Chapter 2
The External
Environment
PowerPoint slides by:
R. Dennis Middlemist
Colorado State University
Copyright © 2004 South-Western
All rights reserved.
Knowledge Objectives
• Studying this chapter should provide you with the
strategic management knowledge needed to:
 Explain the importance of analyzing and understanding the
firm’s external environment.
 Define and describe the general environment and the
industry environment.
 Discuss the four activities of the external environmental
analysis process.
 Name and describe the general environment’s six
segments.
 Identify the five competitive forces and explain how they
determine an industry’s profit potential.
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2–2
Knowledge Objectives (cont’d)
• Studying this chapter should provide you with the
strategic management knowledge needed to:
 Define strategic groups and describe their influence on the
firm.
 Describe what firms need to know about their competitors
and different methods used to collect intelligence about
them.
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2–3
The Strategic
Management
Process
Figure 1.1
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2–4
The External
Environment
Figure 2.1
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2–5
General Environment
• Dimensions in the broader society that
influence and industry and the firms within it
 Economic
 Sociocultural
 Global
 Technological
 Political/legal
 Demographic
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2–6
Industry Environment
• Set of factors directly influencing a firm and
its competitive actions and competitive
responses
 Threat of new entrants
 Power of suppliers
 Power of buyers
 Threat of product
substitutes
 Intensity of rivalry
among competitors
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2–7
Competitor Environment
• All of the companies that the firm competes
against.
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2–8
Analysis of the External Environments
• General environment
 Focused on the future
• Industry environment
 Focused on factors and conditions influencing a
firm’s profitability within an industry
• Competitor environment
 Focused on predicting the dynamics of
competitors’ actions, responses and intentions
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2–9
Opportunities and Threats
• Opportunity
 A condition in the general environment that if
exploited, helps a company achieve strategic
competitiveness
• Threat
 A condition in the general environment that may
hinder a company’s efforts to achieve strategic
competitiveness
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2–10
External Environmental Analysis
• A continuous process which includes
Scanning for early signals of potential
changes and trends in the general environment
Monitoring changes to see if a trend emerges
from among those spotted by scanning
Forecasting projections of outcomes based on
monitored changes and trends
Assessing the timing and significance of
changes and trends on the strategic
management of the firm
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2–11
Components of the External Environmental Analysis
Table 2.2
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2–12
General Environment (cont’d)
• The Economic Segment
 Inflation rates
 Interest rates
 Trade deficits or
surpluses
 Budget deficits or
surpluses
 Personal savings rate
 Business savings rates
 Gross domestic
product
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2–13
General Environment (cont’d)
• The Sociocultural Segment
 Women in the workplace
 Workforce diversity
 Attitudes about quality
of worklife
 Concerns about
environment
 Shifts in work and
career preferences
 Shifts in product and
service preferences
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2–14
General Environment (cont’d)
• The Global Segment
 Product innovations
 Applications of
knowledge
 Focus of private and
government-supported
R&D expenditures
 New communication
technologies
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2–15
General Environment (cont’d)
• The Technological
Segment
 Product innovations
 Applications of
knowledge
 Focus of private and
government-supported
R&D expenditures
 New communication
technologies
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2–16
General Environment (cont’d)
• The Political/Legal
Segment
 Antitrust laws
 Taxation laws
 Deregulation
philosophies
 Labor training laws
 Educational
philosophies and
policies
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2–17
General Environment
• The Demographic
Segment
 Population size
 Age structure
 Geographic
distribution
 Ethnic mix
 Income distribution
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2–18
Industry Environment
• Industry Defined
 A group of firms producing products that are
close substitutes
 Firms
that influence one another
 Includes
a rich mix of competitive strategies that
companies use in pursuing strategic
competitiveness and above-average returns
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2–19
The Five Forces of
Competition Model
Figure 2.2
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2–20
Threat of New Entrants: Barriers to Entry
