External Environmental

Analysis
Chapter 3
 Understanding the Factors that
Determine a Company’s Situation
• Diagnosing a company’s situation has two facets
– Assessing the company’s external or
macro-environment (Societal or General Environment)
• Industry and competitive conditions
• Forces acting to reshape this environment
– Assessing the company’s internal or
micro-environment (Specific or task Environment)
• Market position and competitiveness
• Competencies, capabilities, resource strengths
and weaknesses, and competitiveness
 From Thinking Strategically about the
Company’s Situation to Choosing a Strategy
The Components of a Company’s
Macro-environment
Thinking Strategically about a
Company’s Macro-environment
• A company’s macro-environment includes all relevant factors and
influences outside its boundaries
• Diagnosing a company’s external situation involves assessing
strategically important factors that have a bearing on the
decisions a company’s makes about its
– Direction
– Objectives
– Strategy
– Business model
• Requires that company managers scan
the external environment to
– Identify potentially important external developments
– Assess their impact and influence
– Adapt a company’s direction and strategy as needed
 Environmental Scanning
• General Environment/ Societal environment
1. Economic forces that regulate exchange of
materials, money, energy, and information
2. Technological forces that generate problem solving
3. Political –legal forces that allocate power and
provide constraining and protecting laws and
regulations
4. Socio-cultural forces that regulate the values, mores,
and customs of society
 Some Important Variables in the
Societal Environment
Technologic Political-Legal Sociocultural
Economic
al
Antitrust Lifestyle changes
GDP trends Total government regulations
Career
Interest rates spending for
Environmental expectations
R&D
Money supply protection laws
Consumer
Total industry
Inflation rates Tax laws activism
spending for
Unemployment R&D Special incentives Rate of family
levels formation
Focus of Foreign trade
Wage/price technological regulations Growth rate of
controls efforts population
Attitudes toward
Devaluation/reval Patent protection foreign Age distribution of
uation companies population
New products
Energy Laws on hiring Regional shifts in
New
and promotion population
availability and developments in
technology Stability of Life expectancies
cost
transfer from lab government
Disposable and Birth rates
Prentice Hall, 2000
to marketplace Chapter 3 7
discretionary
income Productivity
 Important variables in international
Societal Environment
Economic Technological Political-legal Socio-cultural

Economic Regulation in Form of Customs, norms,

Development technology transfer government values
Per capita income Energy availability Political ideology Language
Tax laws
GDP tends Natural resource Demographics
Monetary and availability Stability of Life-style
Fiscal policies Skill level of government
Religious beliefs
workforce Regulation of
Employment level foreign ownership Attitude towards
Currency Patent-trademark
Trade regulations foreigners
convertibility protection
Foreign policies Literacy level
Nature of Internet availability
Terrorist activity Human rights
competition Telecommunication
Legal system Environmentism
infrastructure
Key Questions Regarding the
Industry and Competitive
Environment
What are the
industry’s
dominant traits?

What forces
How strong are
are driving
competitive
change in the
forces?
industry?

What market What are the How attractive

positions do key factors for is the industry
rivals occupy? competitive from a profit
What moves will
success? perspective?
they make next?
 Question 1: What are the Industry’s
Dominant Economic Traits?
• Analyzing a company’s industry and
competitive environment begins with
identifying an industry’s dominant
economic features and forming a picture
of what the industry landscape is like
• It not only sets the stage for the analysis
to come but also promotes understanding
of the kind of strategic moves that industry
members are likely to employ
 Question 1: What are the Industry’s
Dominant Economic Traits?
• Market size and growth rate
• Number of rivals
• Scope of competitive rivalry
• Buyer needs and requirements
• Degree of product differentiation
• Product innovation
• Supply/demand conditions
• Pace of technological change
• Vertical integration
• Economies of scale
• Learning and experience curve effects
What to Consider in Identifying an Industry’s Dominant Features

Features Questions to answer

Market size and How big is the industry and how fast it is growing?
growth rate What does the industry’s position in the business
life cycle (early development, rapid growth, early
maturity, maturity, stagnation, decline) reveal
about the industry’s growth position?
Scope of Is the geographic area over which the most
competitive companies compete local, regional, national,
rivalry multinational, or global?
Is having a presence in foreign markets becoming
more important to a company’s long-term
competitive success?
Number of Rivals Is the industry fragmented into many small
companies or dominated by a few large firms?
Is the industry going through a period of
consolidation to a smaller number of competitors?

