Barriers to entry

Barriers to entry are anything that makes it difficult for a new entrant to break into a market. They make companies already in the market more valuable as they reduce the risk of new competition.

Capital costs are often a key barrier to entry in industries (such as telecoms) where the investment that needs to be made in fixed assets by a start-up is high relative to the sales and profits those assets will generate.

In many such industries the cost of the fixed assets is a sunk cost as far as the existing suppliers are concerned. This means that they will accept lower prices rather than scale back volumes, meaning that new entrants are likely to find that they drive prices down too much for the market to be worth entering.

Network effects are often a powerful barrier to entry and, by their very nature, reinforce first mover advantages and create barriers to entry that get stronger with time.

Barriers to entry may also be legally imposed. The commonest of these are licensing requirements and patents. What industries require a license to operate in, and how difficult those licenses are to get, varies greatly between countries and industries. Patents can be a very powerful barrier to entry when cross licensing agreements exist between the currently dominant companies in an industry.

Branding, distribution and customer relationships can also create strong barriers to entry.