The External Environment Chapter 4 McGraw-Hill/Irwin Copyright © 2009 by the McGraw-Hill Companies, Inc. All rights reserved.

Learning Objectives 1. Three tiers of environmental factors that affect firm performance 2. Five factors in the remote environment 3. Examples of the economic, social, political, technological, and ecological influences on a business 4. The five forces model of industry analysis and give examples 5. The influences of entry barriers, supplier power, buyer power, substitute availability, and competitive rivalry on a business 6. The five factors in the operating environment 7. The influences of competitors, creditors, customers, labor, and direct suppliers on a business 4-3

The Firm’s External Environment Comprised of following Components:  Remote environment  Industry environment  Operating environment 4-4

Firm’s External Environment 4-5

6 Societal Environment Important Variables Economic GDP trends Interest rates Money supply Inflation rates Unemployment levels Wage/price controls Devaluation/revaluation Energy availability and cost Disposable and discretionary income Technological Total government spending for R&D Total industry spending for R&D Focus of technological efforts Patent protection New products New developments in technology transfer from lab to marketplace Productivity improvements through automation Political-Legal Antitrust regulations Environmental protection laws Tax laws Special incentives Foreign trade regulations Attitudes toward foreign companies Laws on hiring and promotion Stability of government Sociocultural Lifestyle changes Career expectations Consumer activism Rate of family formation Growth rate of population Age distribution of population Regional shifts in population Life expectancies Birth rates

Remote Environment  Economic Factors  Social Factors  Political Factors  Technological Factors  Ecological Factors 4-7

Economic Factors 1. Prime interest rates 2. Inflation rates 3. Trends in the growth of the gross national product 4. Unemployment rates 5. Globalization of the economy 4-8

Social Factors Present in the external environment:  Beliefs & Values  Attitudes & Opinions  Lifestyles Developed from:  Cultural conditioning  Ecological conditioning  Demographic makeup  Religion  Education  Ethnic conditioning. 4-9

Political Factors Political constraints on firms: Fair-trade Decisions Antitrust Laws Tax Programs Minimum Wage Legislation Pollution and Pricing Policies 4-10

Technological Factors  Technological forecasting helps protect and improve the profitability of firms in growing industries.  It alerts strategic managers to impending challenges and promising opportunities.  The key to beneficial forecasting of technological advancement lies in accurately predicting future technological capabilities and their probable impacts. 4-11

Ecological Factors  Ecology refers to the relationships among human beings and other living things and the air, soil, and water that supports them.  Threats to our life-supporting ecology caused principally by human activities in an industrial society are commonly referred to as pollution 4-12

International Environment  Monitoring the international environment involves assessing each non-domestic market on the same factors that are used in a domestic assessment.  While the importance of factors will differ, the same set of considerations can be used for each country.  Economic, political, legal, and social factors are used to assess international environments.  One complication to this process is that the interplay among international markets must be considered. 4-13

Industry Environment  Harvard professor Michael E. Porter propelled the concept of industry environment into the foreground of strategic thought and business planning.  The cornerstone of Porter’s work first appeared in the Harvard Business Review, in which he explains the five forces that shape competition in an industry.  Porter’s well-defined analytic framework helps strategic managers to link remote factors to their effects on a firm’s operating environment. 4-14

Competitive Forces Shape Strategy  The essence of strategy formulation is coping with competition.  Intense competition in an industry is neither coincidence nor bad luck.  Competition in an industry is rooted in its underlying economics, and competitive forces exist that go well beyond the established combatants in a particular industry.  The corporate strategists’ goal is to find a position in the industry where his or her company can best defend itself against these forces or can influence them in its favor. 4-15

Forces Driving Industry Competition 4-16

Threat of New Entrants Contending Forces Threat of New Entrants  Threat of Entry  Economies of Scale  Product Differentiation  Capital Requirements  Cost Disadvantages Independent of Size  Access to Distribution Channels  Government Policy 4-17

Powerful Suppliers Supplier is powerful when:  Supplier industry is dominated by a few companies but sells to many  Its product is unique and/or has high switching costs  Substitutes are not readily available  Suppliers are able to integrate forward and compete directly with present customers  Purchasing industry buys only a small portion of the supplier’s goods. 4-18

Powerful Buyers Buyer is powerful when:  Buyer purchases large proportion of seller’s products  Buyer has the potential to integrate backward  Alternative suppliers are plentiful  Changing suppliers costs very little  Purchased product represents a high percentage of a buyer’s costs  Buyer earns low profits  Purchased product is unimportant to the final quality or price of a buyer’s products 4-19

Substitute Products Substitute Products: Those products that appear to be different but can satisfy the same need as another product. To the extent that switching costs are low, substitutes can have a strong effect on an industry 4-20

Jockeying for Position Intense rivalry related to:  Number of competitors  Rate of Industry Growth  Produce or Service Characteristics  Amount of Fixed Costs  Capacity  Height of Exit Barriers  Diversity of Rivals 4-21

Industry Analysis & Competitive Analysis  An industry is a collection of firms that offer similar products or services.  Structural attributes are the enduring characteristics that give an industry its distinctive character.  Concentration refers to the extent to which industry sales are dominated by only a few firms.  Barriers to entry are the obstacles that a firm must overcome to enter an industry. 4-22

Competitive Analysis 1. How do other firms define the scope of their market? 2. How similar are the benefits the customers derive from the products and services that other firms offer? The more similar the benefits of products or services, the higher the level of substitutability between them. 3. How committed are other firms to the industry? 4-23

Operating Environment Also called competitive or task environment  Includes competitor positions and customer profiling based on the following factors:  Geographic  Demographic  Psychographic  Buyer Behavior  Also includes suppliers & creditors and HRM 4-24

HR: Nature of the Labor Market Access to personnel is affected by 4 factors:  Firm’s reputation as an employer  Local employment rates  Availability of people with the needed skills  Its relationship with labor unions. 4-25

Emphasis on Environmental Factors  Differing external elements affect different strategies at different times and with varying strengths  Only certainty is that the effect of the remote and operating environments will be uncertain until a strategy is implemented  Many managers, particularly in less powerful firms, minimize long-term planning  Instead, they allow managers to adapt to new pressures from the environment  Absence of strong resources and psychological commitment to a proactive strategy effectively bars a firm from assuming a leadership role in its environment 4-26