Buyer needs and What are the final buyers( as well middlemen)
requirements looking for – what attributes prompt to choose one
brand over another?
Are buyers needs or requirements
changing? If so what is driving such changes?
Production Is a surplus capacity pushing prices and profits
Capacity down?
Is the industry overcrowded with to many
competitors?
 Production Is a surplus capacity pushing the prices and profit
Capacity margins down?
Is the industry over crowded with too many
competitors?

Pace of What role does the advancing technology play in this

Technological industry?
Change Are ongoing upgrades of facilities/ equipment
essential because of rapidly advancing production
process technologies?
Do most industry members have a need or need
strong technological capabilities? Why?
Degree of Are the products of rivals becoming differentiated or
Product less differentiated?
Differentiation Are increasing look alike products of rivals causing
heightened price competition?
 Is the industry characterized by rapid product innovation and
Product
short product life cycle? How important is R&D and product
Innovation innovation? Are there opportunities to overtake key rivals by
being first-to-market with next generation products?

Are some competitors in the industry partially or or fully

Vertical integrated? Are there any important cost differences among fully
Integration versus partially versus non integrated firms? Is there any
competitive advantages or disadvantages associated with being
fully or partially integrated firms?

Economies of Is industry characterized by economies of scale in purchasing,

Scale manufacturing, and other activities? Do companies with high
scale operations have an important cost advantage over small
scale firm
Learning and
experience Do any companies have significant cost advantage
curve effects because of their experience in performing particular
activities?
 Question 2: What Kinds of Competitive
Forces Are Industry Members Facing?
• Objectives are to identify

– Main sources of competitive forces

– Strength of these forces

• Key analytical tool

– Five Forces Model

of Competition
Fig. 3.3: The Five Forces Model of Competition
Analyzing the Five Competitive
Forces: How to Do It
Step 1: Identify the specific competitive
pressures associated with each of
the five forces

Step 2: Evaluate the strength of each

competitive force -- fierce, strong,
moderate to normal, or weak?

Step 3: Determine whether the collective

strength of the five competitive forces
is conducive to earning attractive profits
Factors Affecting Threat of Entry
 Threat of New Entrants/ Entry Barriers
Factors HUFA MUFA Neutral MFA HFA comment

Economies of Low High

scale
Capital Low High
require red
Access to Ample Restrict
distribution ed
channels
Expected
retaliation Low High
Differentiation Low High
Brand Loyalty
Experience Low High
Curve
Govt. Action Insignific Signific
ant ant
Low high
 Exit Barriers
• Exit Barriers
Factors HUA MUA Neutral MA HA Comments

Specialized Hi LOW
Assets
Fixed Cost of Hi Low
Exit
Strategic Low
Hi
interrelationshi
p
Government Low
Barriers Hi
 Barriers and profitability

low Low, stable Low, risky

returns returns

Entry Barriers

High, stable High, risky

high returns returns

low high
Exit Barriers
Weapons for Competing and Factors
Affecting Strength of Rivalry
 Competitive Rivalry
Factors HUF MUF Neutra MFA HFA Comment
A A l
Composition of Equal Unequal
Competitors Size Size
Mkt. Growth rate Slow High
Scope of Global Domestic
competition Low
Fixed storage Cost High
Capacity Increase Small
Large
Degree of High
differentiation Commo
dity
Strategic Stake Low
High
Factors Affecting Bargaining Power of
Buyers
 Power Of Buyer
Factors HUFA MUFA N MFA HFA Comment

Number of Few Many

Important
buyers
Threat of High Low
Backward
integration
Product Commodity Specialty
supplied
Switching High Low
cost
% of buyer’s High Low
cost
Profit earned Low High
by buyer
Importance
to final
quality of
buyers Pr. High low
 How Seller – Buyer Partnership
Can Create Competitive Pressures
• Sellers that provide items to business have found it is in their mutual
interest to collaborate closely on matters such as:
- just in time inventories
- order processing
- electronic invoice payments
- data sharing
• Dell has partnered with its largest PC customers to create on line system
for over 50,000 corporate customers, providing their employees
- information on approved product configurations
- paperless purchase orders
- real time order racking, invoicing, purchasing history and other
efficiency ools
- loads a customer’s software at the factory
- installs asset tags so that customer setup time is minimal
- helps customers upgrade their PC systems to next generation hardware
and software
Fig. 3.7: Factors Affecting Bargaining
Power of Suppliers
 Power of Supplier
Factors HUFA MUFA N MFA HFA comment

