External Analysis:

Identification of Opportunities and Threats

Strategic Management
Session 4
2 | 2
To assure victory, always
carefully survey the field
before battle.
- Sun Tzu
It is not the strongest of the species that
survive, nor the most intelligent, but the one
most responsive to change.
Charles Darwin
External Assessment
Nothing focuses the mind better than the
constant sight of a competitor who wants to
wipe you off the map.
Wayne Calloway, Former CEO, PepsiCo
Roadmap for environment scan
Question 1: What Are the Industrys Dominant Economic Features?
Question 2: What Kinds of Competitive Forces Are Industry Members Facing?
Question 3: What Factors Are Driving Industry Change and What Impacts Will
They Have?
Question 4: What Market Positions Do Rivals Occupy ? What Strategic Moves
Are Rivals Likely to Make Next?
Question 6: What Are the Key Factors for Future Competitive Success?
Question 7: Does the Outlook for the Industry Present an Attractive
Opportunity?
What are the Industrys Dominant Economic Traits?
Market size and growth rate
Number of rivals / competitive rivalry
Buyer needs and requirements
Production capacity
Pace of technological change
Vertical integration
Product innovation
Degree of product differentiation
Economies of scale
Learning and experience curve effects
External Analysis requires an assessment of:
Industry environment in which company operates
Competitive structure of industry
Competitive position of the company
Competitiveness and position of major rivals
The country or national environments in which
company competes
The wider socioeconomic or macroenvironment that
may affect the company and its industry
Social
Government
Legal
International
Technological
External Analysis
The purpose of external analysis is to identify
the strategic opportunities and threats in the
organizations operating environment that
will affect how it pursues its mission.
External Analysis:
Opportunities and Threats
Analyzing the dynamics of the industry in which an
organization competes to help identify:
Opportunities
Conditions in the
environment that a
company can take
advantage of to
become more
profitable
Threats
Conditions in the
environment that
endanger the integrity
and profitability of
the companys
business
Industry Analysis:
Defining an Industry
Industry
A group of companies offering products or services that are close
substitutes for each other and that satisfy the same basic customer
needs
Industry boundaries may change as customer needs evolve and
technology changes
Sector
A group of closely related industries
Market Segments
Distinct groups of customers within an industry
Can be differentiated from each other with distinct attributes and
specific demands
Industry Analysis: Defining an Industry
Industry analysis begins by focusing on
the overall industry
before considering market segment or sector-level issues
The Computer Sector:
Industries and Market Segments
Porters Five Forces Model
Source: Adapted and reprinted by permission of Harvard Business Review. From How Competitive Forces Shape Strategy, by
Michael E. Porter, Harvard Business Review, March/April 1979 by the President and Fellows of Harvard College. All rights reserved.
How the Five Forces Shape Competition
within an Industry
The stronger that each of these five forces is, the more
limited is the ability of established companies to raise
prices and earn greater profits within their industry.
A weak competitive force
may be viewed as an opportunity
as it allows company to earn greater
profits
A strong competitive force
may be viewed as a threat
as it depresses industry profits
Strength of forces may change
As industry conditions change
Through its choice of strategies,
a company may alter the strength of one
or more of the five forces to its advantage.
C
C C C
C
Potential Competitors are companies that are not
currently competing in an industry but have the capability
to do so if they choose. Barriers to new entrants include:
C Risk of Entry by Potential Competitors
1. Economies of Scale as firms expand output, unit costs fall via:
+ Cost reductions through mass production
+ Discounts on bulk purchases of raw material and standard parts
+ Cost advantages of spreading fixed and marketing costs over large volume
2. Brand Loyalty
+ Achieved by creating well-established customer preferences
+ Difficult for new entrants to take market share from established brands
3. Absolute Cost Advantages relative to new entrants
+ Accumulated experience in production and key business processes
+ Control of particular inputs required for production
+ Lower financial risks access to cheaper funds
4. Customer Switching Costs for Buyers where significant
5. Government Regulation
+ May be a barrier to enter certain industries
Factors Affecting
Strength of Threat of Entry
1. Industry Competitive Structure
+ Number and size distribution of companies
+ Consolidated versus fragmented industries
2. Demand Conditions
+ Growing demand tends to moderate competition and reduce rivalry
+ Declining demand encourages rivalry for market share and revenue
3. Cost Conditions
+ High fixed costs profitability leveraged by sales volume
+ Slow demand and growth can result in intense rivalry and lower profits
4. Height of Exit Barriers prevents companies from leaving industry
+ Write-off of investment in assets
+ Economic dependence on industry
+ Maintain assets - to participate
effectively in an industry
C Rivalry Among Established Companies
Competitive Rivalry refers to the competitive struggle
between companies in the same industry to gain market
share from each other. Intensity of rivalry is a function of:
+ High fixed costs of exit
+ Emotional attachment to industry
+ Bankruptcy regulations allowing
unprofitable assets to remain
Weapons for Competing and
Factors Affecting Strength of Rivalry
Industry Buyers may be the consumers or end-users who
ultimately use the product or intermediaries that distribute or
retail the products. These buyers are most powerful when:
