Barriers to entry are restrictions that apply to new competitors in a marketplace. These restrictions typically impose a high initial cost on new entrants. There are many possible barriers to entry that may apply to a marketplace, including the following:
- Existing competitors have designed their products to be difficult to switch away from, thereby locking in all existing customers. New entrants would likely be limited to servicing new customers who have not dealt with the existing competitors.
- Heavy branding of existing products, so that a new entrant would have to make significant advertising expenditures to establish customer recognition for its products.
- Low pricing of existing products, which is brought about by massive investments in large-scale production facilities. A new entrant would have to make similar expenditures in order to compete on price.
- Locked-in agreements by existing sellers with all distribution channels selling into the marketplace, so that new entrants would have to establish their own distribution channels.
- Patents have been established on key technology, effectively blocking anyone else from using the same technology within the industry. Only an investment in new technology would allow a new entrant to compete.
- Regulatory requirements by the government may require new entrants to obtain a license, which may be difficult or time-consuming to obtain.
Some barriers to entry occur naturally, based on the manner in which investments have been made and intellectual property has been protected within an industry. Other barriers are constructed through the active lobbying efforts of existing industry players, who want the government to set up regulations that make it more difficult for new entrants to gain a foothold in the market.
Competitors already situated within an industry that has strong barriers to entry tend to enjoy above-average profitability, since there are few new competitors to challenge them.