# of important Few Many

Suppliers
Switching cost
High Low
Availability of
substitutes Difficult Many
Threat of forward High Low
integration
Importance of Buyer
industry to suppliers Buys Buys
small large
Suppliers product an
Proportion proportio
important input to the Less n
buyer’s business important Highly
importan
t
How Seller-Buyer Partnership Can
Create Competitive Pressures
1. Reduce inventory and logistic costs
2. Speed the availability of next generation
components
3. Enhance the quality of parts and
components being supplied and reduce
defect rates
4. Squeeze the cost savings for both
themselves and suppliers
Factors Affecting Competition From
Substitute Products
 Threat Of Substitute Product

Factors HUFA MUFA N MFA HFA Comment

Threat of Hi Low
Obsolescence of
Industry’s
product
Aggressiveness
of substitute Hi Low
products in
promotion
Switching Cost Low High
Perceived price/
value Hi Low
 Overall Industry attractiveness

Factors Unfavorabl Neutral Favorable

e
Entry Barriers
Exit Barriers
Rivalry among
existing firms
Power of buyers
Power of Suppliers
Threat of
substitutes
 Is the Collective Strength of the
Five Competitive Forces Conducive
to Good Profitability
• As a rule, the stronger collective impact of the five
forces, the lower the combined profitability of industry
participants
• Fierce to strong competitive pressures come from all five
forces driving industry profitability to unacceptably low
levels
• An industry can be competitively unattractive even when
not all five forces are strong
• Intense competitive pressure from just two or three
forces may suffice to destroy the conditions for good
profitability and prompt some companies to exit the
business
 Matching Company Strategy to
Competitive conditions
• Effectively matching a company’s strategy to
prevailing competitive conditions have two
aspects
1. Pursing avenues that shield the firm from as
many of the different competitive pressures
2. Initiating actions calculated to produce
sustainable competitive advantage, thereby
shifting competition in the company’s favor,
putting added competitive pressure on rivals,
and perhaps even defining a business model
for the industry
 Question 3: What Factors Are Driving
Industry Change and What Impacts Will
They Have?
• Industries change because forces
are driving industry participants
to alter their actions
• Driving forces are the
major underlying causes
of changing industry and
competitive conditions
• Where do driving forces originate?
– Outer ring of macro-environment
– Inner ring of microenvironment ( Most frequent)
 Driving Forces of Change
 The internet and new e-commerce opportunities and
threats in the industry
 Increasing Globalization:
1. Where scale economies are so large that rival firms need
to market their products in many country markets to gain
enough volume to drive unit cost down
2. Where low cost production is critical consideration
( making it imperative to locate manufacturing facilities in
countries where lowest cost could be achieved
3. Where one or more globally ambitious companies are
pushing hard to gain significant competitive position in
many attractive markets
4. Where local governments are privatizing government –
owned monopolies
 Driving Forces
 Changes in long-term industry growth rate
1. Upsurge in long-term demand triggers a race for growth
among existing firms and attract new comers
2. A shrinking market heightens competitive pressures for
market share inducing mergers and acquisition that result
in industry consolidation
 Changes in who buys the product and they use it
 Product innovation
 Technological change
 Marketing innovation
 Entry or exit of a major firm
 Drivers of Change

 Diffusion of technical know how across more

companies and countries
 Changes in cost and efficiency
 Growing preference for differentiated products
instead of commodity or vice versa
 Regulatory influences and government policy
changes
 Changing societal concerns, attitudes and life styles
 Assessing the impact of the
driving Forces
• Are the driving forces causing demand
for the industry’s product to increase or
decrease?
• Are the driving forces acting to make
competition more or less intense?
• Will the driving forces lead to higher or
lower industry profitability?
 Categorizing International
•
Industries
Multi-domestic Industries:
 Are specific to each country or group of countries
 Collection of essentially domestic industries
 Each subsidiary is essentially independent of the
activities of the MNC’s subsidiaries in other countries
• Global Industries:
 Operate world wide, with MNC making only small
adjustment for country specific circumstances
 MNCs produce products or services in various
locations through out the world and sell them making
only small adjustments for country requirements
 3.9 Continuum of International Industries (Fig. 3.4)

Continuum of International
Industries
Multidomestic Global

Industry in which companies tailor Industry in which companies

their products to the specific manufacture and sell the same
needs of consumers in a products, with only minor
particular country. adjustments made for individual
countries around the world.
• Retailing
Automobiles
• Insurance
• Tires
• Banking
• Television sets

