STRATEGIC BUSINESS ANALYSIS

UNIT 1: STRATEGIC POSITION

This unit begins with the assessment of strategic position and is

concerned with the impact of the external environment, its
internal capabilities and expectations and how the organization
positions itself. It examines how factors such as culture,
leadership and stakeholder expectations shape organizational
purpose.

CHAPTER 1: THE PURPOSE OF STRATEGIC AND BUSINESS

ANALYSIS

INTRODUCTION

Strategic business analysis in modern day business is hard to separate

from strategic management and planning where management have to battle with the ever
changing business environment. Strategic business analysis depicts the role of strategy in
business.

In this topic we will be discussing about the purpose of strategic and business
analysis. We will look deeper into the various terminologies used, explore on the
Johnson, Scholes and Whittington model and so with the strategy lenses.

LEARNING OUTCOMES
At the end of the topic, students will be able to:
1. Identify the fundamental nature and terminology of strategy and strategic
decisions and strategic business analysis.
2. Discuss how strategy may be formulated at the corporate, business and
operations level of an organization.
3. Study and investigate the Johnson, Scholes and Whittington model for defining
the strategic position, strategic choices and strategy into action.
4. Relate the three different strategy lenses (JS&W) for viewing and
understanding strategy and strategic management.
5. Discover the scope of business analysis and its relationship to strategy and
strategic management in the context of the relational diagram of this syllabus.
6. Advise on how organizations can communicate their core values and mission.
 ACTIVATING PRIOR LEARNING
 Basing from the given drawing/illustration write a brief idea about what is the
purpose of strategic and business analysis.

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 PRESENTATION OF CONTENT

Purpose of Strategic
and
Business Analysis

Definition of Levels of Elements of Relational Process of

Strategy Strategy Strategic Diagram Strategy
Management Development

Corporate Strategic Deliberate, Strategic Strategic

Position Emergent, Lenses Planning
Incremental Framework
Strategy

Business Strategic
Choices As Design Rational
As Experience Planning
As Ideas Model

Functional Strategic Gap

into Action Analysis

1. Definition of Strategy and Strategic Business Analysis

1.1 Strategy

Strategy can be defined in a number of different ways. We should be aware that every
definition is likely to be engrained within the different outlooks adopted by its authors. For
this reason a definition of strategy, which is accepted by everyone, is not as straightforward as
might first appear. As individuals we all formulate strategies to help us achieve certain goals
or objectives.

According to Peter Drucker, a strategy is a pattern of activities that seek to achieve the
objectives of the organization and adapt its scope, resources and operations to environmental
changes in the long term. Drucker recognized that any company’s strategy had to incorporate
the answers to four questions.

1. What opportunities it wants to pursue and what risks it is willing and able to accept.
2. The scope and structure of its strategy, including the right balance among such aspects
specialization, diversification, and integration.
3. Acceptable trade-offs between time and money and between in-house execution versus
using a merger, acquisition, or joint venture or some external means to reach its
objectives and attain its goals.
4. The organizational structure appropriate to its economic realities, the opportunities,
and it performance expectations.
5. A recognition that strategy had to be based on these four questions led to a
methodology which Drucker adopted which was more inferred than spelled out as a
“by the numbers” process.
Drucker also emphasized that a strategy contains several elements:
1. A strategy consists of organized activities.
2. The purpose of these activities (the strategy) is to achieve an objective.
3. Strategy is long-term. Formal strategic planning by large companies, for example, might
cover five years or ten years into the future, and for some companies even longer.
4. The strategic choices that an enterprise makes are strongly influenced by the
environment in which the enterprise exists.
5. The environment is continually changing, which means that strategies cannot be rigid
and unchanging.
6. Strategies involve an enterprise in doing different things with different resources over
time, as it is forced to adapt to changes in its environment.

Johnson, Scholes and Whittington defined strategy as “the direction and scope of an
organization over the long term, which achieves advantage in a changing environment
through its configuration of resources and competencies with the aim of fulfilling
stakeholder expectations.” They have also identified the range or scope of strategic
decisions as follows:
1. Deciding the scope of the entity’s activities. What businesses should we be in?
2. Relating the activities of the entity to the environment in which it operates.
3. Ensuring that the entity has the resource capacity to operate in its selected areas of
activity. This means making sure that the entity has enough employees with the right
skills, access to sufficient raw materials and other supplies, enough equipment, suitable
IT systems, and so on.
4. Allocating resources to the different business activities.
5. Providing a high-level (strategic) framework for more detailed decision-making at an
operational level.
6. Reflecting the values and expectations of the individuals in positions of power within
the entity.
7. Deciding the long-term direction that the entity should take.
8. In many cases, implementing change within the entity so that it adapts successfully to
its changing environment.

Example
A company that extracts and supplies oil and natural gas is considering its future
business direction over the next 10 years. It is aware that these resources are in limited
supply, and that there is growing public and political concern about the environment.

The company’s board of directors might agree on the following broad strategy.
 The company will continue to extract oil and natural gas, but it will also invest
heavily in production of energy from renewable energy sources, such as wind and
sea.
 The move into energy from renewable sources recognises the probability that
public and political pressure will grow for restrictions on the use of nonrenewable
energy sources and for protection of the global environment.
 Change is therefore essential for long-term survival.
 The strategic plan should also provide for the resources required to achieve the
 company’s goals. Important resources for the chosen plan will include exploration
rights, access to pipelines and other methods of transporting energy to users, and
expertise in wind and wave power technology.
 A decision must be made about how many resources (including money) should
be invested in each business activity.
 This will depend partly on the strategic vision of the board of directors, and the
direction they think the company should be taking. What proportion if its total
energy sources in ten years time will come from wind and wave power, and to
what extent will the company still be relying on oil and natural gas?
 The strategic plan also reflects the values of the board of directors. In this
example, the company has not included nuclear power in its strategic plan.