C Bargaining Power of Buyers
1. Buyers are dominant.
+ Buyers are large and few in number.
+ The industry supplying the product is composed of many small companies.
2. Buyers purchase in large quantities.
+ Buyers have purchasing power as leverage for price reductions.
3. The industry is dependant on the buyers.
+ Buyers purchase a large percentage of a companys total orders.
4. Switching costs for buyers are low.
+ Buyers can play off the supplying companies against each other.
5. Buyers can purchase from several supplying companies at once.
6. Buyers can threaten to enter the industry themselves.
+ Buyers produce themselves and supply their own product.
+ Buyers can use threat of entry as a tactic to drive prices down.
Factors Affecting
Bargaining Power of Buyers
Suppliers are organizations that provide inputs such as
material and labor into the industry. These suppliers are
most powerful when:
C Bargaining Power of Suppliers
1. The product supplied is vital to the industry and has few
substitutes.
2. The industry is not an important customer to suppliers.
+ Suppliers are not significantly affected by the industry.
3. Switching costs for companies in the industry are significant.
+ Companies in the industry cannot play suppliers against each other.
4. Suppliers can threaten to enter their customers industry.
+ Suppliers can use their inputs to produce and compete with
companies already in the industry.
5. Companies in the industry cannot threaten to enter suppliers
industry.
Factors Affecting the
Bargaining Power of Suppliers
Substitute Products are the products from
different businesses or industries that can satisfy
similar customer needs.
C Substitute Products
1. The existence of close substitutes is a strong
competitive threat.
+Substitutes limit the price that companies can charge for
their product.
2. Substitutes are a weak competitive force if an
industrys products have few close substitutes.
+Other things being equal, companies in the industry have
the opportunity to raise prices and earn additional profits.
Substitutes matter when customers are attracted to
the products of firms in other industries
Concept
Eyeglasses and contact lens vs. laser surgery
Sugar vs. artificial sweeteners
Newspapers vs. TV vs. Internet
Examples
Competitive Force of Substitute Products
Factors Affecting
Competition From Substitute Products
The Sixth force ???
Strategic Groups within Industries
Strategic Groups are groups of companies that
follow a business model similar to other companies
within their strategic group but are different from
that of other companies in other strategic groups.
+Implications of Strategic Groups
1. The closest competitors are within the same Strategic Group
and may be viewed by customers as substitutes for each other.
2. Each Strategic Group can have different competitive forces
and may face a different set of opportunities and threats.
+Mobility Barriers factors within an industry that inhibit the
movement of companies between strategic groups
Include barriers to enter another group or exit existing group
The basic differences between business models in
different strategic groups can be captured by a
relatively small number of strategic factors.
Strategic Group Mapping
Firms in same strategic group have two or more
competitive characteristics in common
Have comparable product line breadth
Sell in same price/quality range
Emphasize same distribution channels
Use same product attributes to appeal
to similar types of buyers
Use identical technological approaches
Offer buyers similar services
Cover same geographic areas
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 groups respective share of total industry sales
Strategic Groups in the Pharmaceutical
Industry
High Risk High Return
Focus on developing new
proprietary drugs
Heavy R&D spending
Low Risk Low Return
+ Focus on low-cost copies of
drugs with expired patents
+ Production efficiency
Strategic Barriers in the Pharmaceutical
Industry
Strategic Barrier
Lack of R&D Skills
to develop new
proprietary drugs
Example: Strategic Group Map
of Selected Retail Chains
Industry Life Cycle Model analyzes the affects of
industry evolution on competitive forces over time
and is characterized by five distinct life cycle stages:
Industry Life Cycle Analysis
1. Embryonic industry just beginning to develop
+ Rivalry based on perfecting products, educating customers, and opening
up distribution channels.
