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Research Project #2: Porter’s Five Forces Applied to the US Auto Industry Ty Webb State University ECON 600 Dr. Frederic (2. ) Abstract This report focuses on the identification, analysis, and application of Porter’s Forces to the United States automobile industry. The report focuses on the application of Porter’s Five Forces to the industry as a whole, and is broken down into the individual applications of each force. Sources used in the production of this report are drawn from many disciplines and range from encyclopedia-based data, government reports, widely published periodicals, to industry opinions.
The goal of the report is to give the reader a clear concise understanding of the US auto industry and a general picture of how Porter’s Five Forces are a relevant comparison tool for each aspect of the industry. (3. ) Introduction to the US Auto Industry (3. 1) Industry Defined The definition of the United States automobile industry is defined by its history and its evolution from the late 19th century to modern times. The industry dates back to the late 1890’s when early pioneers like Ransom Olds and Henry Ford engineered and refined automobile production and evolved the way people traveled.Through the wide spread and growing use of mass production, assembly line techniques and parts innovations, the eagerly thriving US auto industry grew rapidly. By 1920, the industry had three major firms to emerge as leaders in the industry.
These three firms were Ford, General Motors, and Chrysler. Henry Ford’s company was the first firm to use assembly line methods to mass produce automobiles for widespread delivery. Mr. Ford also was a pioneer in the consumer lending area that allowed hard working American families to borrow money to help purchase their vehicles.
Ransom Olds became a pioneer in the early parts development as he made mass produced auto parts that were interchangeable and thus allowing people to more easily repair their autos (“Industry History”, 2007). A more modern definition if the US auto industry is found to have the old reliable firms, combined with a growing foreign segment. The stark contrast between pre and post World War II industries is a polar opposite and so is the make up of both markets. Production of the vast majority of autos assembled and produced in the US prior to World War II was confined to the three major companies: GM, Ford, and Chrysler.However, smaller independent domestic companies such as Hudson, Studebaker, and Nash thrived in niche markets with particular vehicles. Through the 1960’s to present times is when the domestic market changed altogether. The introduction of the Japanese companies Toyota and Honda changed the market forever and introduced new players into the market that have made profound impacts (“Industry History”, 2007).
(3. 2) Industry Profile The current domestic automobile profile has both similar characteristics to the pre and post World War II industries.The similar characteristics center around the fact that the “Big Three” are still the three main American firms producing and selling automobiles. The market also shows the diversity of the post World War II market due to the fact that eleven foreign auto firms have assembly plants in the US and produce thousands of autos annually. The current domestic market vastly expands upon the original domestic producers, and even so much, as to allow these foreign producers to have growingly important market shares.
To illustrate these assertions in a more concrete manner, the Wall Street Journal’s Markets Data Center produces results that might shock the average consumer (“Markets Data Center”, 2011). According to data published in the Wall Street Journal as of May 2010, 10 of the top 20 cars ranked in order of total sales were produced by foreign firms. In other words, 50% percent of recent auto by popularity are made by non-American firms.
To illustrate this point further, foreign firms made up two of the top five auto manufactures in the US by total sales volume as ofMay 2010, as well. The domestic firms GM, Ford, and Chrysler were identified to almost no ones surprise, and Honda and Toyota rounded out the figures (“Markets Data Center”, 2011). These figures probably come as no surprise by current market standards and expectations; however, these figures also suggest and demonstrate an important shift in the US auto industry in general. No more are the days of the “Big Three” and their dominance of the market without foreign influence and challenge.The US auto industry is alive and thriving with an abundance of oversea firms and production that has captivated and elevated the consumer auto market domestically and will continue to do so for the foreseen future. (3.
3) Market Structure The current structure of the US auto industry is a who’s who of Fortune 500 companies, with long track records of success, and gold mines of innovation. The current market structure in place has many of the same foundations as the industry of the pre World War II era, with some important foreign additions from Japan and other countries (“Markets Data Center”, 2011).In 2010, over 28 automobile firms registered sales within the United States. The total number of foreign firms doing business in the US was 25. To make the point more saliently, 90% of all firms selling autos within the US are from foreign soil. This number is a stark contrast to what the industry looked like in the pre World War II era, and is probably hard to imagine for the average consumer.
However, the top producers in the US market are still domestic companies: GM, Ford, and Chrysler.However, within many sub-categories of sales, foreign producers are dominating; namely Toyota and Honda. This is largely due to the fuel efficiency innovations that these two firms have refined and upgraded over the last decade.
Combine that with the volatile price of fuel, and the high prices levels in recent years, and you have a perfect opportunity for new entrants and dominance within these categories (“Markets Data Center”, 2011). (4. ) Porter’s Five Forces Model to the American Automotive Industry (4. 1) Buyers Bargaining PowerHistorically within the US auto industry, the consumer was a willing participant and had little choices to choose from when it came to owning a vehicle.
