External Environmental Analysis

Lecture Topics Purpose of External Environmental Analysis Gathering Information for External Environmental Analysis General Environment Competitive Environment Key Success Factors Competitive Changes During Industry Evolution Strategic Groups National Competitive Advantage

Purpose of External Environmental Analysis Organizations are affected by conditions in the environment Managers need to be aware of these conditions in order to Take advantage of opportunities that can lead to higher profits Reduce the impact of threats that can harm the organization’s future

Gathering Information for External Environmental Analysis Managers need information in order to know and develop an understanding about what is happening in the external environment Three approaches to information gathering: Scanning: general surveillance of environmental changes; looking for early signals of changes Monitoring: close attention to specific developments that could affect the organization Competitive Intelligence: following actions of competitors

Two Areas for Analysis General Environment Competitive Environment

The General and Competitive Environment General Environment Demographics Competitive Environment Threat on new entrants Bargaining power of suppliers Bargaining power of buyers Threat of substitute products Competitive rivalry Global Political/Legal Sociocultural Technological Macoreconomic

General Environment Demographics Characteristics of a country’s population Size of population and growth rate Age distribution of population Education levels Income distribution Ethnic diversity Geographic distribution

General Environment Political/Legal Political and legal conditions affecting business Government policies toward business Investment incentives Business regulation: labor, environment Education priorities Budget conditions and plans

General Environment Technological Technological developments relevant to a business Telecommunications Internet On-line training Product and process innovations

General Environment Macroeconomic Impact of the economy on business Size and change in gross domestic product Per capita income levels Inflation rate Interest rates Foreign trade deficit or surplus Unemployment Rates of saving and investment

General Environment Sociocultural Influence of values, beliefs, and lifestyles of a country on business Family relationships Attitudes about work Living arrangements Styles of entertainment Attitudes toward health

General Environment Global International developments that can impact a business Rise of China as economic power Rising global trade and WTO Intellectual property protection Important political events: Iraq war Search for low cost suppliers

Competitive Environment Managers must understand the conditions of competition within their industry Porter Five-Forces Model of Competition (determining the attractiveness of an industry) Key Success Factors Competitive Changes During industry Evolution Strategic Groups National Competitive Advantage

Suppliers of Key Inputs Five Forces Model of Competition Substitute Products (of firms in other industries) Suppliers of Key Inputs Rivalry Among Competing Sellers Buyers Potential New Entrants

Threat of New Entrants Fundamental question: how easy is it for another company to enter the industry? Factors making easy entry to industry Low economies of scale Low product differentiation Low capital requirements No switching costs for buyer Easy access to distribution channels Little government regulation

Supplier Power Fundamental question: how badly does a supplier need your business? Factors giving power to supplier: Supplier industry dominated by few firms Buyer is not important to customer Supplier’s product is important input to buyer’s product Supplier’s products have high switching costs Supplier can “integrate forward” and become competitor of buyer

Threat of Substitutes Fundamental question: what other products or services could perform the same function as your products or services? Factors indicating high threat of substitutes: Few switching costs for buyer Price of substitute lower or quality higher than for your products Firms offering substitutes have high profitability

Buyer Power Fundamental questions: How badly does a buyer need your products or services? Factors contributing to high buyer power: Few buyers compared to the number of sellers Buyers purchases high relative to seller’s sales Products are undifferentiated Buyer has low switching costs Buyer has low profits Buyer can “integrate backward” and supply the product to itself

Competitive Rivalry Fundamental question: how intense is competition in the industry? Factors leading to high competitive rivalry: Numerous or equally balanced competitors High fixed costs Slow industry growth Lack of differentiation or switching costs High strategic stakes High exit barriers

Key Success Factors In many industries, there are certain actions or practices that a business must follow in order to compete in the industry. May need effort to distinguish company from competitors

Examples of Key Success Factors in Selected Industries Pharmaceuticals: research and personal selling Beer: advertising and distribution Restaurant: quality food and service Retailer: location and priced-for-quality

Changes in Competition During Industry’s Evolution Over time as an industry evolves, the nature and basis of competition changes Five Stages Embryonic—introduction of product Growth Shakeout Mature Declining

Stages of Industry Life Cycle Demand Embryonic Mature Declining Shakeout Growth Time

Requirements in Each Stage of Industry’s Evolution Embryonic: Know-how, educating customers, opening distribution channels Growth: Know-how for continued innovation, financing, build demand Shakeout: Dominant market position, low cost producer, high capacity Maturity: low cost production, brand loyalty Declining: lowest cost production, reduce capacity

Strategic Implications of the Five Competitive Forces Competitive environment is unattractive from the standpoint of earning good profits when: Rivalry is strong Entry barriers are low and entry is likely Competition from substitutes is strong Suppliers and customers have considerable bargaining power

Strategic Implications of the Five Competitive Forces Competitive environment is ideal from a profit-making standpoint when: Rivalry is moderate Entry barriers are high and no firm is likely to enter Good substitutes do not exist Suppliers and customers are in a weak bargaining position

Strategic Groups Companies do not compete against all companies in an industry Companies compete against several other companies that follow similar strategies A strategic group consists of those rivals with similar competitive approaches in an industry Examples ways of competing: Price -- Range of products Innovation -- Customers served Research Quality

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 group’s respective share of total industry sales

Example: Strategic Group Map of the Video Game Industry Arcades Arcade operators Publishers of games on CD-ROMs Home PCs Sony, Sega, Nintendo, several others Types of Video Game Suppliers/Distribution Channels Video game consoles MSN Gaming Zone, Pogo.com, America Online, HEAT, Engage, Oceanline, TEN Online/Internet Low (Coin-operated equipment) Medium (Console players cost $100-$300) High (Use PC) Overall Cost to Players of Video Games

Example: Prepare a Strategic Group Map for Da Nang Hotels What are differentiating characteristics? What two variables for axis of Strategic Group Map? Place hotels on the Map

Nation-State and Competitive Advantage A country may provide a competitive advantage for a company Need to identify national factors in order to determine Where most significant competitors will come from Where to locate production activities Porter’s Diamond of Determinants of National Competitive Advantage

Determinants of National Competitive Advantage Strategy, Structure, Rivalry Factor Endowments National Competitive Advantage Demand Conditions Related and Supporting Industries

Factor Endowments Availability of traditional factors of production—land, labor, capital, entrepreneurship—provide cost advantages to companies located in countries possessing those factors More significant, countries and their companies can create new factors such as a knowledgeable workforce and infrastructure that is rare and difficult to imitate Factor endowments less important than the speed and efficiency of deploying those resources.

Demand Conditions Large growing markets provide foundation for global competition More significant, sophisticated and demanding consumers force companies to innovate and improve their products Advances in products, services, and standards improve companies’ knowledge and capabilities for selling in other world markets

Related and Supporting Industries Provide inputs and capabilities that help a company to improve its own products and capabilities Helps reduce manufacturing costs through cost-effective, timely methods Ongoing exchange of knowledge through research and development and joint projects improves both suppliers and companies

Strategy, Structures, and Rivalry Different management ideologies lead to different emphases within a company Japan and Germany both have engineers in top management and those country’s companies concentrate on process and product improvement Intense domestic rivalry leads to product improvements and cost reduction in order to compete for domestic customers

Conclusions About Determinants of National Competitive Advantage Firms succeeding in global markets first succeeded in intense competition in home countries Competitive advantage for global firms comes from continuous improvement, innovation, and change.