Prentice Hall, 2000 Chapter 3 42

 Factors that determine whether
industry would be global or multi-
domestic
1. Pressure for coordination within
multinational corporations operating in
that country
2. Pressure for local responsiveness on the
part of individual country markets
 Strategic Groups
• A strategic group is a set of business units or firms
that pursue similar strategies with similar resources
• A firms competitive domain can be identified with the
concept of strategic group
• The strategic group map consists of two sets of
dimensions
I. Business Scope commitment:
(2) The target market segment, (2) types of products
services offered, (3) geographical reach
II. Resource Allocation Commitment: allocation of
resources to functional areas considered central in
achieving competitive advantage
 3.10 Mapping Strategic Groups in the U.S. Restaurant Chain Industry (Fig.
3.5)
Mapping Strategic Groups in the U.S.
Restaurant Chain Industry
High
Red Lobster
Olive Garden
ChiChi's

Perkins
International House
of Pancakes

Ponderosa
Price

Bonanza Shoney's
Denny's
Country Kitchen

Kentucky Fried Chicken

Pizza Hut
Long John Silver's

Arby's Wendy's
Domino's Dairy Queen
Hardee's Taco Bell
Burger King McDonald's

Low
Limited Menu Full Menu

Product-Line Breadth
Prentice Hall, 2000 Chapter 3 45
 Implications of Strategic
•
groups
The strategic group a firm should consider
entering
• The type and level of entry barriers the firm will
face
• The number and type of entry barriers the firm will
face
• The strategic dimensions that will make the firm
similar to its strategic group members and
different from members of different strategic
groups
• The relative effect of five forces of competition on
its relative profitability
 Key Success Factors
• Key success factors are those things that
most affect the ability of industry members to
prosper in market place
• On what basis do customers chose between
the competing brands of sellers
• What must seller do to be competitively
successful- what resources and competitive
capabilities does it need
• What does it take for sellers to achieve a
sustainable competitive advantage
 Common Types of Industry Key Success Factors (KSF)
Expertise in particular technology or in scientific research ( important in
Technology pharmaceuticals, internet applications, mobile communications, and
Related many high tech. industry
Proven ability to improve production processes ( important in industries
where advancing technology opens the way for higher manufacturing
efficiency and lower production costs)
Ability to achieve scale economies and/or capture learning
Manufacturing
curve effects (important to achieving low production costs)
Related KSF Quality control know-how
( important in those industries where customers insists on
product reliability)
High utilization of fixed assets (important in capital intensive/
high fixed cost industries)
Access to attractive supplies of killed labor
High labor productivity ( important for items with high labor
content)
Low cost product design and engineering ( reduces
manufacturing costs)
Ability to manufacture or assemble products that are
customized to buyer specification
Distribution A strong network of wholesale distributors/dealers
Strong direct sales capabilities via the internet and or having
related KSF company owned retail outlets
Ability to secure favorable display space on retailer shelves

Marketing Breadth of product line and product selection

Related KSF A well known and respected brand name
Courteous, personalized customer service
Customer guarantees and warranties
Clever advertising
A talented workforce
Distribution capabilities
Product innovation capabilities
Short delivery time capability
Supply chain management capabilities
Strong e-commerce capabilities
 Industry Matrix/ Competitive Profile Matrix
( CPM)

Company A Company A Company B Company B

Strategic Factors Weight Rating Weighted Score Rating Weighted Score

1 2 3 4 5 6

Total 1.00

Source: T. L. Wheelen and J. D. Hunger, “Industry Matrix.” Copyright © 1997 by Wheelen and Hunger
Associates. Reprinted by permission.
Prentice Hall, 2000 Chapter 3 50
 External Factor Analysis Summary( EFAS) /
External Factor Evaluation Matrix ( EFE)
• Column 1( External Factors) list 8-10 most important opportunities and
threats facing the company
• Column 2 ( Weights) assign a weight to each factor. The higher the
weight the more important is this factor to the current and future success
of the company. All weights must sum to 1.0 regardless of the number of
factors
• Column 3 (Rating) ,assign a rating to each factor from 5.0 ( outstanding)
to 1.0 (poor) based on management’s current response to a particular
factor
• Column 4 ( weighted score) Multiply the weight in column 2 for each
factor in column 3 to obtain each factor’s weighted score.
• Column 5 ( comments), note why a particular factor was selected and
how its weight and rating were estimated
• Add the individual weighted score for all external factors in column 4 to
determine the total weighted score for that particular company. The
weighted score of 3 = average, 4 = above average, less than 2.5 as
below average
 3.16 External Factor Analysis Summary (EFAS): Blank