2. Growth first-time demand takes-off with new customers
+ Low rivalry as focus is on keeping up with high industry growth.
3. Shakeout demand approaches saturation, replacements
+ Rivalry intensifies with emergence of excess productive capacity.
4. Mature market totally saturated with low to no growth
+ Industry consolidation based on market share, driving down price.
5. Decline industry growth becomes negative
+ Rivalry further intensifies based on rate of decline and exit barriers.
Stages in the Industry Life Cycle
O O O O O
Strength and nature of five forces change as industry evolves
Growth in Demand and Capacity
Industry Shakeout:
Rivalry Intensifies
with growth in
excess capacity
Anticipate how forces will change and formulate appropriate strategy Figure 2.5
The Role of the Macroenvironment
Changes in the
forces in the macro-
environment can
directly impact:
The Five Forces
Relative Strengths
Industry
Attractiveness
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
Analyzing Driving Forces
1. Identify forces likely to exert greatest influence over
next 1 - 3 years
Usually no more than 3 - 4 factors qualify as real
drivers of change
2. Assess impact
Are the driving forces causing demand for 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?
Industry Analysis:
External Factor Evaluation (EFE) Matrix
Competitive Political Cultural
Technological Environmental Social
Governmental Demographic Economic
Summarize & Evaluate
External Factor Evaluation (EFE) Matrix
1. Identify the key opportunities & threats across
various factors economic, social, demographic etc
2. Rank them based on the impact it could have on
the organisation & give weightages accordingly.
(Sum total of all weights should be = 1)
3. Based on the organisations capablity to handle
these factors rate each of them on a scale of 1 to 4
(4 indicating the organisation is fully capable of handling these
factors)
EFE Gateway Computers (2003)
Key External Factors
Weight Rating
Wtd
Score
Opportunities
1. Global PC market expected to grow 20%
in 2004
0.10 3 0.30
2. Cost of PC component parts expected to
decrease 10% - 2004
0.10 3 0.30
3. Internet use growing rapidly 0.05 2 0.10
4. China entered WTO; lowered taxes for
importing PCs
0.10 1 0.10
5. The average income for PC worker has
declined from $40K/yr to $30k/yr
0.05 3 0.15
EFE Gateway Computers (2003) (contd)
Key External Factors
Weight Rating
Wtd
Score
Opportunities (contd)
6. Modernization of business firms and
government agencies
0.05 2 0.10
7. U.S. (& world) economies recovering 0.05 3 0.15
8. 30% of Chinese population can afford a
PC; only 10% of homes have a PC
0.05 1 0.05
Threats
0.10 1 0.10
1. Intense rivalry in industry 0.10 1 0.10
EFE Gateway Computers (2003) (contd)
Key External Factors
Weight Rating
Wtd
Score
Threats (contd)
2. Severe price cutting in PC industry 0.10 2 0.20
3. Different countries have different regs
and infrastructure for PCs
0.05 1 0.05
4. Palm & PDA becoming substitutes 0.05 3 0.15
5. Demand exceeds supply of experienced
PC workers
0.05 4 0.20
6. Birth rate in U.S. declining annually 0.05 3 0.15
EFE Gateway Computers (2003) (contd)
Key External Factors
Weight Rating
Wtd
Score
Threats (contd)
7. U.s. consumers and businesses delaying
purchase of PCs
0.05 2 0.10
8. PC firms diversifying into consumer
electronics
0.05 3 0.15
Total 1.00 2.40
Total weighted score of 4.0
Organization response is outstanding to threats
and oppoertunities
Industry Analysis EFE
Total weighted score of 1.0
Firms strategies not capitalizing on opportunities
or avoiding threats
Industry Analysis EFE
Understanding the factors used in the EFE
Matrix is more important than the actual
weights and ratings assigned.
Important --
What Are the Key (Critical) Factors for
Competitive Success?