These choices grew steadily after World War II, and have steadily risen in the last few decades. However, these choices do not necessarily translate into real bargaining power. For instance, if the American consumer is weary of domestically produced vehicles, he or she has the ability to choose from a wide selection of foreign produced autos such as Toyota and Honda.This may better be identified as substitution rather than real bargaining power, but the bottom line may be the same: the consumer can decide for himself what he wants and where he wants to get it (“The Industry Handbook: Automobiles”, 2011).
Real bargaining power occurs when economic conditions make it hard on the auto manufactures to sell their new inventories. For instance in 2008-2009 when the American economy took a drastic change for the worse, the “Big Three” in Detroit were in dire straits. Chrysler filed for Chapter 11 bankruptcy protection, GM was on the ropes, and Ford was just barely making ends meet.Inventories were stacking up, demand bottomed out, and the federal government had to step in and bail out the entire industry.
Despite all of the gloomy happenings, the American auto buyer was in an advantageous position to get the best deal on a new vehicle (Selbst, 2009). According to Michelle Krebs with AutoObserver. com, a report published by Edmonds suggested the average new car incentive was $3169. 00 for the first quarter of 2009, up sharply at 30% above 2008 numbers. This clearly illustrates that the average consumer was in the “driver’s seat” when purchasing a new car.For all others, the stockpile of used cars was plentiful, and used car lots all over the country were full of inventory that needed to be moved (Krebs, 2009). (4.
2) Supplier Power According to Porter, suppliers in any industry can be powerful if they exert some control over the raw materials of an industry and can sell those goods at a premium price. Other conditions that can aide in supplier power include: weakened customer bases, concentrated supplier to a specific industry, and when supplier buy commodities, such as store brand products (“Porter’s Five Forces”, 2010).These same guidelines apply to the US Auto industry. In many circumstances, the suppliers’ power is limited to the above mentioned conditions, and in the current sales climate seldom occurs. More often than not in today’s market, extreme competition exists in the parts and tire markets and suppliers must walk a fine line between relevance and exclusion. For instance, in recent years a handful of established parts and tire companies that customarily have served GM, Ford, and Chrysler have filed for bankruptcy protection due to the stagnant economy and weakened demand for new vehicles.Companies such as Tower Automotive, Uni Boring, and Meridian filed for bankruptcy protection due to lack of demand for autos, and long established companies such as Delphi and Visteon were not far behind.
It is these situations that illustrate the fragile nature of the industry and the dependence on demand for their success (Freeman, 2005). (4. 3) Competitive Rivalry Competition exists within the US auto industry at every level. Not only do firms compete with one another to produce and sell more autos, competition exists with suppliers for a wide array of add-ons that go into the autos produced.More often than not, the average consumer thinks of auto competition when he picks up the Saturday paper and reads all of the auto sales ads and gets to compare prices and offerings. However, the average consumer probably would not offer a thought to the struggles and successes of South Korean tire manufacturer Kumho.
Over the last few years, the South Korean company has clawed and scratched its way into the main stream American car industry by winning contracts with the “Big Three”. Their latest success came with an award of contract for the Ford Focus.The company’s 215/45R17 Solus tire will be mass produced for the Focus and hopes to enhance and refine the riding experience for both driver and passenger.
Fighting the likes of Goodyear, Michelin, and Firestone was not an easy task, but Kumho cut profits and demonstrated the ability to get serious about a long term investment in the American car market by announcing a plant opening in Georgia. This clearly demonstrates the level of competition from fringe companies that supplies parts to the assembly process (“Kumho Tires Wins Ford Focus”, 2008).Another area of competition within in automotive industry that is growing rapidly is the technology department. Ford in recent years has unveiled its Sync system and announced an upgraded interface system that will be operated by a Microsoft application. The ability for software companies to compete for major auto contracts is on the rise and given the state of technology and the demand for a higher level of technology in all aspects of life, it should come as no surprise that many companies will compete for the chance to offer the next big idea in automotive technology.Ford’s Bluetooth system allows for the driver and occupants to access hand free voice recognition systems that allow for music, gps, and hands free calling to take place. No less than 10 companies were in the bidding arena for Ford’s favor, and the ultimate decision factor was Microsoft’s notoriety and long track of success that allowed for them to win the contract.
Also, it is no doubt a positive that due to Microsoft’s size and lower marginal costs associated with these systems that gave them another advantage over the competition (Stoll, 2006). The area of competition also extends into the market share area.According to reports made available to the Wall Street Journal, from May of 2010 to May of 2011, the American “Big Three” kept a strong foothold on their domestic sales market share. According the report, GM leads the way with a 20% market share.
