When you’re designing a new business, there’s a fundamental question that you can’t afford to get wrong:
“Is this a good industry for us to be in?”

It’s actually a really hard question to answer.
How can you define the attractiveness of an entire industry?

A good way to think about it is to look at five questions, which highlight the strengths and weaknesses of the landscape.

These questions make up a tool called Porter’s Five Forces – and it’s a quick way of finding the early warning signs.
Here are the five questions:

How much competition is there amongst the current players?

Entering a crowded market isn’t always a bad thing.
What you don’t want is a market that is already full of strong businesses who are great at fighting each other.

Some industries, like mobile phones or fuel stations, already have established rivalries amongst giant companies.
That means there’s constant pressure to be cheaper than the enemy, or better than the enemy.
Good luck selling petrol for less than Shell, BP, Mobil and Caltex.

Other industries don’t have much in the way of existing competition, like when Apple launched the original iPod.
These are sometimes called “Blue Oceans”: new and peaceful markets, as opposed to the “Red Oceans” that are full of blood and carnage.

The most famous example is Cirque Du Soleil, who reinvented the circus at a much higher price point and with a radically different customer experience.

Recent examples include AirBNB who moved away from the standard, price-driven hotel markets, and Tesla creating the first electric sports car.

Each will soon be met with competition, like Uber and Lyft or FitBit and Garmin, but they at least started somewhere original.

Blue Oceans need to be created, and often sound ridiculous at first.
That said, it’s even crazier to dive head-first into a Red Ocean…

How powerful are our buyers?

In some industries, your buyers hold the power.
This is especially true when there are low switching costs (like between supermarkets) and when there are a several good choices out there (like between car companies).

Other times, you may have your customer over a barrel.
Think about the times when you’ve bought a $5 bottle of water at a music festival, or had to pay for an entry visa when travelling.
You only had two choices: take it or leave it.

Obviously you don’t want your buyers to be too powerful, but you also want them to have some sort of autonomy.
That way when they’re dissatisfied with your competitors, they have the ability to switch to you.

By understanding the power dynamic, you’re well positioned for your sales, negotiation, strategies and price setting approaches.

How powerful are our suppliers?

Similar to the last question, it’s important to understand who holds the power when it comes to you and your suppliers.

If your suppliers create something unique, or have a monopoly over production, then they have you cornered.
Don’t muck them around or make empty threats, because these groups can easily pull the rug out from under you.

Think of Telstra owning the phone network, or Apple dictating how iOS apps are made.
At the end of the day, they call the shots, so you’re going to have to keep them happy.

Alternatively, your supplier might be making something standardised – meaning that they are easily replaced.
They need to keep you happy, because you’re their channel to market.

Think of coffee roasters who supply famous cafes, or brands who stock their products at Coles and Woolworths.

How easily can someone new enter the industry?

“Your margin is my opportunity” – Jeff Bezos
If your business does well, it is only natural that someone else will notice, and decide that they can do the same thing but better/cheaper.

The question is, how easy is it for a new competitor to emerge?

Some industries are hard, like if you want to create a new TV station – incredibly expensive and heavily regulated.
However, a new mobile app can be set up and on sale within a matter of days.

Look at Frozen Yogurt.
At my local shops, five frozen yogurt places appeared within 12 months.
Five.
On one street.
Guess what?
Four of them are gone, and the latest entrant is going strong.
That’s because anyone can start a frozen yogurt place – you don’t need a special license or too much equipment.
Therefore, if you want to stay in business, you’d better be pretty damn impressive.

You need to understand what “barriers to entry” exist today, and think about how you can create new barriers once you’re up and running.
It might be through exclusive agreements with stockists, or by owning a special patent.

Maybe the aim is to get big as quickly as possible, so that competitors need to borrow your stuff rather than create their own.
This is like Tesla creating a charging network, or when Aldi create Nespresso-compatible pods and machines instead of making a whole new design.

How easily can someone create a substitute?

So you’ve decided to create a business that scratches a customer’s itch.
What happens if someone else scratches that itch first?
This is called Substitution, and can happen through two different ways.

It could be a direct substitute – a competitor sets up an identical business right next to yours. Those jerks copy your layout, your branding and your value proposition.
Think of new cafes stealing away your regulars, or another website that features essentially the same content as your own.

It could also be an indirect substitute – a competitor in a completely different industry finds another way of serving your customer.
Different product, different marketing, same value proposition.

For the AFL, their competitors aren’t just other sports, but Hoyts and Village.
Why?
Because Hoyts and Village are offering the same value but through different channels – a fun day out for the family, sitting down and being entertained for two and a half hours while eating overpriced food.

Or think about Spotify becoming a substitute for iTunes, or Netflix becoming a substitute for cable and free-to-air TV.
If the tech becomes reliable enough, customers will switch to a new style of products which meet their existing needs (and more).

The question is, how easily can it be done?
Starting a new platform product, like food delivery, video calls, ride sharing etc. are hard to start, because they require a certain critical mass.
Hard for a startup.
Easy for a giant.

A substitute might spring out of an existing company in a different industry, like UberEats, Facebook calls, or Twitter live streaming sporting events.

Remember, the substitution happens in the eyes of the customer – you might see the subtle differences between your offer and these upstarts, but can your customer tell them apart?
Even if they can, do they care?

These five questions aren’t definitive or deep, they’re just a launch point for finding the tricky parts of your industry.

Have a go, and see which areas stand out as being important or unusual.

Once you’ve identified the sticking points, you can then delve deeper into how you’ll compete and thrive.

This will shape your marketing, pricing, negotiating, allocate your energy and avoid disaster.