Bargaining power of buyers

The bargaining power of buyers is also described as the market of outputs. This
force analyzes to what extent the customers are able to put the company under
pressure, which also affects the customer’s sensitivity to price changes. The
customers have a lot of power when there aren’t many of them and when the
customers have many alternatives to buy from. Moreover, it should be easy for
them to switch from one company to another. Buying power is low however
when customers purchase products in small amounts, act independently and
when the seller’s product is very different from any of its competitors. The
internet has allowed customers to become more informed and therefore more
empowered. Customers can easily compare prices online, get information about a
wide variety of products and get access to offers from other companies
instantly. Companies can take measures to reduce buyer power by for example
implementing loyalty programs or by differentiating their products and services.

Bargaining Power of Buyers (=customers)

Where buyers are powerful profits are generally lower. Buyer power can lead to
lower prices or having to increase costs by adding features, services, quantity in
order to sell. Where sellers have too much power over buyers opportunities can
emerge for others.

Bargaining power can be exercised in different ways. We might be talking about

negotiations as such, say a large multi-year supply contract or a supply contract
for smartphone components. Bargaining power can also be exercised indirectly
through purchase decisions of end customers, i.e buying from the lowest-priced
company, deferring the purchase for a prolonged period, buying pre-owned (e.g.
car) or not purchasing at all.

When you read the below remember we are not just talking about end-buyers
(=consumers). Apple is a seller to the end customers but they are also a buyer of
components, such as displays, graphic processing units (GPUs), system on a chip
(SoC). They are also a buyer of the assembly services of huge companies
like Foxconn who are producing about 40% of all electronics world-wide and
employ 1.3 million employees. Here is an image of Apple’ supply chain.

Factors that influence buyer bargaining power:

1. Seller’s (supplier’s) switching costs: Switching costs can affect both sides,
suppliers and customers (=buyers). Customer switch costs are more
prominent (explaining this below). Where suppliers face switching costs
buyers have more leverage
o Manufacturers can face switching costs for upgrades of their
productive assets to produce higher quality or higher performance
outputs (e.g. steel, fuels, other commodities, electronic components,
etc). Say they decide to not undertake one such upgrade as they
don’t anticipate sufficient return. If the market moves on they may
find having to discount their lower performant or quality products
more than they had anticipated
o Suppliers will generally pass their switch costs onto the buyer in the
long run but economies of scale play a big role in this discussion as
low scale will require higher unit cost increases (or longer
amortisation times and profit compression)
o Interesting questions arise when regulations stipulate higher safety
or environmental standards (often giving a multi-year switch
window). Who will pay for this? The customer or the seller? Who in
the short and who in the long run? Some sellers may switch
immediately so they can use it for advertising reasons or offer it as
optional (payable) component in the early days
2. Differentiation of products
o Where products are not differentiated (i.e. all competing products
have pretty much the same value proposition), competition will be all
about the price. Buyers will have the upper hand in particular where
there are many competing products
o In an undifferentiated product category with many alternates,
incremental product upgrades/evolution may be mostly captured by
customers without the ability to increase margins considerably
3. Buyer information availability:
o The buyer may not have enough info to make good cost-benefit
tradeoffs. Products can be opaque or complex (insurance anyone?)
o This can lead to the company with the biggest marketing spend exert
power over the customer
o Comparison and review pages, on the other hand, can erode this
power
o Platform business models can help reduce search costs
 4. Power of distribution channels:
o Large retailers, such as Amazon, Walmart) have enormous power
over their suppliers
o Apple opened their own stores (online and brick-and-mortar) to
reduce their retailer’s power. They now dictate the terms (prices and
maximum discounts) that normal retailers have to sign up to if they
want to sell Apple products
o Apple also is a distribution channel for music (iTunes) and apps
(AppStore) and commands considerable margins over the suppliers
(artists, labels)
5. Network effects can be powerful: switching away from Facebook costs you
your network of friends and your photo/video gallery, etc (but multihoming
comes with low barriers, e.g. using Snapchat and Facebook at the same
time). Platform business models build competitive (and bargaining) power
through indirect network effects
6. Bargaining leverage, particularly in industries with high fixed costs
o Industries with high fixed costs (e.g. hotels, airlines) need to
maximise revenue to contribute to their high fixed costs. This erodes
their bargaining power esp if the industry has over-capacities and
little differentiation
7. Some other factors are:
o Buyer price sensitivity (or demand elasticity)
o Fragmentation of suppliers
o Discretionary vs staples
o Share of wallet
o Recency and frequency of purchase
o Access to limited resources: airport slots, top ad slots in google

Bargaining Power of McDonald’s Customers/Buyers (Strong Force)

McDonald’s must address the power of customers on business performance. This

element of the Five Forces analysis deals with the influence and demands of
consumers, and how their decisions impact businesses. In McDonald’s case, the
following are the external factors that contribute to the strong bargaining power
of buyers:
  Low switching costs – Strong Force
 Large number of providers – Strong Force
 High availability of substitutes – Strong Force

The ease of changing from one restaurant to another (low switching costs)
enables consumers to easily impose their demands on McDonald’s. In the Five
Forces analysis model, this external factor strengthens the bargaining power of
customers. In relation, because of market saturation, consumers can choose from
many fast food restaurants other than McDonald’s. This condition makes the
bargaining power of buyers a strong force in affecting the company’s external
environment. Moreover, the availability of substitutes is relevant in this external
analysis. In this case, the availability of many substitutes adds to the bargaining
power of customers. For example, substitutes include food kiosks and outlets, and
artisanal bakeries, as well as microwave meals and foods that one could cook at
home. Based on this element of Porter’s Five Forces analysis, it is crucial to
develop strategies to increase customer loyalty, especially in the face of the
sociocultural trends outlined in the PESTEL/PESTLE analysis of McDonald’s
Corporation.

Example

Bargaining power of buyers in the airline industry is high. Customers are able to
check prices of different airline companies fast through the many online price
comparisons websites such as Skyscanner and Expedia. In addition, there aren’t
any switching costs involved in the process. Customers nowadays are likely to fly
with different carriers to and from their destination if that would lower the costs.
Brand loyalty therefore doesn’t seem to be that high. Some airline companies are
trying to change this with frequent flyer programs aimed at rewarding customers
that come back to them from time to time.