Oil Industry Porter's Analysis

2.2. Industry Competition Analysis (Porter’s five forces)
In order to create a profitable competitive strategy, a firm must first examine the basic
competitive structure of its industry through the competitive forces, because the potential
profitability of the firm is heavily influenced by the profitability of its industry. For this
purpose, corporate strategists advise the use of thePorter’s Industry Analysis framework,
which describes the competitive environment in terms of five basic competitive forces.
Based on Porter’s framework, for instance, competition in an industry arises not only
from established producers, producing same or similar products, but also from suppliers of
substitutes and from potential new entrants into the market. A firm is able to maintain high
rates ofreturn because there are significant barriers to entry, or because the firm has
significant advantages over its competitors (Reilly and Brown, 2002, pg.497).
This analysis will allow us to investigate how the competitive situation in the petroleum
industry influences the ability of oil companies to sustain profitability now and in the future.
Threat of New Entrants The threat of new entrantsrefers to the force of new potential
competitors in the industry that can attack companies’ profits. Undoubtedly, the threat of
new entities entering the oil industry is insignificant, despite the attractiveness of the
industry. This is explained by the high barriers to entry that exist (Dess et al., 2004, pg.57);
First, there are huge capital requirements associated with the activitiesperformed by
major oil companies, most of which are vertically positioned in almost all upstream,
midstream and downstream activities of the industry. Enormous fixed up-front investments
are required for the development of oil fields or setting-up production facilities. The costs
incurred here simply cannot be supported by everyone. Developing oil fields, for example,
can cost from couple ofbillions of dollars for relatively easily accessible reserves (in the
Middle East)12, to some $50bn, for such as the Brazilian offshore Tupi field13, which is found
4000 meters below the seabed, in a pre-salt layer, requiring very sophisticated technologies
for extraction. The International Energy Agency (IEA, 2008) reports that the unit costs in the
upstream oil industry have increased considerably,in the last decade (average rise of 90%
between 2000 and 2007). This does not only include costs for exploration of new fields, but
also for drilling, oilfield services, skilled labour, scientific research, materials and energy, all
of which create substantial barriers for potential entrants.
Another barrier prevalent here are economies of scale. Due to the increased unit costs in
theexploration and production of oil, only big oil companies and refineries that are able to
take advantage of economies of scale (and scope) can survive. This makes things very
difficult and risky for new players, since they usually don’t have access to a big number of oil
reserves, and sometimes they can’t even own these in a foreign country. The latter is the
case for many oil-rich-countries, apartfrom the US, Canada, Brazil, Norway (IEA, 2008).
The need to secure access to distribution channels can also create barriers to entry (Dess
et al., 2004, pg.58). Usually only major oil companies (both national and international)
possess well established channels of distribution, whether it’s in the upstream, downstream
or both segments. Oil pipelines for some companies, and gas stations anddistribution stores
for others, or both, as means of distribution, are costly and require time to build. This
creates obstacles for new entrants.
However, some of the greatest impediments for potential entrants come from
disadvantages independent of economic factors, i.e. from different government policies that
favour national companies in different ways. Oil and gas are state owned...