Porter’s Five Forces Analysis
A strategic framework has been developed by Michael Porter to analyze any industry in terms of threats that limit its profitability. This framework was revolutionary when it first came out in 1979 and “has brought […] economic rigor to the study of competitive strategy for corporations (Porter, 2008, p. 79)” over the following three decades. It goes beyond everyday competition that is usually the primary concentration of managers. The elements of the framework, referred to as “Porter’s Five Forces”, are: the threat of new entrants, the bargaining power of buyer and supplier, the threat of substitute and the rivalry among existing competitors. The Five Forces analysis can be used to analyze any industry. Every industry will have varying configuration of these forces with the strongest force being the primary driver that is affecting profitability (Porter, 2008, p. 79).
Since Porter’s analysis has been proved to be a useful tool in business world, it is appropriate to use this framework for analysis of the architecture industry to determine the critical forces that lower profitability. This industry will not seem attractive considering the statistics discussed earlier in this report. However it will enable managers “to understand the underpinnings of competition and the root causes of profitability” (Porter, 2008, p. 87). This understanding is a starting point for analyzing existing strategies and creating new ones. It is also a starting point for comparison between industry forces and strength or weakness of the positioning strategy that will be discussed in next chapter.
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Porter prescribes the steps for industry analysis that this research will follow. These are: defining the industry, identifying the participants, underlining drivers of each competitive force and looking at changes in each force (Porter, 2008, p. 92).
Defining the Relevant Industry
In a nutshell, the architecture industry provides the services of designing buildings, making detailed drawing sets that represent the design as well as leading building consultants such as engineers. It must be noted that the paradigm has been changed in the 20th century from a product based practice to a service based practice (AIA, 2002, p. xxxviii). Architects work closely with other entities like construction companies, engineers, building departments, and clients that are either firms or individuals. The industry is related to disciplines like art and history, and has a global scope of competition.
Identifying the Forces
Buyers are the clients that request architectural service. Clients can be either public, like government, or private, like business or households. They can have different cultural background and different social position. These factors influence their desires and needs in architecture. Clients are on the demand side, and the demand of construction in developed countries like the US has stopped growing. A graph made by AIA on number of billings from late 90’s to today shows a small decline, not considering recessions (Perry, 2013). See Figure 2.
IBIS World report stated -5.6% net growth from 2008 to 2013 (IBISWorld, 2013). The situation is not attractive; the number of clients is declining causing high competition among industry players.
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I have interviewed a group of architects in the US and overall, everyone agreed that the bargaining power of the buyer is one of the strong driving forces in the architecture industry.
Consequently, in order to pacify the strong power of the buyer an architecture firm can either find ways to eliminate the buyer from the equation altogether, or to establish a long lasting relationship with the buyer.
Suppliers are the employees of an architecture office, as well as consultants and vendors such as software manufacturers, and office suppliers. Employees are architecture professionals of different levels starting from internship, moving through the ranks to being a project captain and finally becoming a project architect. Also, employees are IT and accounting personnel in the office. Considering the fact that unemployment in the architecture industry is higher than average unemployment in the US, the supply exceeds the demand and firms have a choice as to who they hire and how much they pay them. One may think that because the industry is not very attractive to go into, there will be fewer people entering it. I believe this is not the case. Most architecture students that I studied with at Berkeley were studying because they were passionate about it. Our professors told us that only a handful of the class will enter the profession because of low demand. However, this did not stop most of us from trying to enter despite the continuous efforts of our educators to discourage us. From my experience and talking to other architects of various levels in their careers, there will be young people willing to enter the profession if there is enough demand.
The bargaining power of consultants depends on their availability: if they are scarce, they will have high bargaining power; if they are widely available, they will have low bargaining power. The software manufacturers currently have a lot of power. The leading software packages Revit and AutoCAD are owned by Autodesk (the industry leader) that sets high prices compared to less popular software. Because of its popularity, a lot of offices are dependent on Autodesk and will not switch. This reinforces their bargaining power.
Overall suppliers are an important force, but it is not as powerful as the power of buyers.
Consequently, currently there is no need to address the bargaining power of the employee, as this increases with demand, but there is a need to select the software in such a way that the office can afford depending on it and to establish contacts with consultants that the firm needs.
Substitutes are present in some market segments but not in others. The residential market, for example, has substitutes of clients buying turnkey houses and not hiring architects. It must be noted that at some point there could have been an architect involved in developing original blue prints. However, in this building type the law does not require the presence of an architect. Another substitute in housing market is for the owners to design and build their own houses. Most frequently people buy pre-built houses because hiring an architect or building yourself is expensive, and it may be more difficult to sell a house designed to individual needs. However, some commercial segments such as the healthcare or sports markets do not have substitutes due to the nature and complexity of these building types. Based on my professional experience there is another substitute – the technology. The software is getting more and more advanced. In our lifetime I see it possible for the software to check if a building is code compliant, which is a significant part of billable time in architecture business today. I see a potential of technology helping architects with much more than that. I think it is possible to program a computer to do what architects do. The work of designing a building is logical and various popular aesthetic styles have logic as well. Despite this I believe that as long as people need buildings to live and work in there will be a need for architects. The profession will change as it has over the span of human history, but it will stay. It is just important for managers to see the changes and stay up to speed with them.