They were followed by Ford with an 18% market share, slightly up from 17% in 2010, and they are followed by Chrysler, who reported an 11% market share, again slightly up from a 9. 5% mark in 2010. The competition that faces the American producers comes from Japan, namely Toyota and Honda. During the same time frame, both Toyota and Honda’s sales market share dropped slightly.However, their decreased sales figures should not give the American producers any long term comfort as the Japanese have long been pioneers in cutting edge technology and have the ability to recapture market share with innovative products (“Market Data Center”, 2011). (4.
4) Threat of New Entrants The threat of new entrants into the US auto industry has been experienced for decades and is continuing on a diminished scale. During the late 1960’s through the 1980’s Japanese firms such as Toyota, Honda, Nissan, and the now defunct Datsun were the new kids on the American block.Their smaller and generally more economic designs were accepted into the American mainstream auto culture and continue to be an integral part of the US auto industry. Furthermore, due to the recent volatility of crude oil prices and the corresponding price of fuel, these Japanese firms have regained new relevance in the car markets due to their innovation in electric and hybrid engine technology. In the earlier parts of the decade, Toyota led the way in hybrid technology with its Prius model. Honda followed suit with its Insight model along the same time frame.
While the Prius enjoyed good to moderate sales in the beginning, the Insight struggled to gain popularity. None the less, the domestic firms found themselves struggling for an answer to the Japanese technology. This threat of new entrants into the American market called for the domestic firms to up the ante in the green car market. Combine these facts with the federal government’s new “green” campaigns and tougher emissions standards, the American auto producers had no choice: join the green movement or get left behind (Kaho, 2007). Enter a new contestant in the American car industry: the SmartCar.
With all of the success of Toyota and Honda in the hybrid market, the Mercedes backed product is poised to enter a needy market. With promises of 60 miles per gallon, and a diminutive stature, the SmartCar could have mass appeal for the urban traveler who is hungry for a frugal machine. Its sales figures are to new to get an accurate gauge of its success or failure, and only time will tell if this new entrant will make it or be discontinued (Newton, 2006). (4. 5) Threat of Substitutes The threat of substitutes as they relate to the US auto industry exists, and has fluctuating demands that dictate their relevance.For instance, bicycles, motorcycles, scooters, skateboards, public transportation, trains, ferries, and taxis are all substitutable goods for the manufactured auto industry.
However, the cost of switching to these alternative modes can be expensive, not only in time, but in other intangible areas such as reputation and satisfaction. A consumer that sells his or her car in order to ride a train or ferry to and from a destination gives up the intangible opportunity cost of freedom and self reliance. He or she immediately becomes dependent on the train or ferry’s schedule, operators, and weather.Likewise, the social stigmas that still exist for people that do not own and operate vehicles is alive and well and can implicate a lesser status that an individual actually has (Bradley, et al, 2005). The threat of substitutes also applies to parts industry associated to domestic car production. Since the 1980’s, a surge of aftermarket auto parts demand has fueled millions in sales annually, and has put mainstream domestic auto producers on notice that original equipment manufacturer parts are not the consumers’ only choice.
According to Ed Nelson, the CEO of Rotary Corporation, Inc. the demand for aftermarket parts in the auto and equipment industries is fuel by two main factors: price and quality. According to Nelson, the quality of many aftermarket parts is of equal or higher value than the original parts, and in cases where quality might be marginally lower than original parts; the price savings is attractive enough to aide the consumer’s decision. Nelson also states that due to the consumer’s ownership lifespan increasing, the need for easily accessible aftermarket parts will only continue to increase due to the increased amount of used vehicles on the road (Nelson, 2011).What this all means for new car producers in the US is that aftermarket parts will directly compete for their original replacement parts on a number of vehicles, and if conditions are right, will capture some of their existing market share, thus driving down sales and profits. (5.
) Conclusion The US automobile industry is rich with traditions and history that makes it an indispensable part of the US economy. Driven by consumer demand, and ample supply of firms, the market is one of constant change and challenge, and is one that must occasionally reform itself as a means of self preservation.The established firms within the industry are alive and well after 100 years of service and success in the industry, but are in no way bullet proof from the whims of consumers and the demand the consumers place on the products produced. Unable to stand idly for any amount of time, domestic producers are constantly in a war to keep market share and to gain the next big idea that will bolster them above all competition, both domestically and foreign.The resolve of the industry rests with the loyal patronage that billions of Americans have shown the different firms over the industry’s lifespan, and it is this loyalty and need for automobiles that will keep the industry alive for many more years to come.
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