1.2 Strategic business analysis

Strategic business analysis are those actions and decisions made by management while
trying to understand the impact of strategic events like: introduction or development of
new product line, setting up a factory in a new location, employing key staff, selecting
organizational structure, investing in new technology, managing risks, complying with
relevant laws and regulations, implementing changes, etc. Strategic business analysis look
at things from both corporate perspective and longer term view. In modern day business,
strategic business analysis is hard to separate from strategic management and planning
where management have to battle with the ever changing business environment. Strategic
business analysis depicts the role of strategy in business. The strategic business analysis
have the following characteristics:

1. Long term in nature: for any business analysis to be strategic in nature, it must have a
long term view. When designing a balanced scorecard for example, management
should think of the impact that each target and objectives that is contained in the
strategic map will do to the long run survival of the company.
2. Focus on external events and activities: senior managers spend about 60% of their time
gathering and interpreting information from outside source which will significantly
improve decision making process. They interact with people and organizations outside
the entity in order to achieve this goal.
3. Place more emphasis on qualitative matters: in as much as financial indicators play
vital role in shaping the fortune a business entity, attention should also be given to
those qualitative factors that an establishment cannot afford to ignore, else, business
failure will imminent. A qualitative emphasis means that detailed calculations and
manipulation of figures are unnecessary. All that is needed is the big picture.

2. Levels of Strategy

Strategy is at the heart of business. All businesses have competition, and it is strategy
that allows one business to rise above the others to become successful. Even if you have a
great idea for a business, and you have a great product, you are unlikely to go anywhere
without strategy.
2.1 Corporate Strategy

The first level of strategy in the business world is corporate strategy, which sits at
the ‘top of the heap’. Corporate strategy is concerned with deciding which business or
businesses an entity should be in, and setting targets for the achievement of the entity’s
overall objectives.

It is easy to overlook this planning stage when getting started with a new
business, but you will pay the price in the long run for skipping this step. It is crucially
important that you have an overall corporate strategy in place, as that strategy is going to
direct all of the smaller decisions that you make.

For some companies, outlining a corporate strategy will be a quick and easy
process. For example, smaller businesses who are only going to enter one or two specific
markets with their products or services are going to have an easy time identifying what it
is that makes up the overall corporate strategy. If you are running an organization that
bake and sells cookies, for instance, you already know exactly what the corporate
strategy is going to look like – you are going to sell as many cookies as possible.

However, for a larger business, things quickly become more complicated.

Carrying that example forward to a larger company, imagine you run an organization that
is going to sell cookies but is also going to sell equipment that is used while making
cookies. Entering into the kitchen equipment market is a completely different challenge
from selling the cookies themselves, so the complexity of your corporate strategy will
need to rapidly increase. Before you get any farther into the strategic planning of your
business, be sure you have your corporate strategy clearly defined.
 2.2 Business Strategy

It is best to think of this level of strategy as a ‘step down’ from the corporate
strategy level. In other words, the strategies that you outline at this level are slightly more
specific and they usually relate to the smaller businesses within the larger organization.
Business strategy, also called competitive strategy, is concerned with how each business
activity within the entity contributes towards the achievement of the corporate strategy.

Carrying over our previous example, you would be outlining separate strategies
for selling cookies and selling cookie-making equipment at this level. You may be going
after convenience stores and grocery stores to sell your cookies, while you may be
looking at department stores and the internet to sell your equipment. Those are
dramatically different strategies, so they will be broken out at this level.

Even in smaller businesses, it is a good idea to pay attention to the business

strategy level so you can decide on how you are going to handle each various part of your
operation. The strategy that you highlighted at the corporate level should be broad in
scope, so now is the time to boil it down into smaller parts which will enable you to take
action.

2.3 Functional Strategy

This is the day-to-day strategy that is going to keep your organization moving in
the right direction. Functional strategy is also called operational strategy. These decisions
include product pricing, investment in plant, personnel policy, and so on. It is important
that these strategies link to the strategic business unit strategies and through those
strategies, in turn, to the corporate strategy, as the successful implementation of these is
necessary for the fulfillment of both corporate and business objectives.

Just as some businesses fail to plan from a top-level perspective, other businesses
fail to plan at this bottom-level. This level of strategy is perhaps the most important of all,
as without a daily plan you are going to be stuck in neutral while your competition
continues to drive forward. As you work on putting together your functional strategies,
remember to keep in mind your higher level goals so that everything is coordinated and
working toward the same end.
 It is at this bottom-level of strategy where you should start to think about the
various departments within your business and how they will work together to reach goals.
Your marketing, finance, operations, IT and other departments will all have
responsibilities to handle, and it is your job as an owner or manager to oversee them all to
ensure satisfactory results in the end. Again, the success or failure of the entire
organization will likely rest on the ability of your business to hit on its functional strategy
goals regularly. As the saying goes, a journey of a million miles starts with a single step –
take small steps in strategy on a daily basis and your overall corporate strategy will
quickly become successful.
3. Elements of Strategic Management and Business Analysis

To study strategic management, it is useful to have a logical structure or model as a

basis for analysis. Johnson, Scholes and Whittington state that strategic management consists
of three elements:
1. Strategic position
2. Strategic choices
3. Strategic into action

3.1 Strategic position

Strategic position means making an analysis or assessment of the strategic position

of the entity. The senior management of a company, for example, need to understand the
position of the company in its markets:
1. In what ways does the company perform better than its competitors?
2. In what ways are competitors more successful
In other words, how do rival companies compare with each other in terms of
competitive advantage?

Management also need to understand the factors in the business environment that
affect their company, and how the company will be affected by changes that are likely to
happen in the environment in the future. For example, could the company be affected by
changes in technology, or changes in the state of the economy, or new laws and will there
be changes in what customers want to buy, because of changes in society or life styles? If
so, how might this affect what the company produces and sells?

Management have to make a decision about what their company should be doing,
and what the company is trying to achieve. Objectives need to be realistic, so management
 need to understand where the company stands now in its markets, and where it should be
trying to get to a few years in the future.

Three aspects to strategic position (Johnson, Scholes and Whittington)

1. Environment – an analysis of the business environment involves an analysis of the
threats and opportunities that seem to exist, and an assessment of their
significance.
2. Strategic capability of the entity – the management of an entity should also make
an assessment of the strategic capability of the entity. This means reaching an
understanding of what the entity is capable of achieving. An assessment of
strategic capability involves an analysis of the strengths and weaknesses of the
entity.
3. Expectations and purposes – an analysis of strategic position also requires
management to make decisions about the purpose of the entity and what it is trying
to achieve.

3.2 Strategic Choice

Three elements
1. Generation of strategic options, e.g. growth, acquisition, diversification or
concentration.
2. Evaluation of the options to assess their relative merits and feasibility.
3. Selection of the strategy or option that the organization will pursue.

