Strategic Management
Environmental
scanning (Unit 2)
1. Environmental analysis
2. Industry and competitive
analysis
3. EFE matrix
4. CPM matrix
5. Internal analysis
6. IFE matrix
7. Porters five force
8. SWOT
9. VRIO framework
Pre read: The five competitive
forces that shape strategy
Basic Elements of the Strategic Management
Process
Prentice Hall, Inc. © 2008
1-4
What is business environment?
• Business environment consists of two parts. They are:
External and Internal
• Environment is complex, dynamic, uncertain and turbulent.
(Nuclear disaster in Japan, Turbulence in Middle East, Fall of
the Euro, Debt in Europe, High inflation in India, Credit
crunch, Downgrading of India…)
• Understanding your environment should be continuous, and
holistic.
• Remember that while some may be of advantage to your firm
(opportunities), some would trouble your firm…(threats)
External environment
It is divided into:
1. Macro environment (PESTEL framework: Political, Economic, socio cultural,
demographic, technological, ecological, legal) and of course global factors….
2. Operating environment (Suppliers, Customers, competitors, creditors, labour
market, distributors and retailers, regulations)
3. Industry or micro environment
Exercise
• You own a retail chain. What are the external
factors you should be worried about??
Measuring the external environment
• EFE matrix
• CPM matrix
EFE MATRIX
Steps in developing the EFE matrix:
•Identify a list of KEY external factors (critical success factors; identify Opportunities and Threats).
•Assign a weight to each factor, ranging from 0 (not important) to 1.0 (very important).
•Assign a 1-4 rating to each critical success factor to indicate how effectively the firm’s current strategies respond to the factor. (1
= response is poor, 4 = response is extremely good)
•Multiply each factor’s weight by its rating to determine a weighted score.
•Sum the weighted scores. Highest score can be 4 and the lowest 1. A score of 4 means the response of the company to
opportunities and threats is ‘OUTSTANDING’, while 1 means ‘poor’.
Exercise
STEP 1: You own a retail chain. What are the
external factors you should be worried
about??
STEP 2: Do an EFE matrix evaluation…
Competitive profile matrix (CPM)
• ‘The CPM identifies a firm’s major competitors and
their particular strengths and weaknesses in
relation to a sample firm’s strategic position’.
David 2001, p. 115
• Key success factors (KSFs)
– Technology related
– Distribution related
– Marketing related
– Skills related
– Organisational capability
– Other types of KSFs
Competitive profile matrix (CPM)
(Cont)
Developing the CPM - Example
Company A
Company B
Company C
Key success factors
Weight
Rating
Score Rating
Score Rating
Score
Advertising
0.1
3
0.3
3
0.3
4
0.4
Product quality
0.3
4
1.2
2
0.6
3
1.2
Customer loyalty
0.2
3
0.6
2
0.4
2
0.4
Financial position
0.2
3
0.6
2
0.4
4
0.8
Global expansion
0.1
2
0.2
2
0.2
1
0.1
Market share
0.1
3
0.3
2
0.2
2
0.2
Total
1.00
3.2
2.1
3.1
Rating: 1=major weakness, 4=major strength
Internal environment
• Strategy is matching ‘external environment’ to
strengths.
• This is to find, where the strengths are, the
weaknesses.
• These are internal.
• There are four criteria which is used for division into
strengths or weakness. They are: historical, norm in the
industry (capacity utilisation), competitive parity or CSF
(advertising is critical for success).
• There are various models to understand whether the
various factors are strengths or weaknesses, like VRIO,
7S etc…
Measuring the internal environment
• IFE matrix
IFE Matrix
Ratings are thus company based, whereas the weights in Step 2 are industry based.
Steps to develop IFE Matrix
1. List key internal factors as identified in the internal audit process. Use a total of from ten to
twenty internal factors, including both strengths and weaknesses. List strengths first and then
weaknesses. Be as specific as possible, using percentages, ratios, and comparative numbers.
