Suppliers can exert bargaining power on participants in an industry by raising prices or reducing the quality of purchased goods and services. Powerful suppliers are those who can extract profitability from an industry that cannot recover the cost hike in its prices. The power of every crucial supplier/buyer group is dependent on several characteristics of its market condition and on the relevant importance of its purchasing or sales to the industry compared with its overall business.
Powerful suppliers have the following characteristics:
- They are dominated by a few companies and are more concentrated than the industry they sell.
- Their products are unique or at least differentiated, or if they have built up switching cost. The fixed costs that buyers experience in switching suppliers are called switching costs. These arise because, among other things, a buyer’s product specifications tie it to particular suppliers, it has invested heavily in specialized ancillary equipment or in learning how to operate supplier’s equipment or its production lines are connected to the supplier’s manufacturing facilities.
- They are not obliged to contend with other products for sale to the industry. For instance, the competition between the steel companies and the aluminum companies to sell the canning industry checks the power of each supplier.
- They pose a credible threat of integrating forward into the industry’s business. This provides a check against the industry’s ability to improve the terms in which it purchases.
- The industry is not a crucial customer of these suppliers. When the industry is a crucial customer, the fortune of the suppliers will be closely tied to this industry, and they will be willing to save the industry with reasonable pricing and help in functions such as lobbying and R&D.
The suppliers should achieve the above characteristics for becoming powerful suppliers.