Strategic choices need to be made of every level, though obviously choices made
at any particular level can influence choices at other levels.
1. Corporate level – Decisions have to be made about what the entity should be
doing. For companies, this means making decisions about which products or
services it should be selling, and what markets it should be selling them in.
2. Business level – For companies, a major strategic choice is between a strategy of
cost leadership and a strategy of differentiation.
3. Operational level – For example, whether an organization should outsource
components or make them itself.

3.3 Strategy into action/implementation

These means implementing the chosen strategies. There are three aspects to strategy
implementation:
1. Organizing – An organization structure must be established that will help the
entity to implement its strategies effectively in order to achieve its strategic
targets. Organizing means putting into place a management structure and
delegating authority. Individuals should be made responsible and accountable for
 different aspects of the chosen strategies. Decision-making processes must be
established.
For example, should the organization be split into European, US and Asian
divisions? How autonomous should divisions be?
2. Enabling – It means enabling the entity to achieve success through the effective
use of its resources.
For example, appropriate human resources and fixed assets need to be acquired.
3. Managing change – Most strategic planning and implementation will involve
change, so managing change, in particular employees’ fears and resistance, is
crucial.

Example 3
A full-price airline is considering setting up a no-frills, low-fare subsidiary. The strategic
planning process would include the following elements.

Strategic position – competitor action, oil price forecasts, passenger volume forecasts,
availability of cheap landing rights, public concern for environmental damage, effect on the
main brand.

Strategic choices – which routes to launch? Set up a service from scratch or buy an existing
cheap airline? Which planes to use, what on-board services to offer?

Strategic implementation – how autonomous should the new airline be? How to recruit and
train staff? Implementation of the internet booking system. Acquisition of aircraft. Obtaining
landing slots.

4. The Process of Strategy Development

4.1 Deliberate strategy, emergent strategy and incremental strategy

4.1.1 Deliberate strategy

Deliberate strategy is a top down approach to strategic planning that emphasize
intention. This is built based on the vision and mission of the organization and is
focused on achieving the purpose of doing business. Michael Porter introduced the
concept of deliberate strategy and said that “Strategy is about making choice, trade-
offs; it’s about deliberately choosing to be different.” He emphasized that
businesses should strive to achieve one of the following positions in order to
achieve a competitive advantage. These strategies are named as ‘generic
competitive strategies’.

 Cost leadership strategy – achieving the lowest cost of operation in an industry

 Differentiation strategy – offering a unique product that does not have a close
substitute
  Focus strategy – achieving a cost leadership of differentiation status in a niche
market

Deliberate strategy attempts to minimize outside influence acting on

business operations. However, the external environments can change drastically
while such changes are difficult to predict in advance. Thus, the company must
undertake a proper assessment of the political, economic, social and
technological environment in order to understand the possible challenges they
may face in realizing the business objectives. On the other hand, favorable
market conditions alone will not help the company achieve a competitive
advantage, internal capacity and capability are equally important.

The commitment of the top management is essential to implement a

deliberate strategy and the initiative should be taken by them. Goal congruence
should be achieved where all the employees should work towards realizing the
strategy. This can be done by properly communicating the business goals to them
and motivating them. Employees must think through and discuss all actions in
the interest of matching company goals.

4.1.2 Emergent strategy

Emergent strategy is the process of identifying unforeseen outcomes from

the execution of strategy and then learning to incorporate those unexpected
outcomes into future corporate plans by taking a bottom up approach to
management. Emergent strategy is also referred to as ‘realized strategy’. Henry
Mintzberg introduced the concept of emergent strategy since he did not agree with
the concept of deliberate strategy put forward by Michael Porter. His argument was
that the business environment is constantly changing and businesses need to be
flexible in order to benefit from various opportunities.

Rigidness in plans emphasize that companies must continue to proceed with

the planned (deliberate) strategy irrespective of the changes in the environment.
However, political changes, technological advancements and many other factors
affect businesses in various degrees. These changes sometimes will make the
deliberate strategy implementation impossible. Therefore, most business theorists
and practitioners prefer emergent strategy over deliberate strategy for its flexibility.
In general, they view emergent strategy as a method of learning while in operation.
 Figure 2: Relationship between deliberate and emergent strategy

What is the difference between Deliberate and Emergent Strategy?

Deliberate vs Emergent Strategy

Deliberate Emergent strategy is the process of identifying unforeseen

strategy is an outcomes from the execution of strategy and then learning to
approach to incorporate those unexpected outcomes into future corporate plans.
strategic planning
that emphasizes
on achieving an
intended business
objective.
Inception of the Concept
The concept Henry Mintzberg introduced the framework for emergent strategy
deliberate strategy as an alternative approach to deliberate strategy.
was introduced by
Michael Porter.
Approach to Management
Deliberate Emergent strategy implements a bottom up approach to
strategy management.
implements a top
down approach to
management
Flexibility
Deliberate Emergent strategy is favored by many business practitioners due to
strategy takes a its high flexibility.
rigid approach to
management, thus
is largely
considered to be
less flexible.
Examples
Deliberate/ Intended
Emergent Strategy Realized Strategy
Strategy

The company changed its

David McConnell
The perfumes McConnell name to Avon in 1939, and
aspired to be a writer.
gave out with his books were its direct marketing system
When his books
popular, inspiring the remained popular for
weren’t selling he
foundation of the California decades. Avon is now
decided to give out
Perfume Company. available online and in retail
perfume as a gimmick.
outlets worldwide.

When father and son

team Scott and Don
ESPN is now billed as the
Rasmussen were fired As the network became
worldwide leader in sports,
from the New England successful, ESPN has
owning several ESPN
Whalers, they branched out beyond the local
affiliates as well as
envisioned a cable softball games and demolition
production of ESPN
television network that derbies that were first
magazine, ESPN radio, and
focused on sports broadcasted.
broadcasting for ABC.
events in the state of
Connecticut.

In 1977, a cash-
strapped advertiser
Today the Home Shopping
gave a radio station An idea emerged. Soon the
Network has evolved into a
managed by Lowell radio station featured a
retail power hours. The
Paxson 112 electric regular show called “Suncoast
company sells tens of
can openers to pay off Bargaineers.” In 1982, Paxson
thousands of products on
an overdue bill. The and a partner launched the
television channels in
can openers were Home Shopping Club on local
several countries and over
offered over the air for cable television in Florida.
the internet.
$9.95 and quickly sold
out.