2. Assign a weight that ranges from 0.0 (not important) to 1.0 (all important) to each factor. The
weight assigned to a given factor indicates the relative importance of the factor to being
successful in the firm’s industry. Regardless of whether a key factor is an internal strength or
weakness, factors considered to have the greatest effect on organizational performance
should be assigned the highest weights. The sum of all weights must equal 1.0.
3. Assign a 1 to 4 rating to each factor to indicate whether that factor represents a major
weakness (rating = 1), a minor weakness (rating = 2), a minor strength (rating = 3), or a major
strength (rating = 4). Note that strengths must receive a 4 or 3 rating and weaknesses must
receive a 1 or 2 rating. Ratings are thus company based, whereas the weights in Step 2 are
industry based.
4. Multiply each factor’s weight by its rating to determine a weighted score for each variable.
5. Sum the weighted scores for each variable to determine the total weighted score for the
organization.
A score of 2.5 is weak and above it is strong….
Industry and Competitive Analysis
Industry Analysis
Industry Analysis covers two important parts:
1. Industry environment
2. Competitive environment
Industry Analysis
1. Industry Features: Size, growth rate, geographical boundaries, size of competition,
pace of technological change and product innovation
2. Industry Boundaries: Breadth of market, Product service quality, Geographical
distribution, vertical integration, profit motives
3. Industry environment: Fragmented and consolidated. Can also be classified into:
Emerging, mature, declining and global
4. Industry structure: Concentration(extent to which industry sales are dominated by
only a few firms), Economies of scale, product differentiation and Barriers of entry
5. Industry attractiveness: Profit potential, growth prospects, competition and industry
barriers
6. Industry performance: Production, sales, profitability and technological
advancements.
7. Industry practices: Various policies on product, price, promo, distribution, R&D and
competition
8. Industries future prospects…
Competitive environment
What is competition????
The purpose of
Five-Forces Analysis
• The five forces are environmental forces
that impact on a company’s ability to
compete in a given market.
• The purpose of five-forces analysis is to
diagnose the principal competitive
pressures in a market and assess how
strong and important each one is.
Porter’s Five Forces
Model of Competition
Threat of
Threat
of New
New
Entrants
Entrants
Threat of New Entrants
Economies of Scale
Barriers to
Entry
Product Differentiation
Capital Requirements
Switching Costs
Access to Distribution Channels
Cost Disadvantages Independent of Scale
Government Policy
Expected Retaliation
Porter’s Five Forces
Model of Competition
Threat of
Threat
of New
New
Entrants
Entrants
Bargaining
Power of
Suppliers
Bargaining Power of Suppliers
Suppliers are likely to be powerful if:
Supplier industry is dominated by a few firms
Suppliers exert power
in the industry by:
* Threatening to raise
prices or to reduce quality
Powerful suppliers
can squeeze industry
profitability if firms
are unable to recover
cost increases
Suppliers’ products have few substitutes
Buyer is not an important customer to supplier
Suppliers’ product is an important input to
buyers’ product
Suppliers’ products are differentiated
Suppliers’ products have high switching costs
Supplier poses credible threat of forward
integration
Porter’s Five Forces
Model of Competition
Threat of
Threat
of New
New
Entrants
Entrants
Bargaining
Power of
Suppliers
Bargaining
Power of Buyers
Bargaining Power of Buyers
Buyer groups are likely to be powerful if:
Buyers are concentrated or purchases are large
relative to seller’s sales
Buyers compete with the
supplying industry by:
Purchase accounts for a significant fraction of
supplier’s sales
Products are undifferentiated
Buyers face few switching costs
Buyers’ industry earns low profits
Buyer presents a credible threat of backward
integration
Product unimportant to quality
Buyer has full information
* Bargaining down prices
* Forcing higher quality
* Playing firms off of
each
other
Porter’s Five Forces
Model of Competition
Threat of
Threat
of New
New
Entrants
Entrants
Bargaining
Power of
Suppliers
Bargaining
Power of Buyers
Threat of
Substitute
Products
