Chapter 2 The External Environment: Opportunities, Threats, Industry Competition, and Competitor Analysis ©2000 South-Western College Publishing 1

The Strategic Management Process Strategy Formulation Chapter 3 Internal Environment Chapter 2 External Strategic Intent Strategic Mission The Strategic Management Process Strategic Outcomes Actions Strategic Inputs Strategy Formulation Strategy Implementation Chapter 4 Business-Level Strategy Chapter 5 Competitive Dynamics Chapter 6 Corporate-Level Chapter 8 International Chapter 9 Cooperative Strategies Chapter 7 Acquisitions & Restructuring Chapter 10 Corporate Governance Chapter 11 Structure & Control Chapter 12 Strategic Leadership Chapter 13 Entrepreneurship & Innovation Strategic Competitiveness Above Average Returns Feedback 10

External Environmental Analysis The external environmental analysis process should be conducted on a continuous basis. This process includes four activities: Scanning Monitoring Forecasting Assessing Identifying early signals of environmental changes and trends Detecting meaning through ongoing observations of environmental changes and trends Developing projections of anticipated outcomes based on monitored changes and trends Determining the timing and importance of environmental changes and trends for firms' strategies and their management 10

Components of the General Environment Economic Demographic Sociocultural Competitive Environment Industry Environment Political/Legal Global Technological 10

Components of the General Environment 10

Porter’s Five Forces Model of Competition Threat of New Entrants 11

Threat of New Entrants Economies of Scale Product Differentiation Government Policy Economies of Scale Product Differentiation Capital Requirements Switching Costs Access to Distribution Channels Cost Disadvantages Independent of Scale Barriers to Entry Expected Retaliation 12

Bargaining Power of Suppliers Porter’s Five Forces Model of Competition Threat of New Entrants Threat of New Entrants Bargaining Power of Suppliers 14

Bargaining Power of Suppliers Suppliers are likely to be powerful if: 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 Supplier industry is dominated by a few firms 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 15

Bargaining Power of Buyers Porter’s Five Forces Model of Competition Threat of New Entrants Threat of New Entrants Bargaining Power of Buyers Bargaining Power of Suppliers 17

Bargaining Power of Buyers Buyer groups are likely to be powerful if: Buyers are concentrated or purchases are large relative to seller’s sales 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 Buyers compete with the supplying industry by: * Bargaining down prices * Forcing higher quality * Playing firms off of each other 18

Bargaining Power of Suppliers Bargaining Power of Buyers Porter’s Five Forces Model of Competition Threat of New Entrants Threat of New Entrants Bargaining Power of Suppliers Bargaining Power of Buyers Threat of Substitute Products 20

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 21

Bargaining Power of Suppliers Porter’s Five Forces Model of Competition Threat of New Entrants Threat of New Entrants Bargaining Power of Suppliers Rivalry Among Competing Firms in Industry Bargaining Power of Buyers Threat of Substitute Products 23

Rivalry Among Existing Competitors Intense rivalry often plays out in the following ways: Jockeying for strategic position Using price competition Staging advertising battles Making new product introductions Increasing consumer warranties or service 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 25

Rivalry Among Existing Competitors Cutthroat competition is more likely to occur when: Numerous or equally balanced competitors Slow growth industry High fixed costs Lack of differentiation or switching costs High storage costs Capacity added in large increments High strategic stakes High exit barriers Diverse competitors 26

Rivalry Among Existing Competitors High exit barriers are economic, strategic and emotional factors which cause companies to remain in an industry even when future profitability is questionable. Specialized assets Fixed cost of exit (e.g., labor agreements) Emotional barriers Government and social restrictions Strategic interrelationships 27

Effects of Entry Barriers and Exit Barriers on Industry Profits Low High Low Entry Barriers High 28

Effects of Entry Barriers and Exit Barriers on Industry Profits Low High Low, Stable Returns Low Entry Barriers High 29

Effects of Entry Barriers and Exit Barriers on Industry Profits Low High Low, Stable Returns Low Entry Barriers High, Stable Returns High 30

Effects of Entry Barriers and Exit Barriers on Industry Profits Low High Low, Stable Returns Low, Risky Returns Low Entry Barriers High, Stable Returns High 31

Effects of Entry Barriers and Exit Barriers on Industry Profits Low High Low, Stable Returns Low, Risky Returns Low Entry Barriers High, Stable Returns High, Risky Returns High 32

Sources of Opportunities and Threats Legal and Regulations Technology Social trends Customer buying habits Competition

Competitor Analysis The follow-up to Industry Analysis is effective analysis of a firm’s Competitors Competitive Environment Industry Environment 33

Competitor Analysis Response Assumptions What assumptions do our competitors hold about the future of industry and themselves? Response What will our competitors do in the future? Current Strategy Does our current strategy support changes in the competitive environment? Where do we have a competitive advantage? Future Objectives How do our goals compare to our competitors’ goals? How will this change our relationship with our competition? Capabilities How do our capabilities compare to our competitors? 38

Competitor Analysis Future Objectives What Drives the competitor? How do our goals compare to our competitors’ goals? Where will emphasis be placed in the future? What is the attitude toward risk? 34