4.1.3 Incremental strategy

This strategy is developed slowly over time, by making small changes to

existing strategy. Changes to strategy are not large or far-reaching, because the
management of the entity cannot see the need for any substantial changes.
 When the entity’s business environment is changing, small changes to
existing strategies are unlikely to be sufficient to ensure the survival of the entity,
and incremental change might be associated with aimlessness and a lack of strategic
direction

Incremental strategy is only safe when an entity operates in a very stable

environment, where changes over time are small and gradual.

4.2 Strategy lenses

Johnson and Scholes have suggested a slightly different approach to understanding

strategy development. They have suggested that there are three different ways of looking
at strategy development and, depending on circumstances, each approach might be
appropriate.
They use the term strategy lenses to describe these three ways of looking at strategy
development. Strategy development can be seen:
1. as design
2. as experience
3. as ideas

4.2.1 Strategy as design: the design lens

Strategy can be seen as the result of a design process. Strategy development

is logical, analytical and planned.

The characteristics of seeing strategy development as a design process are

as follows:
1. Strategy development is a formal and deliberate process.
2. Thinking about strategy, and making strategic choices as an outcome from
this thinking process, precedes the implementation of strategy.
3. Strategies are logical and clear.
4. Strategic choices are made by senior management. Senior managers are
the strategic decision makers.

This type of strategic development is well-suited to an entity with a

hierarchical management structure, where employees are accustomed to receiving
directions from their senior managers. It is similar to deliberate strategy.

4.2.2 Strategy as experience

This is the view that future strategies are based on experience gained from
past strategies. There is strong influence from the received wisdom and culture
within an organization about how things should be done.
 It is similar to incremental strategy. The weakness with this form of strategic
development is strategic drift.

4.2.3 Strategy as ideas

Strategy as design and strategy as experience do not explain innovation.
Formal strategic planning can help an entity to deal with the problems of change in
the business environment, but it is not particularly well-suited to innovation and
radical new ideas.

The characteristics of seeing strategy as ideas as a design process are as follows:

1. Strategic development should rely on radical new ideas. These do not
necessarily come from senior management. Other individuals within the entity
might create the new ideas.
2. Innovation happens as a result of variety and diversity. A changing and diverse
environment encourages major innovation.
3. Within an entity that encourages new ideas and innovative thinking, many
different ideas compete for the support of management.
4. Innovative thinking is unlikely to happen within an organization with a
traditional hierarchical management structure and formal lines of authority and
responsibility.

Strategy as ideas is similar to emergent strategy.

Strategy as design Strategy as experience Strategy as ideas

Based on adaptation of past
Logical and rational Based on new ideas and
strategies, influenced by managers’
process innovation
experience
Uses analytical and Emphasizes importance of
Adaptive approach, incremental
evaluation techniques variety and diversity
Driven by the taken-for-granted Ideas likely to come from
Most common approach
assumptions anywhere
Top managers - creators of the
Top-down approach Adopted by risk averse managers
context
Found in conservative Adopted by risk takers in
For stable and static environments
organizations dynamic environments
Commonly used by innovative
If environment dynamic, strategic
organizations e.g. 3M and
drift occurs
Google

The strategy lenses

Lenses Advantages Disadvantages

 Does not encourage lower level
Structured process
participation
Strategy as design
Logical, makes sense Rigidity
Many academic models Paralysis by analysis
Managers learn from experience Low on innovation
Strategy as
Low on logic
experience
Strategic drift
High on creation and innovation Lack of structure
Not all great ideas translate into great
Includes everyone
commercial products
Strategy as ideas
Can lead to massive competitive
High risk
advantage
High cost (failure cost)

Using the three strategy lenses

Johnson and Scholes suggested that there is no single correct approach to strategy
development. All three strategy lenses provide a different insight into strategy, and any one
lens might be appropriate in a particular situation. Management should therefore be
prepared to use all three lenses.

4.3 Strategic planning framework

Although strategic development in practice might be the outcome from deliberate

strategies and emergent strategies (and possibly also some incremental strategies), it is
useful to study the subject of business analysis and business strategy as if it were an
organised process of planning and implementation. This helps to provide a framework for
understanding the issues in strategic management and business analysis.

Two strategic planning frameworks that are useful to bear in mind are the rational
planning model and strategic gap analysis.

4.3.1 The rational planning model

The ‘rational planning model’ is a strategic planning framework that:
1. sees the purpose of strategy as the achievement of clearly-established objectives
2. considers strategic planning to be a formal process, led by senior management
3. sees strategic planning as a multi-layered process, with corporate strategy,
business strategy and functional strategies.
The rational planning model consists of several elements, and the planning
process goes through each of these elements in the following sequence.
 Comment

Vision represents the overall aspiration for the future.

Mission is concerned with the overriding purpose and core
Vision and Mission
values of a company based on the values and expectations of
its stakeholders.

The entity should also have clear objectives, such as the

examination of shareholder wealth. Within the planning
Objectives
processes, targets can be established for the achievement of
objectives within the planning period.

There are opportunities and threats within the business

Environmental environment of the entity. These must be identified, and suitable
analysis strategic responses should be developed to deal with anticipated
change and also unexpected change.

The planning process should include an assessment of the

resources, systems, management, procedures and organisation
Position audit of the entity. Strengths and weaknesses should be identified.
Strategies should seek to make full use of any strengths within
the entity and to reduce or remove significant weaknesses.

The mission statement and objectives of the entity, together with

the results from the environmental analysis and position audit,
Corporate appraisal
should lead on to a formal appraisal of strategy and what the
entity might be capable of achieving.

Different strategic alternatives should be identified and

Strategic choice evaluated, and preferred strategies should be selected that will
enable the entity to achieve its stated objectives.

Strategic The selected strategies should then be implemented.

implementation

The implementation of strategies should be monitored. Changes

and adjustments should be made where these become necessary.
Strategic control
This rational planning process is repeated at regular intervals
(typically annually).

4.3.2 Gap analysis as an approach to strategic development

Gap analysis provides an alternative model for planning and developing

strategy in a formal way. This approach consists of the following stages.
1. Identifying objectives and setting targets: Where do we want to be?
 2. Establishing the current position. Where are we now?
3. Measuring the difference between where we are and where we want to be as
a strategic gap.

The gap might be expressed in a variety of ways. For example, at a corporate

strategy level, a gap might be expressed including total annual sales revenue and
total profitability, or product-market areas that the company should be operating in.

The purpose of strategy development should be to choose and implement

strategies that will fill this strategic gap (or planning gap) so that the objectives can
be achieved.

