Chapter 4 Exploring the External Environment: Macro and Industry Dynamics

OBJECTIVES 1 Explain the importance of the external context for strategy and firm performance 2 Use PESTEL (PEST) to identify the macro characteristics of the external context 3 Identify the major features of an industry and the forces that affect industry profitability 4 Understand the dynamic characteristics of the external context 5 Show how industry dynamics may redefine industries 6 Use scenario planning to predict the future structure of the external context

THE COLA WARS (TIMELINE) Coca-Cola Coca-Cola invented “Kick Pepsi's can” Diet Coke New Coke Repair Coke and restore Stock price Diversify product line Pepsi “Beat Coke” “Pepsi Generation” “Pepsi Challenge” Foster entrepreneurial spirit of Pepsi’s people Jettison slow-growing businesses Diversify beyond soft-drinks 1886 1950 1960 1970 1980 1990 2000

EXTERNAL CONTEXT OF STRATEGY An internal analysis is just half of what is needed to build strategy The SWOT and more complicated frameworks help us understand the full picture 4 Elements of Opportunities & Threats: Direction, Magnitude, Scope, and Timing External environment Internal Strengths Weaknesses Capabilities Relationships Etc.

BLURRING OF INDUSTRY BOUNDARIES   With fewer companies providing these services, the power of buyers will be impacted. As services are bundled, the cost to switch to another service provider will be greater. Long Distance/Cell Phone Companies Cable Companies  Internet Provider Companies

THE BALANCE OF POWER Proctor & Gamble Wal-Mart

THE EXTERNAL ENVIRONMENT OF THE ORGANIZATION Macro Environment Political/Legal, Economic, Sociocultural, Technological Industry Environment Strategic Group The Organization

KEY QUESTION TO ASK What is our firm’s industry? What macro environmental conditions will have a material effect on our ability to implement our strategy successfully? What are the characteristics of the industry? How stable are these characteristics?

PRESSURES FAVORING INDUSTRY GLOBALIZATION Markets Costs Governments Competition Homogeneous customer needs Large scale and scope economies Favorable trade policies Interdependent countries Global competitors Global customer needs Common technological standards Learning and experience Global channels Common manufacturing and marketing regulations Sourcing efficiencies Favorable logistics Arbitrage opportunities High R&D costs Transferable marketing approaches Source: Adapted from M.E. Porter, Competition in Global industries (Boston: Harvard Business School Press, 1986); G. Yip, “Global Strategy in a World of Nations, “ Sloan Management review 31:1 (1989), 29-40

ANALYZING INDUSTRY STRUCTURE USING FIVE – FORCES Threat of New Entrants (and Entry Barriers) Absolute cost advantages Proprietary learning curve Access to inputs Government policy Economies of scale Capital requirements Brand identity Switching costs Access to distribution Expected retaliation Proprietary products Complementors Number of complements Relative value added Barriers to complement entry Engagement of complements Buyer perception of complements Complement exclusivity Industry value chain – from raw materials and other inputs, to channel to end consumer Supplier Power Supplier concentration Importance of volume to supplier Differentiation of inputs Impact of inputs on cost or differentiation Switching costs of firms in the industry Presence of substitute inputs Threat of forward integration Cost relative to total purchases in industry Degree of Rivalry Exit barriers Industry concentration Fixed costs/value added Industry growth Intermittent overcapacity Product differences Switching costs Brand identity Diversity of rivals Corporate stakes Buyer Power (Channel and End consumer) Bargaining leverage Buyer volume Buyer information Brand identity Price sensitivity Threat of backward integration Product differentiation Buyer concentration vs. industry Substitutes available Buyer’s incentives Threat of Substitutes Switching costs Buyer inclination to substitute Price-performance tradeoff of substitutes Varity of substitutes Necessity of product or service Source: Adapted from M.E. Porter, Competitive Strategy: Techniques for Analyzing Industries and Competitors (New York: Free Press, 1980)

KEY SUCCESS FACTORS AS BARRIERS TO ENTRY SOFT DRINK EXAMPLE Key success factor (KSF) KSFs: Key asset or requisite skill that all firms in an industry must possess in order to be a viable competitor Ability to meet competitive pricing Extensive distribution Ability to raise consumer awareness Broad product mix Global presence Well positioned bottlers and bottling capacity

INDUSTRY FRAGMENTATION AND CONCENTRATION Monopoly Duopoly Fragmented

CAUSES OF RIVARLY Barriers to Entry Barriers to Exit Few other opportunities Sunk investments Etc., In addition to entry and exit barriers, many factors drive rivalry History of price wars Level of fixed costs Industry concentration Market growth Industry Life Cycle Strong brands Proprietary technology Start-up costs Etc.,

SUPPLIER POWER Diamond supply Percent Diamond Retailers Others 50 When firms in the supply industry can dictate terms, they can extract greater profits DeBeers 50

BUYER POWER Industry A Suppliers Buyers Industry B Profits Suppliers ILLUSTRATIVE Industry A Suppliers Buyers Industry B Profits Suppliers Buyers In industries characterized with many suppliers and few buyers, buyers often capture a greater share of profits Profits

THREAT OF SUBSTITUTES Soft drinks Movie rentals Redbox Coke Pepsi Netflix Bottled water Cable/Satellite TV

IMPACT OF COMPLEMENTOR Three Examples Any factor that makes it more attractive for suppliers to supply an industry on favorable terms or that makes it more attractive for buyers to purchase products or services from an industry at prices higher than it would pay absent the complementor Hot dogs + Buns More sales Music + MP3 player More attractive offering Delta plane orders + American Airlines plane orders Lower costs from Boeing

INDUSTRY LIFE CYCLE Market Size Time Embryonic Growing Mature In Decline Technological uncertainty Niche market – selected products for selected markets Participants emphasize problem solving – product as “solution” Customers become better informed Market expands beyond niche More competitors enter Aggressive customers Proliferation of products and markets served Market volatility and beginnings of industry consolidation Product/market contraction Further consolidation and industry regeneration Source: Adapted from K. Rangan and G. Bowman, “Beating the Commodity Magnet,” Industrial Marketing Management 21 (1992), 215-224; P. Kotler, “Managing Products through their Product Life Cycle,” in Marketing Management: Planning, Implementation, and Control, 7th ed (Upper Saddle River, NJ: Prentice Hall, 1991)

COMPETITIVE INTELLIGENCE Competitive intelligence is a method whereby firms are able to gather information about their competitors.

TECHNOLOGICAL DISCONTINUITIES Example Product-related In disk-drive industry, virtually every new generation of technology led to demise of market leader Discontinuities Process-related Southwest airlines radically changed the airline business model by adopting new processes (e.g., a point-to-point model)

SCENARIO PLANNING An understanding of the big picture and a plan to manage uncertainty 6 Assess the strategic implications of each scenario 5 Specify indicators that can signal which scenario is unfolding 4 Flesh out the picture 3 Develop the framework by defining two specific axes 2 Brainstorm key drivers, decision factors, and possible scenario departure or divergence points 1 Define target issue, time frame, and scope for scenarios

HYPERCOMPETITION “Market stability is threatened by short product life cycles, short product design cycles, new technologies, frequent entry by unexpected outsiders, repositioning by incumbents, and tactical redefinitions of market boundaries as diverse industries emerge.” – Richard D’Aveni