The model of the Porter’s Five Forces was developed by Michael E. Porter in his book “Competitive Strategy: Techniques for Analyzing Industries and Competitors” in 1980. Since that time it has become an important tool for analyzing an organizations industry structure in strategic processes.
Porter’s model is based on the insight that a corporate strategy should meet the opportunities and threats in the organizations external environment. Especially, competitive strategy should base on and understanding of industry structures and the way they change.
Porter has identified five competitive forces that shape every industry and every market. These forces determine the intensity of competition and hence the profitability and attractiveness of an industry. The objective of corporate strategy should be to modify these competitive forces in a way that improves the position of the organization. Porter’s model supports analysis of the driving forces in an industry. Based on the information derived from the Five Forces Analysis, management can decide how to influence or to exploit particular characteristics of their industry.
Bargaining Power of Customers
There are two types of buyer power. The first is related to the customer’s price sensitivity. If each brand of a product is similar to all the others, then the buyer will base the purchase decision mainly on price. This will increase the competitive rivalry, resulting in lower prices, and lower profitability.
The other type of buyer power relates to negotiating power. Larger buyers tend to have more leverage with the firm, and can negotiate lower prices. When there are many small buyers of a product, all other things remaining equal, the company supplying the product will have higher prices and higher margins. Conversely, if a company sells to a few large buyers, those buyers will have significant leverage to negotiate better pricing. Similarly, the bargaining power of customers determines how much customers can impose pressure on margins and volumes.
There is one system use by AirAsia which is named Yield Management System. This is also known as Revenue Management System; it understands, anticipates and reacts to the behavior of customer to maximize revenue for the organization.
This takes into account the operating costs and aids AirAsia to optimize prices and allocate capacity to maximize expected revenues. The optimization is done on two levels in AirAsia which are seat and route.
Every seat is considered an opportunity to maximize revenue. Seats are available at various prices in different points of time. A reservation done at a later date will be charged more than the one done earlier. For routes, it can be done by adjusting prices for routes or destinations that have a higher demand when compared to others. The effective method however is to combine these two levels for all flights, all routes so that both the seat and the route are effectively priced for all the flights.
AirAsia has realized increased revenue (3-4%) for the same number of aircraft by taking advantage of the forecast of the high/low demand patterns, effectively shifting the demand from low period to high period and by charging a premium for late bookings.
Bargaining Power of Suppliers
The term ‘suppliers’ comprises all sources for inputs that are needed in order to provide goods or services. Buyer power looks at the relative power a company’s customers has over it. When multiple suppliers are producing a commoditized product, the company will make its purchase decision based mainly on price, which tends to lower costs. On the other hand, if a single supplier is producing something the company has to have, the company will have little leverage to negotiate a better price.
Size plays a factor here as well. If the company is much larger than its suppliers, and purchases in large quantities, then the supplier will have very little power to negotiate. Using Wal-Mart as an example, we find that suppliers have no power because Wal-Mart purchases in such large quantities.
It’s important to analyze these five forces and their affect on companies we want to invest in. The Porter Five Forces Analysis will give you a good explanation for the profitability of an industry, and the firms within it. If you want to know why a company is able or unable, to make a decent profit, this is the first analysis you should do. In such situations when the supplier bargaining power is likely to be high, the buying industry often faces a high pressure on margins from their suppliers. The relationship to powerful suppliers can potentially reduce strategic options for the organization.
To overcome this problem, AirAsia has recently (May 2005) opted for a full fledged ERP system
implemented by Avanade consultants. By implementing this package AirAsia is looking to successfully maintain process integrity, reduce financial month-end closing processing times, and speed up reporting and data retrieval processes. (Microsoft Malaysia)
Supplier concentration in a few hands. The supplier of airline companies is the fuel supplier, foods supplier, merchandise supplier and aircraft supplier. There are few suppliers in the market, eg the aircraft supplier, the companies are either Airbus or Boeing. In this case the power of supplier is strong. Other supplier like foods supplier and fuel supplier, the term of the supply must be based on the market condition. The supplier cannot increase too much of its price or risk losing long term business with the aircraft companies.
ii) High switching costs. Most of Airasia’s aircraft are Airbus models. Previously the company used Boeing models, which they lease it and the company had since phased out most of the models and replace with Airbus. If Airasia is to switch to Boeing again, then the cost will be high, because training cost for employees to suit the aircraft features must be provided. Other than that, the technology used by Airbus is the most advanced, thus Airasia must rely to the Airbus engineers to do maintenance of the aircrafts and seek advices. Thus, bargaining power of suppliers is strong.
From the analysis model, it is possible to conclude that supplier power is high due to monopolization of the industry by Boeing and Airbus. However, this is countered by the relative poor performance of airlines in the recent past. Although there are only two companies to purchase or lease airplanes from, the global crisis has limited new entrants into this market and reduced upgrading of planes for the immediate future.