Filling the gap requires:

1. an analysis of environmental threats and opportunities, and the internal
strengths and weaknesses of the entity
2. identifying the competitive advantage that the entity enjoys.
3. if necessary, re-stating the business objectives as a result of this strategic
appraisal, so that objectives remain realistic and achievable: this will change
the size of the strategic gap
4. identifying alternative strategies, evaluating them and selecting strategies to
fill the strategic gap
5. implementing the selected strategy
CHAPTER 2 STRATEGIC POSITION AND THE BUSINESS
ENVIRONMENT

INTRODUCTION

“Focusing solely on what you can potentially do better than any other organization is
the only path to greatness.”
-Jim Collins

Strategic business analysis in modern day business is hard

to separate from strategic management and planning
where management have to battle with the ever changing
business environment. Strategic business analysis depicts
the role of strategy in business.

This unit will discuss matters about the purpose of strategic

and business analysis – the various terminologies used, the
different models which can be employed and a deeper understanding about how
businesses can adapt and survive to changes brought about by both internal and external
factors.

LEARNING OUTCOMES

At the end of the chapter, students will be able to:

1. Assess the macro-environment of an organization using PESTEL Analysis;
2. Highlight the key drivers of change likely to affect the structure of a sector or
market;
3. Explore, using Porter’s Diamond, the influence of national competitiveness on the
strategic position of an organization;
4. Prepare scenarios reflecting different assumptions about the future environment of
an organization;
5. Evaluate methods of business forecasting used when quantitatively assessing the
likely outcome of different strategies.

ACTIVATING PRIOR LEARNING


Identify as many variables under each factor
 Political Economic Social Technological Ecological Legal
Environment

PRESENTATION OF CONTENT

Strategic Position
and
Business Environment

PESTEL Key Drivers Porter's Methods of

Analysis of Environmental Diamond Business
Change Forecasting

Market Factor Scenario

Globalization Conditions Building

Cost Related and Qualitative

Globalization Supporting Forecasting
Industries

Government Demand Conditions High-low

Activity & in the Home Market Method
Policy

Global Firm Strategy, Linear

Competition Structure & Regression
Rivalry

Time Series
Analysis
PESTEL ANALYSIS

PESTEL analysis or PESTLE analysis (formerly known as PEST analysis) is a

framework or tool used to analyse and monitor the macro-environmental actors that may
have a profound impact on an organisation’s performance. This tool is especially useful
when starting a new business or entering a foreign market. It is often used in
collaboration with other analytical business tools such as the SWOT analysis and Porter’s
Five Forces to give a clear understanding of a situation and related internal and external
factors. PESTEL is an acronym that stands for Political, Economic, Social,
Technological, Environmental and Legal factors.

Figure 1: The PESTEL Model

The PESTEL model factors described:

5. Political. These factors are all about how and to what degree a government intervenes
in the economy or a certain industry. Basically all the influences that a government has
on your business could be classified here.
6. Economic. Economic factors are determinants of a certain economy’s performance.
These factors may have a direct or indirect long term impact on a company, since it
affects the purchasing power of consumers and could possibly change demand/supply
models in the economy. Consequently it also affect the way companies price their
products and services.
7. Social. These factors are especially important for marketers when targeting certain
customers. In addition, it also says something about the local workforce and its
willingness to work under certain conditions.
8. Technological. These factors may influence decisions to enter or not enter certain
industries, to launch or not launch certain products or to outsource production activities
 abroad. By knowing what is going on technology-wise, you may be able to prevent
your company from spending a lot of money on developing a technology that would
become obsolete very soon due to disruptive technological changes elsewhere.
9. Ecological environment. The ecological environment, sometimes just referred to as
the ‘environment’, considers ways in which the organization can produce its goods or
services with the minimum environmental damage. The growing awareness of the
potential impacts of climate change is affecting how companies operate and the
products they offer. This has led to many companies getting more and more involved
in practices such as corporate social responsibility (CSR) and sustainability.
10. Legal. It includes more specific laws that companies need to know legally in order to
trade successfully and ethically.

Figure 2: The PESTEL Factors

1. The Political Environemnt

Government is responsible for providing a stable framework for economic
activity and, in particular, for maintaining and improving the physical, social and market
infrastructure. Public policy on competition and consumer protection is particularly
relevant to business strategy.

A. Government Policy
Government policy affects the whole economy, and governments are responsible
for enforcing and creating a stable framework in which business can be done. A report
 by the World Bank indicated that the quality of government policy is important in
providing three things.
1. physical infrastructure (e.g. transport)
2. social infrastructure (e.g. education, welfare safety net, law enforcement, equal
opportunities)
3. market infrastructure (e.g. enforceable contracts, policing corruption)

B. Public Policy on Competition

Monopoly generally exploits customers, but it may have both economic
disadvantages and economic advantages. A beneficial monopoly achieves economies
of scale in an industry where the minimum efficient scale is at a level of production
that would mean having to achieve a large share of the total market supply. In these
circumstances, monopoly may be tolerated but is likely to be regulated or even taken
into government ownership. Many utilities, such as railways, telecommunications and
power generation fall into this category. A monopoly would be detrimental to the public
interest if cost efficiencies are not achieved. Consumer protection policies may be
required. Several firms could behave as monopolists by agreeing with each other not to
compete. This could be done in a variety of ways. For example, by exchanging
information, by setting common prices or by splitting up the market into geographical
areas and operating only within allocated boundaries. Such a collusive oligopoly is
called a cartel and is illegal in most jurisdictions.

Example 1
The activity of the Competition Commission in the UK is a good example of the way
governments may approach the problem of monopoly. The Office of Fair Trading may ask
the Competition Commission (CC) to investigate if it appears that competition is being
prevented, distorted or restricted in a particular market. The Secretary of State may do the
same if any proposed takeover or merger would create a firm that controlled 25% or more
of the market and where a merger appears to lead to a substantial lessening of competition
in one or more markets. The Commission will then investigate the proposed merger or
takeover and recommend whether or not it should be allowed to proceed.

C. Anticipating Changes in the Law

The governing party’s election manifesto should be a guide to its political priorities,
even if these are not implemented immediately. The government often publishes
advance information about its plans for consultation purposes.
 D. Political Risk
The political risk in a decision is the risk that political factors will invalidate the
strategy and perhaps severely damage the firm. Examples are wars, political chaos,
corruption and nationalization.

