Its the weekend!
Grab a cup of coffee, in this thread I will explain
1. What are Porter's 5 Forces?
2. How to use them while analyzing a business?
3. What information can they tell you about a business
We will be analyzing Divis Labs as an example.
Lets dive right in.
Grab a cup of coffee, in this thread I will explain
1. What are Porter's 5 Forces?
2. How to use them while analyzing a business?
3. What information can they tell you about a business
We will be analyzing Divis Labs as an example.
Lets dive right in.
Michael Porter, is a business and economics professor at Harvard Business School. He is the author of more than 20 best sellers, all written on the topics of competitive advantage, his expertise.
He is most famous for his work on 5 force model which was first published in 1979.
He is most famous for his work on 5 force model which was first published in 1979.
Porter's 5 Force model is used to identify competitive advantages a company has amongst its peers and in an industry it operates in.
A simple 5 point analysis can help anyone determine whether a company enjoys certain advantages that its peers do not have.
A simple 5 point analysis can help anyone determine whether a company enjoys certain advantages that its peers do not have.
By analyzing how competitive an industry is, we can determine the level of profitability a company can achieve.
High Competition = Low Profit
Low Competition = High Profit
High Competition = Low Profit
Low Competition = High Profit
Michael Porter divided the ability to determine competition in an industry and competitive advantages a company enjoys into 5 main parts.
1. Bargaining Power of Buyers
2. Bargaining Power of Suppliers
3. Threat of New Entrants
4. Threat of Substitutes
5. Competitive Rivalry
1. Bargaining Power of Buyers
2. Bargaining Power of Suppliers
3. Threat of New Entrants
4. Threat of Substitutes
5. Competitive Rivalry
Let's dive into each of these in detail with the example of Divis Labs.
One of the few companies in the world, that excels in all 5 forces in Michael Porter's model.
One of the few companies in the world, that excels in all 5 forces in Michael Porter's model.
1. Bargaining Power of Buyers
This means if there are limited consumer of products that a company produces then it has to depend on those consumers for its sales.
Limited consumers also mean that they have higher power to force the company to set favorable prices.
This means if there are limited consumer of products that a company produces then it has to depend on those consumers for its sales.
Limited consumers also mean that they have higher power to force the company to set favorable prices.
Divis Labs produces APIs for pharma companies that further use these APIs to make formulations.
For each of its API products, Divis has the luxury to choose its customers.
There are thousands of companies in the world that wants products produced by Divis Labs.
For each of its API products, Divis has the luxury to choose its customers.
There are thousands of companies in the world that wants products produced by Divis Labs.
Since there are many consumers of the products, Divis Labs does not have to worry about giving discounts or favorable pricing to any of them.
If a certain customer leaves, Divis can simply replace that customer which another.
If a certain customer leaves, Divis can simply replace that customer which another.
Limited Power of Buyers to Bargain Prices = High Profitability
High Power of Buyers to Bargain Prices = Low Profitability
High Power of Buyers to Bargain Prices = Low Profitability
2. Bargaining Power of Suppliers
This means if there are many suppliers of the same product,then the company will face challenges in raising prices of its products
More Suppliers = Low Power to Raise Prices = Low Profit
Less Suppliers = High Power to Raise Prices = High Profit
This means if there are many suppliers of the same product,then the company will face challenges in raising prices of its products
More Suppliers = Low Power to Raise Prices = Low Profit
Less Suppliers = High Power to Raise Prices = High Profit
Divis is also backward integrated. It does not depend on any supplier to source its raw material from.
This protects the company from any sudden and uncontrollable increase in raw material prices.
Divis passes on this benefit of low raw material cost to its final products.
This protects the company from any sudden and uncontrollable increase in raw material prices.
Divis passes on this benefit of low raw material cost to its final products.
3. Threat of New Entrants
This relates to barriers of entry in the industry
If its difficult for other players to enter and produce the product manufactured by a company then there are high barriers to entry which lead to high pricing power = to higher profitability.
This relates to barriers of entry in the industry
If its difficult for other players to enter and produce the product manufactured by a company then there are high barriers to entry which lead to high pricing power = to higher profitability.
In case of Divis, it is the dominant manufacturer in some of the APIs its produces.
Take for example, Naproxen. An API used in pain reliver medication.
Divis has almost 90% of the global market share in this API.
90% !
Take for example, Naproxen. An API used in pain reliver medication.
Divis has almost 90% of the global market share in this API.
90% !
Here is Amazon selling a generic Naproxen medication. There is a high chance that API for this was supplied by Divis Labs.
Here is Walgreens supplying the same medication. Again a very high chance that API for this also came from Divis Labs.