To conclude, this force [Substitutes] can be strong depending on the market and firm types, but the general trend is that the architect is losing the central role in the project management and the contractor is obtaining it.
A firm can choose to fight this or follow it, but it seems that for the firms who want to stay involved with the process it may be better to join efforts with a contractor and work as one firm instead of being separate entities.
A firm can choose to fight this or follow it, but it seems that for the firms who want to stay involved with the process it may be better to join efforts with a contractor and work as one firm instead of being separate entities.
New Entrants are architects that open new firms. However, there are relatively high entry barriers that benefit the incumbents. First of all, established firms have a reputation which is the primary way of getting a new project. Without a reputation, new firms may sit without work and have to close. Second of all, a new firm needs the capital to employ staff, lease or buy equipment and office space. If the owner does not have original capital the bank will not provide it unless there are clients lined up. In turn, the client usually will not be willing to hire a firm that does not exist yet. Lastly, there are high risks associated with having an architecture firm because of high expenses of construction mistakes.
In summary this force [New Entrants] exists, but it is not significant. Many small startup architecture firms are stuck trying to cross the barriers to enter the field and bust their profitability. I see the difficulty to enter as a problem for those small firms that are right on the edge and only get projects occasionally.
Competition is tough among the existing firms due to lower demand than supply, it is “cut throat”. In a big picture every firm competes against one another since architects are trained to handle any building type. As the view narrows some architects choose not to work on certain building types because they may not consider it prestigious (for example parking lots). In the markets that are less interesting the competition will be less. Also, some building types are very complex and not all architects have the chance of getting a project like a hospital without experience in the market. Therefore, they may not try to compete. Once you look into established building markets, the competition is high among a few specialized firms. In a hypothetical market, if the demand increases and exceeds the supply, there will be other architecture firms that will adapt to the new market and enter it.
One particular firm type that will have less competition is the design firm type, and it will be discussed later. These are well known architects like Frank Gehry. They compete less on price and more on image. If a client wants a Frank Gehry building they will only get it at his office. Usually, in these firm types, the clients come to the architect and not the other way around. However, most architects do not enjoy this situation. Thus, competition is related to demand and when there is low demand competition is strong. If the demand is high, unlike some other industries no outsider will open a business because education and training that is required to be an architect before opening the office is lengthy. In time of high demand architecture firms can raise fees and enjoy larger profits.
Socio-Demographic Trends in the US
Now that we have discussed the forces that affect the industry, let’s take a brief look at the socio-demographic trends that also have an influence on architecture. These trends can be major factors in forming a strategy for an architecture firm that later is transformed into its business model. If a firm finds itself being a pioneer in a new market by picking up on the new trend, it can avoid the severity of some of the forces discussed in the previous chapter. Furthermore, considering socio-demographic trends that have not been addressed before could be a way for small architecture firms that are in the startup phase to transition into a mature phase and be profitable.
Currently, the US is seeing some changes in the population diversity mix and size. According to the Congressional Research Service of the Library of Congress the US population is growing, it is becoming older and more diverse (Shrestha & Heisler, 2011). The population in the US is 308.7 million persons, which has doubled since 1950, and will continue growing to approximately 438 million people in 2050. Also, the population is getting older. Predictions indicate 20 percent of whole population to be above 65 years old in 2050 compared with 12.4 percent in the year 2000. In addition, racial diversity will increase. The Hispanic population will grow, the White populations will decrease, the Asian population will grow and Black population will stay constant. It must be noted that currently 92 percent of architects are White (Klein, 2010), and it is possible that the lack of racial diversity in the industry is a missed opportunity because of untapped talent pool.
Aside from growing and becoming more diverse, people are also choosing to live their lives differently. The signs of social and environmental responsibility as well as the search for better work-life balance and emphasis on personal well-being are more visible than ever. People want to live healthier and happier lives, -- hence McDonalds now has salads and employees want to get satisfaction and fulfillment out of work and not only pay. In addition people realized that their actions impact the world as a whole, and now take measures to reduce the negative impacts both social and environmental. This paradigm change directly influences architecture. To make it more convenient and enjoyable for people to lead a healthy lifestyle the restaurants, grocery stores and athletic facilities have changed and thus the building design has changed. But this is only the façade. The building materials have also changed through new environmental standards that support healthier lifestyle locally and globally. And finally, the city planning has changed to support the new urbanism that brings people back to the cities where they can live healthier and harm the environment less than in the suburbia (Moore, 2003).
Going along with these lifestyle choices is a choice to work differently. It is becoming more and more popular to telecommute (Cox, 2009), leading toward changes in configurations of office space, housing and the coffee shops where the telecommuters tend to crowd. Also, now that the millennials are becoming a big part of the workforce they are bringing their attitudes of having fun in the workplace (Klein, 2010), leading to yet more changes in workplace layout and design -- hence, no more cubicles.
The transformation is not complete yet, but it is heading in this direction and there will be more demand for architects specializing in building types related to the current and upcoming trends. However, it is possible that non-architects will see the opportunities first and take away the potential new markets, like LEED APs with no architecture background.
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