The Five Forces Model (Threat of Substitutes)

Threat of Substitutes
In general, industries are more attractive when the threat of substitutes is low. This means that products or services from other industries can’t easily serve as substitutes for the products or services being made and sold in the focal firm’s industry. For example, there are few if any substitutes for prescription medicines, which is one of the reasons the pharmaceutical industry is so profitable. When people are sick, they typically
don’t quibble with the pharmacist about the price of a medicine. In contrast, when close substitutes for a product do exist, industry profitability is suppressed because consumers will opt not to buy when the price is too high. Consider the price of airplane tickets. If the price gets too high, businesspeople will increasingly utilize videoconferencing as a substitute for travel. This problem is particularly acute if the substitutes are free or nearly free. For example, if the price of express mail gets too high, people will increasingly attach documents to e-mail messages rather than sending them via UPS or FedEx.
                    The extent to which substitutes suppress the profitability of an industry depends on the propensity for buyers to substitute alternatives. This is why the firms in an industry often offer their customers amenities to reduce the likelihood of their switching to a substitute product, even in light of a price increase. Let’s look at the coffee restaurant industry as an example of this. The coffee sold at Starbucks is relatively expensive. A consumer could easily find a less expensive cup of coffee at a convenience store or brew coffee at home rather than pay more at Starbucks. To decrease the likelihood that customers will choose either of these alternatives, Starbucks offers high-quality fresh coffee, a pleasant atmosphere (often thought of as part of the “Starbucks experience”), and good service. Starbucks doesn’t do this just so its customers don’t go to a different coffee restaurant. It offers the service so its customers won’t switch to substitute products as well. Although this strategy is still working for Starbucks, it isn’t as effective as it once was, given Starbucks’s recent slowdown in its growth rate. Because of this slowdown, Starbucks has been experimenting with offering less expensive coffees while maintaining its commitment to quality and providing customers with what the firm believes is the unique Starbucks experience.