KSFs are those competitive factors most affecting every
industry members ability to prosper. They concern
Specific strategy elements
Product attributes
Resources
Competencies
Competitive capabilities
that a company needs to have to be competitively
successful
KSFs are attributes that spell the difference between
Profit and loss
Competitive success or failure
Identifying Industry
Key Success Factors
Pinpointing KSFs involves determining
On what basis do customers choose between competing
brands of sellers?
What resources and competitive capabilities does a seller
need to have to be competitively successful?
What does it take for sellers to achieve a sustainable
competitive advantage?
KSFs consist of the 3 - 5 major determinants
of financial and competitive success
Example: KSFs for
Beer Industry
Full utilization of brewing capacity
to keep manufacturing costs low
Strong network of wholesale distributors
to gain access to retail outlets
Clever advertising
to induce beer drinkers to buy a particular brand
Example: KSFs for Apparel Manufacturing
Industry
Appealing designs and color combinations
to create buyer appeal
Low-cost manufacturing efficiency
to keep selling prices competitive
Example: KSFs for Tin and
Aluminum Can Industry
Locating plants close to end-use customers
to keep costs of shipping empty cans low
Ability to market plant output within
economical shipping distances
Industry Analysis: Competitive Profile
Matrix (CPM)
Identifies firms major competitors and
their strengths & weaknesses in
relation to a sample firms strategic
positions
Gateway Apple Dell
CSFs
Wt Rating Wtd
Score
Rating Wtd
Score
Rating Wtd
Score
Market share 0.15 3 0.45 2 0.30 4 0.60
Inventory sys 0.08 2 0.16 2 0.16 4 0.32
Fin position 0.10 2 0.20 3 0.30 3 0.30
Prod. Quality 0.08 3 0.24 4 0.32 3 0.24
Cons. Loyalty 0.02 3 0.06 3 0.06 4 0.08
Sales Distr 0.10 3 0.30 2 0.20 3 0.30
Global Exp. 0.15 3 0.45 2 0.30 4 0.60
Org. Structure 0.05 3 0.15 3 0.15 3 0.15
Gateway Apple Dell
CSFs (contd)
Wt Rating Wtd
Score
Rating Wtd
Score
Rating Wtd
Score
Prod. Capacity 0.04 3 0.12 3 0.12 3 0.12
E-commerce 0.10 3 0.30 3 0.30 3 0.30
Customer Serv 0.10 3 0.30 2 0.20 4 0.40
Price
competitive
0.02 4 0.08 1 0.02 3 0.06
Mgt. experience 0.01 2 0.02 4 0.04 2 0.02
Total 1.00 2.83 2.47 3.49
Industry Analysis CPM
Just because one firm receives a 3.2 rating
and another receives a 2.8 rating, it does not
follow that the first firm is 20 percent better
than the second.
Important --
Does the Outlook for the Industry Present
an Attractive Opportunity?
Involves assessing whether the industry and competitive
environment is attractive or unattractive for earning
good profits
Under certain circumstances, a firm uniquely well-
situated in an otherwise unattractive industry can still
earn unusually good profits
Attractiveness is relative, not absolute
Conclusions have to be drawn from the
perspective of a particular company
Factors to Consider in
Assessing Industry Attractiveness
Industrys market size and growth potential
Whether competitive forces are conducive to
rising/falling industry profitability
Whether industry profitability will be favorably or
unfavorably impacted by driving forces
Degree of risk and uncertainty in industrys future
Severity of problems facing industry
Firms competitive position in industry vis--vis rivals
Firms potential to capitalize on vulnerabilities of weaker
rivals
Whether firm has sufficient resources to defend against
unattractive industry factors
Core Concept: Assessing Industry
Attractiveness
The degree to which an industry is
attractive or unattractive is often not
the same for all industry participants
or potential entrants.
The opportunities an industry
presents depend partly on a
companys ability to capture them.
CASE : Plane Wreck:
The Airline Industry in 20012004
1. Use the competitive forces model to analyze the structure of the airline
industry during 20012004. How well does this analysis explain the
low profitability of the industry?
2 Are the budget airlines in a different strategic group than the major
network airlines?
3 Compare and contrast the business models of the network and budget
airlines. What are the strengths and weaknesses of each model?
4 What is required for the industry to return to profitability?
5 What must the major network airlines do to respond to the competitive
threat posed by the budget airlines? Have they taken steps in this
direction? Have they done enough?