External Environmental
Analysis
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Lecture Topics
• Purpose of External Environmental Analysis
• Gathering Information for External
Environmental Analysis
• General Environment
• Competitive Environment
• Key Success Factors
• Competitive Changes During Industry
Evolution
• Strategic Groups
• National Competitive Advantage
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Purpose of External
Environmental Analysis
• Organizations are affected by conditions
in the environment
• Managers need to be aware of these
conditions in order to
– Take advantage of opportunities that can
lead to higher profits
– Reduce the impact of threats that can harm
the organization’s future
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Gathering Information for External
Environmental Analysis
• Managers need information in order to know
and develop an understanding about what is
happening in the external environment
• Three approaches to information gathering:
– Scanning: general surveillance of environmental
changes; looking for early signals of changes
– Monitoring: close attention to specific
developments that could affect the organization
– Competitive Intelligence: following actions of
competitors
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Two Areas for Analysis
• General Environment
• Competitive Environment
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The General and Competitive Environment
General Environment
Demographics
Competitive
Global
Political/Legal
Environment
Threat on new entrants
Bargaining power of suppliers
Bargaining power of buyers
Threat of substitute products
Sociocultural
Competitive rivalry
Technological
Macoreconomic
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General Environment
Demographics
• Characteristics of a country’s population
– Size of population and growth rate
– Age distribution of population
– Education levels
– Income distribution
– Ethnic diversity
– Geographic distribution
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General Environment
Political/Legal
• Political and legal conditions affecting
business
– Government policies toward business
– Investment incentives
– Business regulation: labor, environment
– Education priorities
– Budget conditions and plans
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General Environment
Technological
• Technological developments relevant to
a business
– Telecommunications
– Internet
– On-line training
– Product and process innovations
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General Environment
Macroeconomic
• Impact of the economy on business
– Size and change in gross domestic product
– Per capita income levels
– Inflation rate
– Interest rates
– Foreign trade deficit or surplus
– Unemployment
– Rates of saving and investment
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General Environment
Sociocultural
• Influence of values, beliefs, and
lifestyles of a country on business
– Family relationships
– Attitudes about work
– Living arrangements
– Styles of entertainment
– Attitudes toward health
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General Environment
Global
• International developments that can
impact a business
– Rise of China as economic power
– Rising global trade and WTO
– Intellectual property protection
– Important political events: Iraq war
– Search for low cost suppliers
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Competitive Environment
• The essence of strategy formulation is coping
with competition.
• The corporate strategists’ goal is to find a
position in the industry where his or her
company can best defend itself against these
forces or can influence them in its favor.
• Managers must understand the conditions of
competition within their industry
– Porter Five-Forces Model of Competition
(determining the attractiveness of an industry)
– Key Success Factors
– Competitive Changes During industry Evolution
– Strategic Groups
– National Competitive Advantage
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Defining an Industry
• Industry
– A group of companies offering products or
services that are close substitutes for each
other
• Competitors
– Rival companies that serve the same basic
customer needs
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Defining an Industry (cont’d)
• Sector
– A group of closely related industries
• Market segments
– Distinct groups of customers within a
market that can be differentiated from each
other based on their distinct attributes and
demands
• Changing industry boundaries
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The Computer Sector:
Industries and Segments
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Five Forces Driving Industry Competition
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Threat of New Entrants
• Fundamental question: how easy is it for
another company to enter the industry?
• Factors making easy entry to industry
–
–
–
–
–
–
Low economies of scale
Low product differentiation
Low capital requirements
No switching costs for buyer
Easy access to distribution channels
Little government regulation
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Supplier Power
• Fundamental question: how badly does a
supplier need your business?
• Factors giving power to supplier:
– Supplier industry dominated by few firms
– Buyer is not important to customer
– Supplier’s product is important input to buyer’s
product
– Supplier’s products have high switching costs
– Supplier can “integrate forward” and become
competitor of buyer
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Threat of Substitutes
• Fundamental question: what other products
or services could perform the same function
as your products or services?
• Factors indicating high threat of substitutes:
– Few switching costs for buyer
– Price of substitute lower or quality higher than for
your products
– Firms offering substitutes have high profitability
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Buyer Power
• Fundamental questions: How badly does a
buyer need your products or services?
• Factors contributing to high buyer power:
–
–
–
–
–
–
Few buyers compared to the number of sellers
Buyers purchases high relative to seller’s sales
Products are undifferentiated
Buyer has low switching costs
Buyer has low profits
Buyer can “integrate backward” and supply the
product to itself
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Competitive Rivalry
• Fundamental question: how intense is
competition in the industry?
• Factors leading to high competitive rivalry:
–
–
–
–
–
–
Numerous or equally balanced competitors
High fixed costs
Slow industry growth
Lack of differentiation or switching costs
High strategic stakes
High exit barriers
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A Sixth Force: Complementors
• Not a supplier
• Offers service or product that affects
industry’s performance
• When complementors are important and their
number is increasing
– Demand and profits in the industry are boosted
• When complementors are weak
– Industry growth can slow and profits can be limited
• Example: Internet Service Providers
“complementors” to eBusiness firms
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Strategic Implications of the
Five Competitive Forces
• Competitive environment is unattractive
from the standpoint of earning good
profits when:
– Rivalry is strong
– Entry barriers are low and entry is likely
– Competition from substitutes is strong
– Suppliers and customers have considerable
bargaining power
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Strategic Implications of the
Five Competitive Forces
• Competitive environment is ideal
from a profit-making standpoint when:
– Rivalry is moderate
– Entry barriers are high and no firm is
likely to enter
– Good substitutes do not exist
– Suppliers and customers are in a weak
bargaining position
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Key Success Factors
• In many industries, there are certain actions
or practices that a business must follow in
order to compete in the industry.