Threat of Substitute Products
Keys to evaluate substitute products:
Products with
similar function
limit the prices
firms can charge
Products with improving price/performance
tradeoffs relative to present industry
products
Example:
Electronic security systems in place of
security guards
Fax machines in place of overnight mail
delivery
Porter’s Five Forces
Model of Competition
Threat of
Threat
of New
New
Entrants
Entrants
Bargaining
Power of
Suppliers
Rivalry Among Competing
Firms in Industry
Threat of
Substitute
Products
Bargaining
Power of Buyers
Porter’s Five Force’s Model
• 1. Rivalry Among Existing Competitors
– Innovation; First to enter the market
• 2. Substitute Products
– Competitors with similar products
• 3. Powerful Suppliers
– Forward Integration
• 4. Powerful Buyers
– Backward Integration
• 5. Threat of Entry
– Advanced Knowledge
– Capital Requirement
Porter Competitive Model
Heavyweight Motorcycle Manufacturing Industry
• Parts Manufacturers
• Electronic Components
• Specialty Metal Suppliers
• Machine Tool Vendors
• Labor Unions
• IT Vendors
Bargaining Power of
Suppliers
• Foreign Manufacturer
Potential
New
Entrant
Intra-Industry Rivalry
SBU: Harley-Davidson
• Established Company
Entering a New Market
Segment
• New Startup
Bargaining Power of
Buyers
Rivals: Honda, BMW,
Suzuki, Yamaha
• Automobiles
• Public Transportation
• Mopeds
• Bicycles
Substitute
Product or Service
• Recreational Cyclist
• Young Adults
• Law Enforcement
• Military Use
• Racers
Rivalry Among Existing Competitors
Intense rivalry often plays out in the following ways:
Jockeying for strategic position
Using price competition
Staging advertising battles
Increasing consumer warranties or service
Making new product introductions
Occurs when a firm is pressured or sees an opportunity
Price competition often leaves the entire industry worse off
Advertising battles may increase total industry demand, but may be costly to
smaller competitors
Rivalry Among Existing Competitors
Cutthroat competition is more likely to occur when:
Numerous or equally balanced competitors
Slow growth industry
High fixed costs
High storage costs
Lack of differentiation or switching costs
Capacity added in large increments
Diverse competitors
High strategic stakes
High exit barriers
The overall attractiveness of the industry
If all the five forces are strong, industry profitability would be expected to be low
regardless of the products/services being produced. Conversely, weak forces
permit higher prices and above-average industry profitability.
Firms can influence the five forces through the strategies they pursue.
Some innovations can lead to a short-term advantage. But if every player in the
industry is forced to follow suit, it can result in the whole industry being worse off.
For example, the first firm to advertise on television may gain an increase in
market share. If everyone else imitates this strategy, it may result in a stalemate
with the only winners being the advertising agencies and the television
companies.
The crucial question, in determining profitability is whether firms in the industry
can capture and retain the value they create for buyers, or whether this value is
lost to others in fending off competition. Industry structure determines who
captures the value :
New entrants can compete away value, passing it on to buyers through lower
prices, or they dissipate the value created by raising the costs of competing.
Buyers who are powerful can retain most of the value created for themselves.
Substitutes place a ceiling on prices.
Suppliers that are powerful can appropriate the value created for buyers.
Rivalry, like entry, results either in value being passed on to buyers (in the
form of lower prices) or it raises the costs of competing (e.g. greater
investments in product development and marketing).
The Five Forces are Unique to
Your Industry
• Five-Forces Analysis is a framework for
analyzing a particular industry.
– Yet, the five forces affect all the other
businesses in that industry.
EXERCISE
Presentation on an industry of choice and how
the five forces act on one another
SWOT
Strengths:
Weaknesses:
Margins are good
Perishability
Flexibility of product mix: Tremendous.
Lack of control over yield
Availability of raw material: Abundant.
Logistics of procurement
Technical manpower: Professionally-trained,
technical human resource pool, built over
last 30 years.
