Shreya is the operations manager for an organization that manufactures shoes. After three back-to-back quarters of losses, she has a decision to make. Should her organization continue making leather shoes or take a gamble by switching to nylon?
In the first case, the organization will have a healthy list of suppliers, even though product sales may not improve much. In the second case, the organization will only have a couple of suppliers to choose from, but product sales are likely to increase considerably.
Is opting for more sales while conceding leverage and power to suppliers a wise move? It all depends on how the bargaining power of suppliers plays out for Shreya and her organization in their shoemaking industry.
What Is the Bargaining Power Of Suppliers?
In 1979, Harvard Business Review published an article by Michael E. Porter titled, “How Competitive Forces Shape Strategy”. In the article, Porter came up with his concept of five forces industry analysis—a way of analyzing the competitiveness of industries and their attractiveness for investors. Porter’s concept is based on the observation that varying profit margins between industries can be explained by understanding industry forces. The bargaining power of suppliers is one of the five forces included in Porter’s analysis.
Bargaining power of suppliers meaning can be understood by observing how suppliers can put pressure on organizations by raising their prices, lowering their quality or reducing the availability of their products. Suppliers power is a standard component of business strategies for most organizations.
Different kinds of suppliers—manufacturers and vendors, distributors and wholesalers, independent suppliers, importers and exporters, drop shippers—may make use of the bargaining power of suppliers to change the competitive landscape of an industry.
When Is Suppliers Power High or Low?
Before proceeding to study a supplier power example or figuring out how a bargaining power of suppliers example can explain one of Porter’s five forces in real life, there’s a need to understand how it all works. The following section explains how a series of factors can shape suppliers power:
Supplier power will be high if:
- Switching costs of buyers are high
- Threat of forward integration is high
- Switching costs of suppliers are low
- Buyer relies heavily on sales from suppliers
- Small number of suppliers relative to buyers
- Low dependence of a supplier’s sale on a particular buyer
- Substitutes are unavailable
Supplier power will be low if:
- Switching costs of buyers are low
- Threat of forward integration is low
- Switching costs of suppliers are high
- Buyer doesn’t rely heavily on sales from suppliers
- Large number of suppliers relative to buyers
- High dependence of a supplier’s sale on a particular buyer
- Substitutes are available
The Importance Of Bargaining Power Of Suppliers
Now that bargaining power of suppliers meaning and implementation is clear, it’s time to look at why this competitive force matters to industries.
When there’s a situation of low supplier power, buyers aren’t constrained by suppliers and profitability increases.
However, when there’s a situation of high supplier power, buyers feel the pressure of suppliers and profitability generally decreases. Investment becomes less appealing in such industries. Powerful suppliers can dictate product distribution and availability in markets. Powerful suppliers can also make their products indispensable to an industry. Moreover, suppliers power can be used to negotiate contracts and transactions where the leverage for negotiation is entirely present with the suppliers.
Bargaining Power Of Suppliers Example
Below is a hypothetical case study that acts as a useful bargaining power of suppliers example:
Bolt is an organization that manufactures electric cars and operates in five countries—United States, France, Germany, Canada and South Korea.
For its luxury, state-of-the-art vehicles, Bolt requires lithium, which is an active material in the rechargeable batteries of the cars. Bolt obtains its lithium supply from Extrax, an Australian organization.
While Bolt has tried to negotiate with other suppliers in Chile and China, no collaboration has been formalized till date. Extrax remains Bolt’s only supplier of lithium. In this case, the bargaining power of Extrax over Bolt can be understood as follows:
1. The Number Of Suppliers Relative To Buyers
For this supplier power example, there’s only one supplier, which means that the bargaining power of Extrax is as close to maximum as possible in an industry.
2. Dependence Of A Supplier’s Sale On A Particular Buyer
Extrax doesn’t supply lithium solely to Bolt. It also has other customers in the electric car industry as well as several partner organizations that buy lithium for the manufacturing of mobile phones. In other words, Extrax’s dependence on Bolt is low.
3. Switching Costs For Buyer
Bolt doesn’t have access to any supplier apart from Extrax. This means that switching costs to any potential supplier will be costly and time-consuming, which further increases the supplier power of Extrax with respect to Bolt.
4. Forward Integration
Completing Extrax’s bargaining power as a supplier is the high forward integration in the lithium industry, which means that Bolt needs Extrax far more than Extrax needs Bolt.
Learn The Best Of Bargaining
The bargaining power of suppliers can make or break industries, just like the other four forces analyzed by Porter. To get to grips with how these forces interact and shape businesses, Harappa offers you the Expanding Networks course. With the help of this course, you’ll be able to use collaboration skills as your workplace superpower and build authentic, diverse and mutually beneficial professional relationships. With the help of a world-class faculty and novel learning approaches, you’ll master the art of sustaining and utilizing networks. Join the Expanding Networks course right away and unleash your networking and negotiation skills.
Explore Harappa Diaries to learn more about topics such as Main Objective of Porter’s 5 Forces Model, Leveraging Bargaining Power Of Buyers, Skills Required For Business Development and Importance Of Organizational Behavior to build strong professional networks.