• May need effort to distinguish company from
competitors
• AN INDIVIDUAL COMPANY DOES NOT
HAVE KEY SUCCESS FACTORS!!!!
• KEY SUCCESS FACTORS ARE NOT THE
SOURCE OF A COMPANY’S COMPETITIVE
ADVANTAGE – THEY ARE
REQUIREMENTS FOR COMPETING IN AN
INDUSTRY AND DO NOT GIVE ANY FIRM A
COMPETITIVE ADVANTAGE
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Examples of Key Success
Factors in Selected Industries
• Pharmaceuticals: research and
personal selling
• Beer: advertising and distribution
• Restaurant: quality food, service,
location, notoriety
• Retailer: location and priced-for-quality
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Changes in Competition
During Industry’s Evolution
• Over time as an industry evolves, the nature
and basis of competition changes
• Managers must anticipate how the forces will
change as the industry evolves and formulate
appropriate strategies
• Five Stages ( similar to product-life cycle)
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–
–
–
–
Embryonic—introduction of product
Growth
Shakeout
Mature
Declining
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Stages in the Industry Life
Cycle
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Shakeout: Growth in Demand
and Capacity
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Requirements in Each Stage
of Industry’s Evolution
• Embryonic: Know-how, educating customers,
opening distribution channels
• Growth: Know-how for continued innovation,
financing, build demand
• Shakeout: Dominant market position, low
cost producer, high capacity
• Maturity: low cost production, brand loyalty
• Declining: lowest cost production, reduce
capacity
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Limitations of Models for
Industry Analysis
• Life cycle issues
– The embryonic stage can sometimes be skipped
– Industry growth can be revitalized
– The time span of the stages can vary
• Innovation and change
– Innovation can unfreeze and reshape industry
structure
– An industry may be hypercompetitive, with
permanent and ongoing change
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Limitations of Models for
Industry Analysis (cont’d)
• Company differences
– The importance of company differences
within an industry or strategic group can be
underemphasized
– The individual resources and capabilities of
a company may be more important in
determining profitability than the industry or
strategic group
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Strategic Groups
• Companies do not compete against all
companies in an industry
• Companies compete against several other
companies that follow similar strategies
• A strategic group consists of those rivals
with similar competitive approaches in an
industry
• Examples ways of competing:
–
–
–
–
Price
Innovation
Research
Quality
-- Range of products
-- Customers served
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Procedure for Constructing a
Strategic Group Map
STEP 1: Identify competitive characteristics that
differentiate firms in an industry from one
another
STEP 2: Plot firms on a two-variable map using pairs
of these differentiating characteristics
STEP 3: Assign firms that fall in about the same
strategy space to same strategic group
STEP 4: Draw circles around each group, making
circles proportional to size of group’s
respective share of total industry sales
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Types of Video Game
Suppliers/Distribution Channels
Example: Strategic Group Map of
the Video Game Industry
Arcades
Arcade
operators
Publishers
of games on
CD-ROMs
Home PCs
Sony, Sega,
Nintendo, several
others
Video game
consoles
MSN Gaming Zone,
Pogo.com,
America Online,
HEAT, Engage,
Oceanline, TEN
Online/Internet
Low
(Coin-operated
equipment)
Medium
(Console players cost
$100-$300)
High
(Use PC)
Overall Cost to Players of Video Games
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Nation-State and Competitive
Advantage
• A country may provide a competitive
advantage for a company
• Need to identify national factors in order to
determine
– Where most significant competitors will come from
– Where to locate production activities
• Porter’s Diamond of Determinants of National
Competitive Advantage
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The Global and National
Environments
• Globalization of production and markets
– Lower barriers to cross-border trade and
investment
– National differences in the cost and quality of
factors of production
– “Home” and “foreign” markets and competitors are
blurring
– Intensified rivalry
– Intensified rate of innovation
– Many new markets are open
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Determinants of National Competitive
Advantage
Strategy,
Structure,
Rivalry
Factor
Endowments
National
Competitive
Advantage
Demand
Conditions
Related and
Supporting
Industries
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Factor Endowments
• Availability of traditional factors of
production—land, labor, capital,
entrepreneurship—provide cost advantages
to companies located in countries possessing
those factors
• More significant, countries and their
companies can create new factors such as a
knowledgeable workforce and infrastructure
that is rare and difficult to imitate
• Factor endowments less important than the
speed and efficiency of deploying those
resources.
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Demand Conditions
• Large growing markets provide
foundation for global competition
• More significant, sophisticated and
demanding consumers force companies
to innovate and improve their products
• Advances in products, services, and
standards improve companies’
knowledge and capabilities for selling in
other world markets
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Related and Supporting
Industries
• Provide inputs and capabilities that help
a company to improve its own products
and capabilities
• Helps reduce manufacturing costs
through cost-effective, timely methods
• Ongoing exchange of knowledge
through research and development and
joint projects improves both suppliers
and companies
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Strategy, Structures, and
Rivalry
• Different management ideologies lead to
different emphases within a company
• Japan and Germany both have engineers in
top management and those country’s
companies concentrate on process and
product improvement
• Intense domestic rivalry leads to product
improvements and cost reduction in order to
compete for domestic customers
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Conclusions About
Determinants of National
Competitive Advantage
• Firms succeeding in global markets first
succeeded in intense competition in
home countries
• Competitive advantage for global firms
comes from continuous improvement,
innovation, and change.
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