The recent surge in fuel prices in 2008 forced airlines to reduce costs wherever possible in order to survive. Fortunately, AirAsia already had the lowest operating costs of any airline in the world. However, this did not stop AirAsia looking into ways of avoiding potential problems in the future. The need for more fuel-efficient airplanes is now an integral part of reducing costs in the aviation industry.
AirAsia recently secured the purchase of fifteen new Airbus A320-200 planes with financing help provided by Barclays Capital. These newer planes are technologically advanced in various departments:
1. Lower fuel burn.
2. Lower maintenance costs.
3. Increased capacity.
4. Wider cabins.
5. Larger cargo payloads.
6. Cabin equipped with state-of-the-art touch screen management system.
7. Enhanced entertainment system.
The Airbus A320-200 will allow AirAsia to operate at lower costs due to the reduction in fuel charges and operating costs. In addition, they will be able to increase capacity on flights and maximize profits per flight.
IT = Hardware + Software + Database + Telecommunication + Network
IS = IT + People + Data + Procedures + Management
One of the defining characteristics of competitive advantage is the industry’s barrier to entry. Industries with high barriers to entry are usually too expensive for new firms to enter. Industries with low barriers to entry, are relatively cheap for new firms to enter. The threat of new entrants rises as the barrier to entry is reduced in a marketplace. As more firms enter a market, you will see rivalry increase, and profitability will fall theoretically) to the point where there is no incentive for new firms to enter the industry.
Here are some common barriers to entry:
Patents – patented technology can be a huge barrier preventing other firms from joining the market.
High cost of entry – the more it will cost to get started in an industry, the higher the barrier to entry.
Brand loyalty – when brand loyalty is strong within an industry, it can be difficult and expensive to enter the market with a new product.
Threat of New Entrants
The competition in an industry will be the higher, the easier it is for other companies to enter this industry. In such a situation, new entrants could change major determinants of the market environment (e.g. market shares, prices, customer loyalty) at any time. There is always a latent pressure for reaction and adjustment for existing players in this industry. The threat of new entries will depend on the extent to which there are barriers to entry. These are typically:
• Economies of scale (minimum size requirements for profitable operations),
• High initial investments and fixed costs,
• Cost advantages of existing players due to experience curve effects of operation with fully depreciated assets,
• Brand loyalty of customers
• Protected intellectual property like patents, licenses etc,
• Scarcity of important resources, e.g. qualified expert staff
• Access to raw materials is controlled by existing players,
• Distribution channels are controlled by existing players,
• Existing players have close customer relations, e.g. from long-term service contracts,
• High switching costs for customers
• Legislation and government action
There is a high barrier entering airlines industry since it requires high capital to set up everything such as purchase or lease air craft, set up office, hire staffs, and etc. Thus, this has reduced the treat to Air Asia. Moreover, brand awareness is quite important in this industry. Thus, to enter this industry not only required high capital but also have to take some time to create brand awareness. Consumers always choose the product or service they really trust. Thus, instead of creating brand awareness, new entry has to create so called brand loyalty. Hence, this is reducing treat to Air Asia too.( Roy L. Simerly) However, the government legislation is one of the barriers for entering airlines industry. For example, MAS has been protected by Malaysia government on the route to Sydney and Seoul Incheon. Therefore Air Asia find itself very difficult getting a new route from government. This not only affects the timeline set by Air Asia but also influence their profit.
Finally, the threat of new entrants is moderately in AirAsia’s favour at present. The high capital requirements and start up capital prevents many entrants. In addition, AirAsia’s current leading role and favourable brand awareness make it a first choice amongst the current competition. However, potential new entrants from full service carriers could be threats in the future and long term.
Computer Reservation System (CRS)
AirAisa uses CRS provided by Open Skies by Navitaire, and it has had a huge impact on the operating procedure for AirAsia.
“Navitaire’s Open Skies technology has truly enabled AirAsia’s growth from 2 million passengers to 7.7 million passengers in less than two years. Open Skies scaled easily to accommodate our growth.”
pen Skies is ‘an integrated web-enabled reservation and inventory system suite that includes Internet, call center, airport departure control functionality and more.’ (xviii) In essence, it is a system that allows AirAsia to effectively by-pass the middlemen, in this case travel agents, and deal directly with the customer; thus, eliminating sales commissions paid to the travel agents. Customer data is centralized and helps AirAsia to track bookings and schedule flight activities in response to needs in real-time. Furthermore, the Open Skies system integrates with the already implemented YMS, so that both systems can be used in unison to maximize pricing and revenue, by providing information on bookings and schedules, and lowering costs of operations at the same time.