Companies should ask the following six questions using the political risk checklist
outlined by Jeannet and Hennessey:
1. How stable is the host country’s political system?
2. How strong is the host government’s commitment to specific rules of the game,
such as ownership or contractual rights, given its ideology and power position?
3. How long is the government likely to remain in power?
4. If the present government is succeeded, how would the specific rules of the game
change?
5. What would be the effects of any expected changes in the specific rules of the
game?
6. In light of those effects, what decisions and actions should be taken now?

2. The Economic Environment

The economic environment affects firms at national and international level, both
in the general level of economic activity and in particular variables, such as exchange
rates, interest rates and inflation.

The following factors may need to be considered at local and national level:
Factors Impact
Overall growth or fall in Increased/decreased demand for goods and services
GDP
Local economic trends Type of industry in the area. Office/factory rents. Labour
rates. House prices.
Inflation Low in most countries; distorts business decisions; wage
inflation compensates for price inflation
Interest rates How much it costs to borrow money affects cash flow. Some
businesses carry a high level of debt. How much customers
can afford to spend is also affected as rises in interest rates
affect people’s mortgage payments.
Tax levels Corporation tax affects how much firms can invest or return
to shareholders. Income tax and sales tax (e.g. VAT) affect
how much consumers have to spend, hence demand.
Government spending Suppliers to the government (e.g. construction firms) are
affected by spending.
 The business cycle Economic activity is always punctuated by periods of growth
followed by decline, simply because of the nature of trade.

The forecast state of economy will influence the planning process for
organizations which operate within it. In times of boom and increased demand and
consumption, the overall planning problem will be to identify the demand. Conversely, in
times of recession, the emphasis will be on cost-effectiveness, continuing profitability,
survival and competition.

Impact of international factors on the economic environment:

Factors Impact
Exchange rates Cost of imports, selling prices and value of exports; cost of
hedging against fluctuations
Characteristics of Desirable overseas markets (demand) or sources of supply
overseas markets (cheap imports?)
International capital Generally, advanced economies accept that demand and
markets supply set the value of their currencies, using interest rates
only to control inflation.
Large multinational MNCs have huge turnovers and significant political influence
companies (MNCs) because of governments’ desire to attract capital investment.
Government policy on Cost of barriers to trade, effect on supplier interests of free
trade/protection trade, erection of reciprocal barriers, possibility of dumping

3. The Sociocultural Environment

The social and cultural environment features long-term trends and people’s beliefs
and attitudes.

Factors of importance to organizational planners:

Factors Impact
Growth The rate of growth or decline in a national population and
in regional populations.
Age Changes in the age distribution of the population. In some
countries, there may be an increasing proportion of the
national population over retirement age. In others there are
very large numbers of young people.
Geography The concentration of population into certain geographical
areas.
Ethnicity A population might contain groups with different ethnic
origins from the majority.
Household and family A household is the basic social unit and its size might be
structure determined by the number of children, whether elderly
parents live at home and so on. In the UK, there has been
an increase in single-person households and lone parent
families.
Employment In part, this is related to changes in the workplace. Many
people believe that there is a move to a casual flexible
workforce; factories will have a group of core employees,
supplemented by a group of insecure peripheral employees,
on part time or temporary contracts, working as and when
required.
Wealth Rising standards of living lead to increased demand for
certain types of consumer good. This is why developing
countries are attractive as markets.

Implications of demographic change

1. Changes in patterns of demand: an ageing population suggests increased demand for
health care services: a young growing population has a growing demand for schools,
housing and work.
2. Location of demand: people may be moving to the suburbs and small towns.
3. Recruitment policies: there may be relatively fewer young people so firms will have
to recruit from less familiar sources of labour (and the retirement age may need to be
increased).
4. Wealth and tax: patterns of poverty and hence need for welfare provisions may
change. The tax base may alter.

Example
In some countries there has been a growth in the awareness of ‘health living’ and ‘healthy
eating’. This has affected companies in industries such as health and leisure (the demand
for fitness clubs), clothing (the demand for sportswear and running shoes) and food
manufacture ( the demand for organic food).

As a result, a large number of consumers have been prepared to pay more to obtain goods
and services that offer healthier living and healthier foods.

Companies might need to consider whether the trend towards healthy living will continue,
and if so, how they should respond to the continuing change in society.
4. Technological Environment
Technology contributes to overall economic growth. The production possibility
curve describes the total production in an economy. There are three ways in which
technology can increase total output.
a. Gains in productivity (more output per units of input)
b. Reduced costs (e.g. transportation technology)
c. New types of product

Effects of technological change on organizations

The type of products or services that are made and sold.
a. The way in which products are made, e.g. process automation, new raw
materials.
b. The way in which goods and services are sold. The growth of direct selling via
the internet has had a significant impact on the implementation of business
strategy.
c. The way in which markets are identified. Database systems make it much easier
to analyze the market place.
d. The way in which firms are managed. IT encourages delayering of
organizational hierarchies, homeworking, and better communication.
Technology has also enabled greater integration between buyers and suppliers
via the use of Extranets.
e. The means and extent of communications with external clients. The financial
sector is rapidly becoming electronic – call centers are now essential to stay in
business, online banking is becoming increasingly common, and the internet
and interactive TV are featuring in business plans.

5. Ecological Environment
For business entities in some industries, environmental factors have an
important influence on strategic planning and decision-making. They are particularly
important for industries that are:
a. subject to strict environmental legislation, or the risk of stricter legislation in
the future (for example, legislation to cut levels of atmospheric pollution)
b. faced with the risk that their sources of raw materials will be used up (for
example, parts of the fishing industry and timber production industry)
c. at the leading edge of technological research, such as producers of genetically
modified foods.

Environmental protection is now a key aspect of corporate social

responsibility. Pressure on businesses for better environmental performance is coming
from many quarters.
 a. Green pressure group have increased their membership and influence
dramatically.
b. Employees are increasing pressure on the businesses in which they work for a
number of reasons – partly for their own safety, partly in order to improve the
public image of the company.
c. Legislation is increasing almost by the day. Growing pressure from the green
or green-influenced vote has led to mainstream political parties taking these
issues into their programmes, and most countries now have laws to cover lan
use planning, smoke emission, water pollution and the destruction of animals
and natural habitats.
d. Environmental risk screening has become increasingly important.
Companies in the future will become responsible for the environmental impact
of their activities.

6. Legal Environment
The legal environment consists of the laws and regulations affecting an entity,
and the possibility of major new laws or regulations in the future. Laws and regulations
vary between different countries, although international regulation is accepted in
certain areas of commercial activity, such as banking.

