Starting a business and entering a new market often means facing a wide variety of new barriers and challenges. Some of these barriers you may have already considered, and some might come up along the path to establishing your business. These challenges are often perceived by business owners as hindrances on their way to success, but investors and bankers might see it another way; for them the barriers that your face can actually increase the appeal of your business.
Definition of Barriers to Entry
Barriers to entry are conditions which make entry into certain industries and businesses difficult. These can include things like high funding requirements, the need for never before used technology, tightly controlled markets, strict licensing, the need for highly skilled employees or specially designed facilities.
The most attractive types of businesses for investors and bank financing have high entry barriers. High entry barriers make it difficult for new businesses to enter the market; therefore potential for profits is higher with fewer businesses offering products and services that are in demand.
Business with low barriers to entry can easily get saturated, making it difficult to compete in a crowded marketplace and therefore harder for financers to receive a return in their investment.
The Types of Barriers
There are many types of barriers to entry which exist, dependent on the type of industry and market that you are intending to enter. Below we have outlined the three most common barriers:
1. Economies of Scale
The cost of a product is often reduced when manufacturing in large quantities; however in order to save money and increase profits in the long term, it requires the business owner to find a larger amount of money to pay for the goods in the short term. This becomes a problem for small start-up businesses that have committed their initial investment into creating the business itself and cannot afford to commit to this large amount.
2. Access to Distribution
Small businesses often begin with shaky business networks and low bargaining power. Because of this, it is easy to lose out on business opportunities to the big corporations who control the logical distribution channels through their long-standing relationships. In order to gain access to these channels and networks, businesses often need to offer incentives and promotions to make themselves appear attractive. However we must note this does reduce the level of profit for the business.
3. Governmental Regulation
Many industries are tightly bound by regulations relating to licenses, permits and policies such as health and safety. This often creates difficulty in terms of cost for purchasing licenses and permits and adapting services or facilities to adhere to these regulations.
Knowing your Industry
The number and types of barriers can vary wildly depending on the industry, target market and economy. It is essential that you complete your own research to examine the relevant barriers to your industry or multiple industries in which your business will operate. Research can either be secondary including using the Canada Business Corporations Act (CBCA) for regulations, Industry journals and media monitoring for trends; or primary – surveying your target market and running focus groups.
Michael Porter, Professor at Harvard Business School and leading authority on company strategy and the competitiveness, classifies the markets into four general cases:
1. High barrier to entry and high exit barrier e.g. a car manufacturer who requires high investment for expensive equipment and expensive facilities in an industry which is highly regulated and over saturated.
2. High barrier to entry and low exit barrier e.g. a consulting business which requires highly skilled staff in an over saturated market however has low cost or no facilities
3. Low barrier to entry and high exit barrier e.g. a photographer who has no cost for premises, however works in a saturated market with limited options to exit and sell the business.
4. Low barrier to entry and low exit barrier e.g. a computer software reseller who sells online with no cost for premises and has products readily available from multiple suppliers.
How Do I Include These Barriers in my Business Plan?
Begin by assessing what barriers to entry exist in your sector, analyzing your position in this environment. Do you have proprietary technology? Do you require a workforce with specialized skills? Do you need favourable distribution or pricing terms form suppliers and manufacturers? Etc.
When writing your business plan, list all the barriers which apply to your industry and target market, then explain how your business will overcome these barriers to enter the market and achieve a strong position. Remember that these barriers should be part of your continued strategy to keep your competitors at bay and grow in the market. Investors need to feel comfortable about the soundness of your strategy before they invest in your venture.
Barriers to entry should be included under the Market Research section of your business plan, alongside details of your target market and competitor analysis.
Trends for the Future
Understanding and monitoring these barriers at the business planning stage of your business will benefit you in two ways. The first, as mentioned above, is that they will help you plan how break into a particular industry; the second is that they will become your protection against new entrants to the market in the future.
Need Help with Your Business Plan?
Research indicates that the likelihood of obtaining financing is increased significantly if the business plan is reviewed by an independent third party.
Small Business BC’s business plan advisors can objectively review your business plan, and provide feedback and resources to prepare your business plan for implementation and /or presentation to potential lenders or investors. Submit your written plan to Small Business BC in person, by mail or email and our advisors will review your plan, prepare feedback and set up an one on one appointment with you. For clients outside the Lower Mainland this service is available via phone and Skype.