Competitor Analysis Future Objectives Current Strategy What is the competitor doing? How do our goals compare to our competitors’ goals? What can the competitor do? Current Strategy Where will emphasis be placed in the future? How are we currently competing? What is the attitude toward risk? Does this strategy support changes in the competitive structure? 35

Competitor Analysis Future Objectives Current Strategy Assumptions How do our goals compare to our competitors’ goals? Where will emphasis be placed in the future? What is the attitude toward risk? What does the competitor believe about itself and the industry? Current Strategy How are we currently competing? Does this strategy support changes in the competition structure? Assumptions Do we assume the future will be volatile? What assumptions do our competitors hold about the industry and themselves? Are we assuming stable competitive conditions? 36

Competitor Analysis Future Objectives Current Strategy Assumptions How do our goals compare to our competitors’ goals? Where will emphasis be placed in the future? What is the attitude toward risk? What are the competitor’s capabilities? Current Strategy How are we currently competing? Does this strategy support changes in the competition structure? Do we assume the future will be volatile? Are we operating under a status quo? What assumptions do our competitors hold about the industry and themselves? Assumptions Capabilities What are my competitors’ strengths and weaknesses? How do our capabilities compare to our competitors? 37

Competitor Analysis Future Objectives Response Current Strategy How do our goals compare to our competitors’ goals? Where will emphasis be placed in the future? What is the attitude toward risk? Response What will our competitors do in the future? Current Strategy How are we currently competing? Does this strategy support changes in the competition structure? Where do we have a competitive advantage? Do we assume the future will be volatile? Are we operating under a status quo? What assumptions do our competitors hold about the industry and themselves? Assumptions How will this change our relationship with our competition? Capabilities What are my competitors’ strengths and weaknesses? How do our capabilities compare to our competitors? 38

Strategic Groups Strategic groups are organisations within an industry with similar strategic characteristics, following similar strategies or competing on similar bases

Some characteristics for identifying strategic groups Sources: Based on M.E. Porter, Competitive Strategy, Free Press, 1980; and J. McGee and H. Thomas, ‘Strategic groups: theory, research and taxonomy’, Strategic Management Journal, vol. 7, no. 2 (1986), pp. 141–160. Exhibit 2.8

Identification of Strategic Groups (1) Scope of activities Product/service diversity Geographical coverage Number of market segments served Distribution channels I don’t think the MBA example for strategic groups is a very good one – food retail or cars would be easier for students to understand. In that case it would be worth an illustration. Sources: Based on M.E. Porter, Competitive Strategy, Free Press, 1980; and J. McGee and H. Thomas, ‘Strategic groups: theory, research and taxonomy’, Strategic Management Journal, vol. 7, no. 2 (1986), pp. 141–160.

Identification of Strategic Groups (2) Resource commitment Extent of branding Marketing effort Extent of vertical integration Product/service quality Technological position (leader, follower) Size of organisation I don’t think the MBA example for strategic groups is a very good one – food retail or cars would be easier for students to understand. In that case it would be worth an illustration. Sources: Based on M.E. Porter, Competitive Strategy, Free Press, 1980; and J. McGee and H. Thomas, ‘Strategic groups: theory, research and taxonomy’, Strategic Management Journal, vol. 7, no. 2 (1986), pp. 141–160.

Uses of Strategic Group Analysis To understand who are the most direct competitors of an organisation To establish the different bases of competitive rivalry within and between the strategic groups To assess if an organisation could move from one group to another Depends on barriers to entry To identify opportunities and threats Changes in the macro-environment may create strategic space

The Value Chain Exhibit 3.6 Source: M.E. Porter, Competitive Advantage: Creating and Sustaining Superior Performance, Free Press, 1985. Used with permission of The Free Press, a division of Simon & Schuster, Inc. © 1985, 1988 by Michael E. Porter. All rights reserved. Exhibit 3.6

Value Chain and Value Network To diagnose strategic capability To understand how value is created or lost in terms of the activities undertaken The value chain describes the activities within and around an organisation which together create a product or service

Value Chain Analysis Identifies clusters of activities providing particular benefit to customers Highlights activities which are less efficient and which might be de-emphasised or outsourced Requires managers to think about the role of such activities Can be used to identify the cost and value of activities

The Value Network Exhibit 3.7 Source: M.E. Porter, Competitive Advantage: Creating and Sustaining Superior Performance, Free Press, 1985. Used with permission of The Free Press, a division of Simon & Schuster Inc. © 1985, 1988 by Michael E. Porter. All rights reserved. Exhibit 3.7

The Value Network The value network Specialisation of roles Set of inter-organisational links/relationships necessary to create a product or service Specialisation of roles Underpins excellence in creating best-value products Need to understand whole process Where cost/value is created in supply/distribution chains How to manage links to improve customer value How product quality is a function of linked activities of manufacturer, suppliers and distributors

The Value Network – Key Questions (1) Where are cost and value created? Which activities are vital to an organisation? Retain direct control of core capabilities Outsource less important activities Where are the profit pools? Potential profits at different parts of the value network Availability of competences to compete in these areas

The Value Network – Key Questions (2) Make or buy? Outsourcing Develop competence in influencing performance of other organisations Who are the best partners? What kind of relationships are required?