It doesn't matter who is selling the end product. The key material required to manufacture that is dominated by Divis Labs.
No other manufacturer in the world can compete with that kind of market share and as such barriers to entry remain high giving Divis complete pricing power
No other manufacturer in the world can compete with that kind of market share and as such barriers to entry remain high giving Divis complete pricing power
4. Threat of Substitutes
In some industries, threat of substitute products is high.
For example, if Coke reduces its prices to Rs 50 then even Pepsi has to.
If Jio gives free data then Airtel and Vodafone has to as well.
In some industries, threat of substitute products is high.
For example, if Coke reduces its prices to Rs 50 then even Pepsi has to.
If Jio gives free data then Airtel and Vodafone has to as well.
Because there are substitutes available, these products are classified as commodities.
High Availability of Substitutes = Lower Pricing Power
Low Availability of Substitutes = Higher Pricing Power
High Availability of Substitutes = Lower Pricing Power
Low Availability of Substitutes = Higher Pricing Power
In case of Divis Labs, there are no substitute products available.
Taking example of Naproxen from above, to manufacture a generic pain reliver, you need the API supplied by Divis who also happen to control 90% of the world's market share of the API.
Taking example of Naproxen from above, to manufacture a generic pain reliver, you need the API supplied by Divis who also happen to control 90% of the world's market share of the API.
Because there are no substitutes available, Divis enjoys pricing power.
It can choose to raise prices tomorrow by 10% and none of its customers will protest the price increase.
It can choose to raise prices tomorrow by 10% and none of its customers will protest the price increase.
5.Competitive Rivalry
If there are too many players producing the same product then they will keep undercutting each other to gain market share even if that means they have to bear losses in the interim.
If there are too many players producing the same product then they will keep undercutting each other to gain market share even if that means they have to bear losses in the interim.
A prime example of this was the telecom industry of the last decade.
There were more than 10 telecom operators all fighting with each other for market share.
There were more than 10 telecom operators all fighting with each other for market share.
When the rivalry among competitors is high = Price erosion happens
Players keep undercutting each other and eventually many go bust.
Look at the telecom operators went bust in last 10 years.
Players keep undercutting each other and eventually many go bust.
Look at the telecom operators went bust in last 10 years.
Such an industry eventually consolidates and turns to an oligopoly where few players control the market.
Similar scenario played out in food delivery space globally and in India.
Look at the food delivery companies that are either closed or merged with bigger companies.
Similar scenario played out in food delivery space globally and in India.
Look at the food delivery companies that are either closed or merged with bigger companies.
In case of Divis, it faced rivalry when it first entered into the market. But, because Divis is backwards integrated and only enters into products where it has a competitive advantage, it is able to beat existing players easily and gain market share till it becomes the top player
Divis Labs is now getting into contrast media. These are agents used in medical imaging.
Contrast media is a 6 Billion USD per year industry and has players like GE Healthcare.
I believe Divis will dominate this sector too in next few years.
Contrast media is a 6 Billion USD per year industry and has players like GE Healthcare.
I believe Divis will dominate this sector too in next few years.
So those were the Porter's 5 Forces.
Using them while analyzing any company can help you determine its competitive edge.
Companies that enjoy high competitive advantages command higher valuations.
Now you know why Divis sells for such high multiples.
Using them while analyzing any company can help you determine its competitive edge.
Companies that enjoy high competitive advantages command higher valuations.
Now you know why Divis sells for such high multiples.
If you find this thread useful then follow me @itsTarH
I write a new thread explaining investing concepts every Saturday.
All my previous threads, can be found here.
I write a new thread explaining investing concepts every Saturday.
All my previous threads, can be found here.
https://twitter.com/itsTarH/status/1401095938945425410?s=20
Please retweet this thread for a wider reach.
I sometimes write long form articles, researching into various industries, companies and concepts in personal finance here.
Subscribe for free, if you're interested.
investkaroindia.substack.com/p/coming-soon
I sometimes write long form articles, researching into various industries, companies and concepts in personal finance here.
Subscribe for free, if you're interested.
investkaroindia.substack.com/p/coming-soon
Also, teach a data visualization course here, to help visualize numbers just beyond an excel sheet.
You can get a free 14 day trial by signing up here
skl.sh/2XNug6A
You can get a free 14 day trial by signing up here
skl.sh/2XNug6A
Thank you for reading.
Leave a comment on what other companies you have come across that exhibit high competitive advantages on Porters model.
Here is one for you, Vinati Organics.
See you next Saturday.
Leave a comment on what other companies you have come across that exhibit high competitive advantages on Porters model.
Here is one for you, Vinati Organics.
See you next Saturday.
• • •
Missing some Tweet in this thread? You can try to
force a refresh
