Analyzing the External Environment of the Firm 2 Analyzing the External Environment of the Firm Copyright © 2008 The McGraw-Hill Companies, Inc. All rights reserved.

Understanding the Environment External Scanning External Monitoring Competitive Intelligence

Creating the Environmentally Aware Organization External Scanning Surveillance of a firm’s external environment: Predict environmental changes to come Detect changes already under way Proactive mode External Monitoring Track evolution of: Environmental trends Sequence of events Streams of activities Intelligence Define and understand a firm’s industry Identify rivals’ strengths and weaknesses Intelligence gathering (data) Interpretation of intelligence data Helps a firm avoid surprises

Environmental Scanning & Monitoring

Competitive Intelligence

What Competitive Intelligence Is and Is Not Competitive Intelligence Is Not … Spying. Spying implies illegal or unethical activities. It is a rare activity. A crystal ball. Competitive Intelligence is good approximation of reality; it does not predict the future. Database search. Data by itself is not good intelligence. A job for one smart person. Competitive Intelligence Is … Information that has been analyzed to the point where you can make a decision. A tool to alert management to early recognition of both threats and opportunities. A means to deliver reasonable assessments. A way of life, a process. Adapted from Exhibit 2.2 What Competitive Intelligence Is and Is Not!

Environmental Forecasting Plausible projections about Direction of environmental change Scope of environmental change Speed of environmental change Intensity of environmental change Scenario analysis

Environmental Analysis SWOT Analysis Segments of the general environment General environmental trends and events Managers need to analyze The general environment The firm’s industry and competitive advantage SWOT analysis Strengths Weaknesses Opportunities Threats Basic technique for analyzing firm and industry condition

Example Harley Davidson SWOT Strengths Weaknesses Opportunities Threats Harley Davidson SWOT Strengths Strong & adaptable brand image Weaknesses Limited ability to develop new non-traditional products Opportunities Growing leisure interest in motorcycles worldwide Threats Differing foreign policies governing motorcycles Source: Developed from www.harley-davidson.com

The General Environment Segments of the general environment include: Demographic Sociocultural Legal/Political Technological Economic Global General environmental trends and events: Little ability to predict them Even less ability to control them Can vary across industries General Environment Demographic Aging population Rising affluence Changes in ethnic composition Geographic distribution of population Greater disparities in income levels Socio-cultural More women in the workforce Increase in temporary workers Greater concern for fitness Greater concern for environment Postponement of family formation Political Tort reform Americans with Disabilities Act (ADA) Repeal of Glass-Steagall Act in 1999 Deregulation of utility and other industries Increases in federally mandated minimum wages Taxation at local, state, federal levels Legislation on corporate governance reforms (Sarbanes-Oxley Act) Technological Genetic engineering Emergence of Internet technology Computer-aided design/computer-aided manufacturing systems (CAD/CAM) Research in synthetic and exotic materials Pollution/global warming Miniaturization of computing technologies Wireless communication Nanotechnology Economic Interest rates Unemployment Consumer Price index Trends in GDP Changes in stock market valuations Global Increasing global trade Currency exchange rates Emergence of the Indian and Chinese economies Trade agreements among regional blocs (NAFTA, EU, ASEAN) Creation of WTO (decreasing tariffs/free trade in services)

Environmental Analysis SWOT Analysis Segments of the general environment General environmental trends and events Competitive Environment

The Competitive Environment Segments of the competitive environment include: Competitors Customers Suppliers Sometimes called the task or industry environment Porter’s five forces model Competitive Environment

Porter’s Five Forces Model of Industry Competition

Porter’s Five Forces Model of Industry Competition Threat of new entrants Threat of substitutes Power of suppliers Power of buyers Rivalry among existing firms 14

The Threat of New Entrants Profits of established firms in the industry may be eroded by new competitors High entry barriers lead to low threat of new entries Economies of scale Product differentiation Capital requirements Switching costs Access to distribution channels Cost disadvantages independent of scale

Question If you are considering opening a new pizza restaurant in your community, what would be the threat of new entrants? How would you evaluate Porter’s other forces for this industry? Explain. The threat of new entrants in the food industry is very high, which is why a majority of new food restaurants fail within their first year. The minimum requirements to open a pizza shop are an oven and a small amount of capital. The potential number of competitors is unlimited due to these factors. Based on other forces also, this industry is not very attractive.

The Bargaining Power of Buyers Buyers threaten an industry Force down prices Bargain for higher quality or more services Play competitors against each other

The Bargaining Power of Buyers A buyer group is powerful when It is concentrated or purchases large volumes relative to seller sales The products it purchases from the industry are standard or undifferentiated The buyer faces few switching costs It earns low profits The buyers pose a credible threat of backward integration The industry’s product is unimportant to the quality of the buyer’s products or services

The Bargaining Power of Suppliers Suppliers can exert power by threatening to raise prices or reduce the quality of purchased goods and services A supplier group will be powerful when The supplier group is dominated by a few companies and is more concentrated than the industry it sells to The supplier group is not obliged to contend with substitute products for sale to the industry The industry is not an important customer of the supplier group

The Bargaining Power of Suppliers A supplier group will be powerful when (cont.) The supplier’s product is an important input to the buyer’s business The supplier group’s products are differentiated or it has built up switching costs for the buyer The supplier group poses a credible threat of forward integration

The Threat of Substitute Products and Services Substitutes limit the potential returns of an industry Ceiling on the prices that firms in that industry can profitably charge Price/performance ratio

The Intensity of Rivalry among Competitors in an Industry Jockeying for position Price competition Advertising battles Product introductions Increased customer service or warranties Interacting factors lead to intense rivalry Numerous or equally balanced competitors Slow industry growth High fixed or shortage costs Lack of differentiation or switching costs Capacity augmented in large increments High exit barriers

How the Internet and Digital Technologies Influences Industry

Using Industry Analyses: A Few Caveats Five Forces analysis implicitly assumes a zero-sum game Five Forces analysis is essentially a static analysis Value net Suppliers and customers (the vertical net) Substitutes and complements (the horizontal net)

Example Porter’s Five Forces Model: BMW Threat of new entrants Very low Threat of substitutes Medium Power of suppliers Power of buyers Rivalry among existing firms Very High Threat of New Entrants - Very Low In order to enter the automotive market, a company would need a large amount of capital and a tremendous amount of tacit and explicit knowledge. Threat of Substitutes - Medium Available substitutes include public transportation such as buses, trains, boats, and aircraft. Power of Suppliers - Medium Some suppliers are smaller and do not have much power over the pricing and distribution of their products. However, there are not that many small part manufacturers in this market. The majority of suppliers to major automotive makers are medium to large businesses and have some flexibility in determining product pricing, delivery, and distribution. Power of Buyers - Medium Buyers in today’s day and age have an immense amount of information available to them regarding the pricing and cost to manufacture a car. Therefore, buyers do have some leverage in being able to negotiate a purchasing price of a car. Competitive Rivalry - Very High There is an intense competition in each segment of the automobile industry from large global companies. Source: Developed from www.bmw.com 25

The Value Net

Strategic Groups within Industries Two unassailable assumptions in industry analysis No two firms are totally different No two firms are exactly the same Strategic groups Cluster of firms that share similar strategies Breadth of product and geographic scope Price/quality Degree of vertical integration Type of distribution system

Strategic Groups within Industries Value of strategic groups as an analytical tool Identify barriers to mobility that protect a group from attacks by other groups Identify groups whose competitive position may be marginal or tenuous Chart the future direction of firms’ strategies Thinking through the implications of each industry trend for the strategic group as a whole