• Economies of scale
• Product differentiation
• Capital requirements
• Switching costs
• Access to distribution channels
• Cost disadvantages independent of scale
• Government policy
• Expected retaliation
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Barriers to Entry
• Economies of Scale
 Marginal improvements in efficiency that a firm
experiences as it incrementally increases its size
• Advantages and disadvantages of largescale and small-scale entry
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Barriers to Entry (cont’d)
• Product
differentiation
• Capital
Requirements
 Unique products
 Physical facilities
 Customer loyalty
 Inventories
 Products at
competitive prices
 Marketing activities
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 Availability of capital
2–23
Barriers to Entry (cont’d)
• Switching Costs
 One-time costs customers incur when they buy
from a different supplier
 New equipment
 Retraining employees
 Psychic costs of ending a relationship
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2–24
Barriers to Entry (cont’d)
• Access to Distribution Channels
 Stocking or shelf space
 Price breaks
 Cooperative advertising allowances
• Cost Disadvantages Independent of Scale
 Proprietary product technology
 Favorable access to raw materials
 Desirable locations
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2–25
Barriers to Entry (cont’d)
• Cost disadvantages independent of scale
 Proprietary product technology
 Favorable access to raw materials
 Desirable locations
• Government policy
 Licensing and permit requirements
 Deregulation of industries
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2–26
Barriers to Entry (cont’d)
• Expected retaliation
 Responses by existing competitors may depend
on a firm’s present stake in the industry
(available business options)
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2–27
Bargaining Power of Suppliers
• Supplier power increases when:
 Suppliers are large and few in
number
 Suitable substitute products are
not available
 Individual buyers are not large
customers of suppliers and there are many of
them
 Suppliers’ goods are critical to buyers’
marketplace success
 Suppliers’ products create high switching costs.
 Suppliers pose a threat to integrate forward into
buyers’ industry
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2–28
Bargaining Power of Buyers
• Buyer power increase when:
 Buyers are large and few in
number
 Buyers purchase a large portion
of an industry’s total output
 Buyers’ purchases are a significant
portion of a supplier’s annual revenues
 Buyers can switch to another product without
incurring high switching costs
 Buyers pose threat to integrate backward into the
sellers’ industry
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2–29
Threat of Substitute Products
• The threat of substitute products
increases when:
 Buyers face few switching costs
 The substitute product’s price is
lower
 Substitute product’s quality and performance are
equal to or greater than the existing product
• Differentiated industry products that are valued by
customers reduce this threat
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2–30
Intensity of Rivalry Among Competitors
• Industry rivalry increases when:
 There are numerous or equally
balanced competitors
 Industry growth slows or
declines
 There are high fixed costs or high
storage costs
 There is a lack of differentiation opportunities or
low switching costs
 When the strategic stakes are high
 When high exit barriers prevent competitors from
leaving the industry
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2–31
Interpreting Industry Analyses
Low entry barriers
Suppliers and buyers
have strong positions
Strong threats from
substitute products
Intense rivalry
among competitors
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Unattractive
Industry
Low profit potential
2–32
Interpreting Industry Analyses
High entry barriers
Suppliers and buyers
have weak positions
Few threats from
substitute products
Moderate rivalry
among competitors
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Attractive
Industry
High profit potential
2–33
Strategic Groups Defined
• A set of firms emphasizing similar strategic
dimensions and using similar strategies
 Internal competition between strategic group
firms is greater than between firms outside that
strategic group
 There is more heterogeneity in the performance
of firms within strategic groups
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Strategic Groups
• Strategic Dimensions
 Extent of technological leadership
 Product quality
 Pricing Policies
 Distribution channels
 Customer service
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2–35
Competitor Analysis
• Competitor Intelligence
 The ethical gathering of needed information and
data that provides insight into:
A
competitor’s direction (future objectives)
A
competitor’s capabilities and intentions
(current strategy)
A
competitor’s beliefs about the industry (its
assumptions)
A
competitor’s capabilities
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Competitor Analysis
Components
Figure 2.3
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