Strategic decisions by an entity might be affected by legal considerations. For

example:
a. an international company might locate some operations, for tax reasons, in a
country with a favourable tax system
b. decisions to relocate operations from one country to another could be affected
by the differences in employment law in the two countries, or by new
employment legislation
c. in many industries, companies are faced with environmental legislation or
health and safety legislation, affecting the ways in which they operate, as well
as the design of the products they make and sell.

2. KEY DRIVERS OF ENVIRONMENTAL CHANGE

In the previous section, we looked at environmental factors which can have an

impact on an organization’s strategy. However, it is important to realize that these
environmental factors are not static, but rather that they change over time. In this section,
we will look at some of the key drivers of environmental change.

Johnson, Scholes and Whittington (JS&W) identify four aspects of globalization

as key drivers of change in the macro-environment:
a. Market globalization
b. Cost globalization
c. Government activity and policy
d. Global competition
e.

A. Market globalization

Gradual globalization of markets is taking place because of the interplay of a

number of forces:
a. Consumer tastes are becoming more homogeneous in such matters as clothes
and entertainment.
b. As markets globalize, firms supplying them become global customers for
their own inputs and seek global suppliers.
c. Improvements in global communications and logistics reduce costs, make
globalization easier and allow the creation of global brands. The latter feeds
back to the homogenization of taste.

B. Cost Globalization

Economies of scale are a major source of cost advantage: companies in

some industries, such as some electronics manufacture, can continue to gain such
economies even as they (the companies) expand up to global size. Experience
effects can continue to drive down costs in the same way. An organization
undertaking any activity learns to do it more efficiently over time, as it gains more
experience of carrying out that activity. This increased efficiency reduces unit costs.
Sourcing efficiencies may be achieved by central procurement from global lowest-
cost suppliers. Country-specific cost advantages, such as low labour costs or a
favourable exchange rate, encourage purchasers to search globally for suppliers.
High costs of product development can be spread over longer production runs if
products are standardized and sold globally.

C. Government Policy
The climate of government opinion has been increasingly sympathetic to
free trade, though producer special interests and popular discontent continue to
hamper it. Technical standardization in both manufacturing and services has also
encouraged increased trade, while some governments have been active in seeking
foreign direct investment.
 D. Government Competition
Competitive forces seem to have had global effects:
a. Existing high levels of international trade encourage further interaction
between competitors as a matter of routine.
b. The existence of global competitors and global customers in an industry
prompts purely national firms to start trading globally so as to be able to
compete on an even footing.

3. PORTER’S DIAMOND
Porter’s Diamond Model of National Advantage explains why some industries in some
countries are so much more developed and competitive compared to industries elsewhere on
the planet. It basically sums up the location advantages that Dunning is referring to in
his Eclectic paradigm (also known as OLI framework). The Diamond Model could therefore
be used when analyzing foreign markets for potential entry or when making Foreign Direct
Investment decisions.

Porter argued that the national domestic market plays an important role in creating
competitive advantage for companies on a global scale. Companies operating in a strong
domestic market can develop competitive strengths. They can then build on the strength of
their “home base” to extend their business operations into other countries, where their
competitive advantage will also apply and help them towards success.

Porter’s Diamond Model of National Advantage explains why some industries in some
countries are so much more developed and competitive compared to industries elsewhere on
the planet.

Figure 3: Porter’s Diamond

Factors

The Four Elements in Porter’s Diamond

1. Factor Conditions. The nation’s position in factors of production, such as skilled labor
or infrastructure, necessary to compete in a given industry.
2. Demand Conditions. The nature of home-market demand for the industry’s product or
service.

3. Related and Supporting Industries. The presence or absence in the nation of supplier
industries and other related industries that are internationally competitive.

4. Firm Strategy, Structure, and Rivalry. The conditions in the nation governing how
companies are created, organized, and managed, as well as the nature of domestic
rivalry.

Example
The success of London as a global financial centre can be explained using Porter’s
Diamond.

Favoruable factor conditions:

 In the UK, investment bankers have a high social status. This helps to attract
highly-talented individuals into the industry, from other countries as well as the
UK.
 There is a highly-skilled workforce, in investment banking and also related
industries.
 London benefits from its membership of the European Union.
 London is in a favourable time zone in Europe, between the time zones of the Far
East and the US (especially New York).
 English is the ‘language’ of international banking, and London benefits from being
in an English-speaking country.

Related and supporting industries:

 London’s financial companies benefit from the existence of strong related and
supporting industries, such as accounting firms, law firms and IT firms.

Demand conditions in the home market:

 Investment institutions such as pension funds and insurance companies are major
customers of financial services firms in the UK. They have very high expectations
of the quality of service they should receive.

Firm strategy, structure and rivalry:

 Banks in the London market benefit from strong rivalry between firms that helps
to maintain standards of service at a high level.
London also benefits from high standards of corporate behaviour/corporate governance,
but a regulatory regime that is not too oppressive. The UK government seeks to
encourage the success of the UK financial services industry.

3. METHODS OF BUSINESS FORECASTING

In the recent years, large numbers of techniques of forecasting have been evolved
to handle different types of forecasting problems. Each technique has its special use and
the manager has to select that which one is most suitable for application to his problem.

The factors to be considered for making the choice of techniques for forecasting are
as follows:
a. The purpose of forecast.
b. The degree of accuracy desirable.
c. The time period to be forecast.
d. Cost and benefit of the forecast to the company.
e. The time available for making the analysis.
f. Component of the system for which forecast has to be made.

Basic forecasting techniques may be classified as:

A. Qualitative; and,
B. Quantitative

QUALITATIVE TECHNIQUES

1. Market Research Techniques:

Under this technique, polls and surveys may be conducted to find out the
sale of a product. This may be done by sending questionnaires to the present and
prospective consumers. In addition, this may also be interviewed personally,
though questions and interviews, the manager can find out whether the consumers
are likely to increase or reduce their consumption of- the product and if so, by
what margin. This interviews etc., and hence this method is somewhat costly and
time consuming.

2. Past Performance Technique:

In this technique the forecasts are made on the basis of past data. This
method can be used if the past has been consistent and the manager expects that
the future will resemble the recent past.
 3. Internal Forecast:
Under this technique indirect data are used for developing forecasts. For
Example—For developing sales forecasts, each area sales manager may be asked
to develop a sales forecast for his area. The area sales manager who is in charge
of many sub-areas may ask his salesmen to develop a forecast for each sub-area in
which they are working. On the basis of these estimates the total sales forecast for
the entire concern may be developed by the business concern.

