Different markets may have different competitive dynamics, so companies should assess their competitive landscape carefully before entering, including high capital requirements or the need for specialized knowledge.The barriers can be financial, technological, natural resources-based, political, or legal.Barriers to entry are economic interruptions that a new business faces while entering a specific market.This can ‘tie up’ the supply chain and make life difficult for potential entrants, such as a manufacturer having its own retail outlets, such as a brewer owning its own pubs.Download Corporate Valuation, Investment Banking, Accounting, CFA Calculator & others For example, contracts between specific suppliers and retailers can exclude other retailers from entering the market. Exclusive contracts, patents and licensesĬontracts, patents and licenses make entry difficult as they protect existing firms who have won the contract, or who own the license or hold the patent. Schemes, such as Tesco’s Club Card, help oligopolists retain customer loyalty and deter entrants who need to gain market share. This creates loyalty, ‘locks in’ existing customers and deters entry. AdvertisingĪdvertising is another sunk cost – the more that is spent by incumbent firms the greater the deterrent to new entrants. Research by the Commission on Banking found that, in the UK people only change bank accounts once every 26 years – it was against this that in September 2013 UK banks were forced to make switching accounts much easier. While these may also be structural in nature it is common to refer to them as strategic barriers as they are understood and exploited by suppliers. These are common when switching energy suppliers, banks, TV and telephone suppliers. They can involve costs of purchasing or installing new equipment, loss of service during the switching process, and the effort involved in searching for a new supplier or learning a new system. Switching costs are those costs incurred by a consumer when trying to switch suppliers. As with other deliberate barriers, regulators, like the Competition Commission, may prevent this as it would reduce competition. This involves taking over a potential rival by purchasing sufficient shares to gain a controlling interest, or by a complete buy-out. The incumbent is exploiting its superior knowledge of the market, and production costs, for its own advantage. This signals to potential entrants that profits are impossible to make. This is best achieved by selling at a price just below the average total costs (ATC) of potential entrants. Limit pricing means the incumbent firm sets a low price, and a high output, so than entrants cannot make a profit at that price. Artificial (or strategic) barriers include: Predatory pricing.Ī firm may deliberately lower price to try to force rivals out of the market. This deters entry and is widely found in oligopolistic markets such as pharmaceuticals and the chemical industry. In order to compete, new entrants will have to match, or exceed, this level of spending in order to compete in the future. When firms spend money on research and development (R & D), it is often a signal to potential entrants that they have large financial reserves. Sunk costs are those that cannot be recovered when a firm leaves a market, and include marketing and advertising costs and other fixed costs. High set-up costs deter initial market entry. Owning scarce resources, which other firms could use, creates a considerable barrier to entry, such as an airline controlling access to an airport. Ownership or control of a key scarce resource. The spread of popularity of the telephone in the 20 th Century, and more recently the increased popularity of social media, are example of strong network effects. If a strong network already exists it may limit new entrants who fail to gain sufficient numbers of users to create a positive network effect. The greater the number of people using the specific good or service the greater the individuals benefit. Network effectsĪ network effect is the effect that multiple users have on the value of a good or service to other users. If a market has significant economies of scale which have already been exploited by the incumbents, new entrants are deterred. Natural (or structural) entry barriers include: Economies of large scale production. They can be erected deliberately by the incumbent(s) – called strategic or artificial barriers – or they can exploit barriers that naturally exist in the market, also called structural barriers. Obstacles to entry are called barriers to entry. Oligopolies and monopolies may maintain their position of dominance in a market because it is siply too costly or difficult for potential rivals to enter the market.
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