful suppliers

Amazon is a global, well-known company utilizing suppliers of all walks. Amazon has the benefit in that they buy in bulk (attractive to a supplier) and that their products aren’t unique, meaning of a supplier doesn’t work out, there will be another one who can provide what Amazon needs.

Ultimately, the threat of powerful suppliers could be considered low.

5. The threat of powerful buyers

In the online market, buyers can go to any online store that also has low overhead and competitive prices. Amazon works hard to maintain their customer base, but it is a dangerous situation, as they could easily leave if something goes wrong on Amazon’s side.

Ultimately, the threat of powerful buyers could be considered high.

Overall, Amazon has more challenges that you might think. However, if they continue to maintain their competitive advantage, just like they have sine 1995, they’ll still be top.

Sources: 
  • Gaining and Sustaining Competitive Advantage by Jay B. Barney [textbook]
  • Strategy Framworks: Threat of New Entrants - Porter's Five Forces Model by Martin [http://www.entrepreneurial-insights.com/threat-of-new-entrants-porters-five-forces-model/]
  • How to Use Porter's Five Forces Model by Annmarie Hanlon [http://www.smartinsights.com/marketing-planning/marketing-models/porters-five-forces/]
  • Amazon’s Cost Advantage in a Cascade Chart by David Goldstein [http://www.mekkographics.com/amazons-cost-advantage-in-a-cascade-chart/]
  • Amazon.com: An E-commerce Retailer by Sarah Bouchard [http://sarahbouchard.com/works/Papers%20etc/Amazon_PaperFINAL.htm]

Sunday, September 13, 2015

Has Amazon Contradicted Economic Theory?

Traditional economic theory says that a sustained competitive advantage - that is, one that is so unique, it dominates its niche - is unrealistic. Eventually, competitors will be able to mimic strategy and replicate flagship products, so that economic party will win in the long-run.

Has Amazon broken that theory?

Amazon's unique niche is their online market: Similar audiences to other large retailers, but with competitive prices, quick and low-cost shipping (thanks to warehouses spanning the country), an accessible online market, and lower margins than a brick-and-mortar retailer... What's not to love about that?

Since ... But where does their future lie? Will economic theory play out, and Amazon will give way, or eat least equate to, another retail giant? Like WalMart?

For Amazon to maintain this competitive advantage, they need to make sure four pieces of their business remain:

1. Informally complex.

Amazon began as an online book retailer, promoting their Kindle and related products. In the following 21 years, they have grown to an enormous variety of products that users naturally follow. Their offerings are complex (everything from cloud storage to buying Nine West shoes), but the process is so informal, an average user can use it, yet still find it intriguing. For example, all it takes is an email address and password, then a credit card in order to access everything. One more simple decision is upgrading to Prime for $99/year in order to access these same offerings, but in a deeper way.

2. Require customers to know a great deal in order to use their product.

While the initial introduction of a user to the Amazon marketplace is simple (create log in information), it is important that users understand the basic values of the price of a product on Amazon versus a brick-and-mortar store, the economic value/ease of using Amazon versus other music/book/entertainment provider, and the benefit of publishing work via Amazon versus another retailer. The use of the product is simple; however, one could research for days the amount of products Amazon offers.

3. Require a great deal of research and development.

Amazon has grown by improving their warehouse spaces and location worldwide (from $477 million to $6.41 billion in a decade), their technology (increase of $208 million to $4.56 billion in the past three years), and by acquiring key companies (such as Zappos.com with their robotic warehouse technology).

Nothing says research and development more than a number one company strategically putting millions of dollars into these three key elements, right?

4. Have significant economies of scale.

Simply put, Amazon is able to offer products cheaper and faster. Isn't that the goal of every store? But has every store achieved it? For the 10th straight year Amazon.com is the biggest Top 500 retailer. As long as Amazon is around and continues to grow and scale/open more distribution centers, they will continue to be a force to be reckoned with.

Luckily, Amazon is master at all of the above. And given every leg-up Amazon has on other retailers, with more coming (drones?), it's unlikely we will see another firm try to compete with Amazon. They have too big of a head start and too much invested in their strategy to welcome any competition.

Amazon: 1994-?

Sources:

  • Gaining and Sustaining Competitive Advantage by Jay B. Barney [textbook]
  • Amazon's Sustainable Competitive Advantage by Daniel B. Kline [http://www.fool.com/investing/general/2015/05/18/amazons-sustainable-competitive-advantage.aspx?source=eptmsmlnk0000001]
  • The Source of Amazon's Competitive Advantage by Dr. Tony Grundy [http://www.accaglobal.com/za/en/discover/cpd-articles/business-management/amazon-flow.html]
  • Amaon Keeps Spending - and Growing by Mark Brohan [https://www.internetretailer.com/2013/04/30/amazon-keeps-spendingand-growing]