Blog#1: Analyzing the External Strategic Environment and Evaluating Industry Dynamics. David Bermeo

Author: David Bermeo. dbermeo@andrew.cmu.edu

The first task of any strategist is to deeply understand the industry and the environment where the strategy will get deployed. In order to find a strategic position, it is imperative to have a sense of the external factors that will impact them. A classical framework to analyze the industry and environment is "Porter's Five Competitive Forces." Even though this framework is now 40 years old, it has withstood the pass of time, and it is regarded as a pillar of business research and practice. 

"Porter's Five Competitive Forces" presents a broad and comprehensive way to understand competition. Rather than focusing exclusively on understanding how direct rivals may affect your strategy, the framework includes four additional forces that need to be considered. Many resources delve into how to use the framework. For this reason, it would be more valuable to illustrate a high-level analysis of a very particular industry: the remittance industry. For context, remittance companies offer services of sending money internationally; their profits come from transaction fees and foreign exchange rates.

(The analysis is based on my experience as a Regional Product Manager at Remitly)

The threat of new entrants:

"New entrants to an industry bring new capacity and a desire to gain market share that puts pressure on prices, costs, and the rate of investment necessary to compete."

For a long time, the industry was dominated by a handful of brick and mortar players such as Western Union and Moneygram. At that time, the need to have a network of locations that were used to collect and deliver the money prevented new players from entering the market. In the last decade, the use of technology removed the entry barrier, and now there are all-digital players such as Xoom, Remitly, and Transferwise that directly compete with the incumbents. With lower barriers for entry and growing industry, companies in this industry must be alert to the threat of even more new entrants.

The power of suppliers:

"Powerful suppliers capture more of the value for themselves by charging higher prices, limiting quality or services, or shifting costs to industry participants."

Remittance companies are a currency marketplace. They buy currencies from the destination countries and sell them to customers in sending countries. To illustrate: the company buys 1000 Mexican pesos at 80 dollars and then sells 1000 Mexican pesos to customers at 100 dollars. Consequently, the principal suppliers of remittance companies are the banks or financial institutions that sell currencies. 

In this context, the suppliers have immense power and drain a big part of the profitability of the industry. Their power comes from 3 facts:

• The revenue from remittance industry is marginal compared to their core business
• There are no substitutes for currencies
• Forward integration can reshape the market. This situation already happened with a major bank in Mexico, where they now operate as a currency aggregator for all Latin America.

The power of buyers:

"Powerful customers [...] can capture more value by forcing down prices, demanding better quality or more service (thereby driving up costs), and generally playing industry participants off against one another, all at the expense of industry profitability."

In the remittance industry, buyers have little power to influence the market. Although the remittance service is somehow a commodity, and buyers can easily change suppliers, the nature of the business makes them powerless. The buyers of remittances are generally immigrants that are sending money back home. This dynamic forces buyers to accept the impositions of the industry.

The threat of substitutes:

"A substitute performs the same or a similar function as an industry's product by a different means."

For a long time, there have been no apparent substitutes for remittances. This phenomenon is changing with the increasing appeal of cryptocurrencies. Players like Ripple, and now Facebook, are investing in using their cryptocurrencies as a replacement of traditional remittances.

Rivalry among existing competitors: 

"Rivalry among existing competitors takes many familiar forms, including price discounting, new product introductions, advertising campaigns, and service improvements."

Even though the incumbents still hold the majority of the market share, these new entrants are growing exponentially because of their lower prices. Also, the industry has an intense rivalry that can be seen in the marketing campaigns of companies; they try to undermine each other's value proposition to capture a larger group of customers.

Sources: 

The Five Competitive Forces That Shape Strategy (Porter, Harvard Business Review, January 2008)