External Factor Analysis Summary

(EFAS)
External Weighted
Strategic Factors Weight Rating Score Comments
1 2 3 4 5
Opportunities

Threats

Total Weighted Score 1.00

Notes: 1. List opportunities and threats (5–10 each) in column 1. 2. Weight each factor from 1.0 (Most Important) to 0.0 (Not
Important) in Column 2 based on that factor’s probable impact on the company’s strategic position. The total weights must sum to
1.00. 3. Rate each factor from 5 (Outstanding) to 1 (Poor) in Column 3 based on the company’s response to that factor. 4. Multiply
each factor’s weight times its rating to obtain each factor’s weighted score in Column 4. 5. Use Column 5 (comments) for rationale
used for each factor. 6. Add the weighted scores to obtain the total weighted score for the company in Column 4. This tells how
well the company is responding to the strategic factors in its external environment.
Source: T. L. Wheelen and J. D. Hunger, “External Strategic Factors Analysis Summary (EFAS).” Copyright © 1991 by Wheelen and
HungerPrentice Hall,
Associates. 2000 by permission.
Reprinted Chapter 3 52
Discussion Questions
• Discuss how a development in a corporation's societal environment
can affect the corporation through its task environment ?
` Developments or trends in a corporation's societal environment
typically do not affect the corporation directly but indirectly through
their impact on one or more stakeholder groups in the corporation's
task environment. As mentioned in the text, the trend toward dual-
career couples is a recent development in the societal environment
of any company
Sociocultural forces regarding the changing role of women plus the
trend toward single family households combined with the economic
forces of high interest rates and inflation in the 1970s to send both
men and women searching for full-time jobs in addition to their being
parents.
This development in the societal environment continues to affect
companies through its impact on employee/union groups (who ask
for parental leave and/or company-sponsored day care centers),
customers (employed parents who increasingly shop for
convenience goods because of time constraints), and special
interest groups and even governments (who ask business firms to
help support local schools and deal with community social problems
• Why is environmental uncertainty an important concept in
strategic management?
It can be argued that without environmental uncertainty, there
would be no need for strategic management. The Arab oil
embargo of 1973 is said to be the single most influential event
causing the formation of planning departments in most U.S.
corporations. The embargo showed managers just how
vulnerable their companies were to environmental change.
A key part of strategic management, environmental scanning
is a tool used to help avoid strategic surprise and cope with an
uncertain environment.
If the environment was certain and predictable, environmental
scanning would be a rather easy chore. Simple extrapolation
would be the only type of forecasting needed. In a complex
and changing world, however, those corporations which
engage in environmental scanning and strategic planning tend
to deal better with environmental uncertainty and to be more
successful than their non-planning brethren.
• What can a corporation do to ensure that information about
strategic environmental factors gets to the attention of strategy
makers?
• This is a very real problem in most large corporations given the
usual obstacles to good communication. The very people who
are in the best positions to gather this data are often the ones
who either fail to pass it on because it's too much of a chore or
they fail to notice it because no one told them how important
certain developments are to top management
• Since proper information dissemination is an important part of
environmental scanning, corporations attempt to schedule a
series of analytical reports for top management's information.
Some of these reports are depicted in Figure 3.1 in the text.
The purchasing department, for example, might be tasked with
the job of compiling a quarterly analysis of the availability and
reliability of present and future suppliers.
• The market research department might prepare analyses of
present and future customers for certain products and services
with special attention to demographic shifts. Each report would
need to conclude with a list of strategic factors to monitor in the
coming months or years.
• If most long-term forecasts are usually incorrect, why bother
doing them?
• This question is based upon the questionable assumption that
most long-term forecasts are usually incorrect. One must keep
in mind that some things are easier to forecast than others. For
example, a forecasted drop in the demand for tricycles in three
years will very likely occur if it is based upon a strong drop in
the present birth rate. Nevertheless, most people would
probably agree that forecasts going out five to ten years have a
low probability of becoming reality in today's dynamic world.
The text takes the position that even if predictions prove to be
wrong, the very act of scanning and forecasting the
environment helps managers take a broader perspective. It
also forces managers to take an active rather than a passive
orientation toward its external environment. It encourages
calculated risks over WAHS (wild a -- hunches) and is more
likely to result in strategic management instead of reactive
management