Problematic distribution
Competition
SWOT
Opportunities:
Value addition
Export potential
Threats:
Threat from the unorganized sector
Indian Dairy Industry
The purpose of SWOT Analysis
• It is an easy-to-use tool for developing an
overview of a company’s strategic situation
– It forms a basis for matching your company’s
strategy to its situation
SWOT is the starting point
• It provides an overview of the strategic
situation.
• It provides the “raw material” to do more
extensive internal and external analysis.
Opportunities
• An OPPORTUNITY is a chance for firm
growth or progress due to a favorable
juncture of circumstances in the business
environment.
• Possible Opportunities:
– Emerging customer needs
– Quality Improvements
– Expanding global markets
– Vertical Integration
Threats
• A THREAT is a factor in your company’s
external environment that poses a danger
to its well-being.
• Possible Threats:
– New entry by competitors
– Changing demographics/shifting demand
– Emergence of cheaper technologies
– Regulatory requirements
EXERCISE
Do a SWOT analysis of a company of your
choice.
VRIO FRAMEWORK
Checking your companies
internal capabilities and
resources
Creating Strategic Fit to Leverage Internal Strengths
What Does Internal Analysis Tell Us?
Internal analysis provides a comparative look at
a firm’s capabilities
• what are the firm’s strengths?
• what are the firm’s weaknesses?
• how do these strengths & weaknesses compare
to competitors?
Why Does Internal Analysis Matter?
Internal analysis helps a firm:
• determine if its resources and capabilities are
likely sources of competitive advantage
• establish strategies that will exploit any sources
of competitive advantage
The Resource-Based View
Resources and Capabilities
Resources:
• tangible and intangible assets of a firm
 tangible: factories, products intangible: reputation
• used to conceive of and implement strategies
Capabilities:
• a subset of resources that enable a firm to
take full advantage of other resources
» marketing skill, cooperative relationships
The Resource-Based View
Four Categories of Resources
• Financial (cash, retained earnings)
• Physical (plant & equipment, geographic location)
• Human (skills & abilities of individuals)
• Organizational (reporting structures, relationships)
Tangible and Intangible Resources
Capabilities
• Organizational capabilities:
Routines and standard operating procedures
Outstanding customer service
Excellent product development capabilities
Innovativeness or products and services
Ability to hire, motivate, and retain human capital
54
Resources and Capabilities
Firm Assets:
Are these resources
or capabilities?
Machinery
?
Collective Product Design Skill
?
Recruiting Skill
?
Engineering Skill of Individuals
?
Mineral Deposits
?
Linking Resources and Capabilities to Firm Performance
EXHIBIT 4.3
Company Examples of Core Competencies & Applications
The Internal Analysis Tool
The VRIO Framework
Four Important Questions:
• Value
• Rarity
• Imitability
• Organization
The Question of Value: "Is the firm able to exploit an opportunity
or neutralize an external threat with the resource/capability?"
The Question of Rarity: "Is control of the resource/capability in the
hands of a relative few?"
The Question of Imitability: "Is it difficult to imitate, and will there
be significant cost disadvantage to a firm trying to obtain, develop,
or duplicate the resource/capability?"
The Question of Organization: "Is the firm organized, ready, and
able to exploit the resource/capability?"
1–60
The VRIO Framework
If a firm has resources that are:
• valuable,
• rare, and
•costly to imitate, and…
• the firm is organized to exploit these resources,
then the firm can expect to enjoy a sustained
competitive advantage.
The VRIO Framework
Valuable?
Rare?
Costly to
Imitate?
No
Exploited by
Organization?
No
Competitive
Implications
Disadvantage
Economic
Implications
Below
Normal
No
Parity
Normal
Yes
Yes
No
Temporary
Advantage
Above
Normal
Yes
Yes
Yes
Sustained
Advantage
Above
Normal
Yes
Yes
EXHIBIT 4.5
Applying RBV: Decision Tree Competitive Implications
THANK YOU