4. Deductive Method:
In the deductive method, investigation is made into the causes of the
present situation and the relative importance of the factors that will influence the
future volume of this activity. The main feature of this method is that it is not
guided by the end and it relies on the present situation for probing into the future.
This method, when compared to others, is more dynamic in character.

5. Direct vs. Indirect Methods:

In the case of direct method, the different subordinate units on
departments prepare estimates and the company takes the aggregate of these
departmental estimates. This method is also called bottom up method of
forecasting.

On the other hand, in the case of indirect method of forecasting, first

estimates are made for the entire trade or industry and then the share of the
individual units of that industry is ascertained. This method is also called as “top
down” method of forecasting.

6. Jury of Executive Opinion:

In this method of forecasting, the management may bring together top
executives of different functional areas of the enterprise such as production,
finance, sales, purchasing, personnel, etc., supplies them with the necessary
information relating to the product for which the forecast has to be made, gets
their views and on this basis arrives at a figure.

QUANTITATIVE TECHNIQUES

Quantitative techniques are known as statistical techniques. They focus entirely on

patterns and on historical data. In this technique the data of past performance of a product
or product line are used and analyzed to establish a trend or rate of change which may show
an increasing or decreasing tendency.
 1. Business Barometers Method:
This is also called Index Number Method. Just as Barometer is used to
measure the atmospheric pressure similarly in business Index numbers are used to
measure the state of economy between two or more periods. When used in
conjunction with one another or combined with one or more index numbers,
provide an indication of the direction in which the economy is heading.
For example—a rise in the amount of investment may bring an upswing in
the economy. It may reflect higher employment and income opportunity after
some period.

Thus, with the help of business activity index numbers, it becomes easy to
forecast the future course of action projecting the expected change in related
activities within a lag of some period. This lag period though difficult to predict
precisely, gives some advance signals for likely change in future.

The forecasts should bear in mind that such barometers (index numbers)
have their own limitations and precautions should be taken in their use. These
barometers may be used only when general trend may reject the business of the
forecasts. It has been advised that different index numbers should be prepared for
different activities.

2. Trend Analysis Method:

This is also known as ‘Time Series Analysis’. This analysis involves
trend, seasonal variations, cyclical variations and irregular or random variations.
This technique is used when data are available for a long period of time and the
trend is clearly visible and stable. It is based on the assumption that past trend will
continue in future. This is considered valid for short term projection. In this
different formulas are used to fit the trend.

3. Extrapolation Method:
Extrapolation method is based Time series, because it believes that the
behaviour of the series in the past will continue in future also and on this basis
future is predicted. This method slightly differs from trend analysis method.
Under it, effects of various components of the time series are not separated, but
are taken in their totality. It assumes that the effect of these factors is of a constant
and stable pattern and would also continue to be so in future.

4. Regression Analysis Method:

In this method two or more inter-related series are used to disclose the
relationship between the two variables. A number of variables affect a business
 phenomenon simultaneously in economic and business situation. This analysis
helps in isolating the effects of various factors to a great extent.

For example- there is a positive relationship between sales expenditure

and sales profit. It is possible here to estimate sales on the basis of expenditure on
sales (independent variable) and also profits on the basis of projected sales,
provided other things remain the same.

5. Economic Input Output Model Method:

This is also known as “End Use Technique.” The technique is based on the
hypothesis of various sectors of the economy industry which are inter-related.
Such inter-relationship is known as coefficient in mathematical terms. For
example—Cement requirements of a country may be well predicted on the basis
of its rate of usage by various sectors of economy, say industry, etc. and by
adjusting this rate on the basis of how the various sectors behave in future.

As the data required for this purpose are easily available this technique is
used in forecasting business units.

6. Econometric Model:
Econometric refers to the science of economic measurement.
Mathematical models are used in economic model to express relationship among
various economic events simultaneously. To arrive at a particular econometric
model a number of equations are formed with the help of time series. These
equations are not easy to formulate. However, the availability of computers has
made the formulation of these equations relatively easy. Forecasts can be solved
by solving this equation.
CHAPTER 3: COMPETITIVE FORCES AFFECTING STRATEGIC POSITION

INTRODUCTION One of the significant factors that contribute to the success of a company is how
it relates to its environment. Company’s environment is very broad, aside from social and
economic forces, there are industries and sector in which it operates. Industry structure has a
strong influence in defining rules of the competitive game as well as the strategies potentially
available to the company. The intensity of competition in an industry is not a matter of luck.
Rather, competition is rooted in underlying industry factors and goes well beyond the established
competitors.

LEARNING OUTCOMES• At the end of the chapter, students will be able to:
1. Discuss the significance of industry, sector and convergence
2. Evaluate the sources of competition in an industry or sector using Porter’s five forces
framework.
3. Assess the contribution of the lifecycle model, the cycle of competition and associated costing
implications to understanding competitive behavior.
4. Analyze the influence of strategic groups and market segmentation.
5. Determine the opportunities and threats posed by the environment of an organization.

Competition and Markets

Competition and Markets

Customers and markets

A market is a place where buying and selling takes place. A market can be defined
in different ways.
• a. It can be defined by the products or services that are sold, such as the fashion
clothes market, the banking market or the market for air travel.
• b. It can be defined by the customers or potential customers for products or
services, such as the consumer market or the ‘youth market’.
• c. Customer markets might also be defined by geographical area, such as the North
American or European market.

Industries and sectors

• An industry consists of suppliers who produce similar goods and services. For example,
there is an aerospace industry, an automobile manufacturing industry, a construction
industry, a travel industry, a leisure industry, an insurance industry, and so on.
• Within an industry, there may be different segments. An industry segment is a
separately-identifiable part of a larger industry. For example, the automobile industry
can be divided into segments for the construction of automobiles and the manufacture
of parts. Similarly, the insurance industry has several sectors, including general insurance,
life insurance and pensions.
Companies need to make strategic decisions about:
a. the industry and industrial segment (or segments) they intend to operate in, and
b. the market or markets in which they will sell their goods or services.

A distinction should be made between products and markets in different situations:

a. Companies in different industries might sell their goods or services to the same market.
For example, small building companies compete with retailers of do-it-yourself tools and other
products. Laundry services compete with manufacturers of domestic washing machines.
b. Companies in the same industry might not compete because they operate in different
markets. For example, a ferry company operating passenger services between the UK and France
is in the same industry as a ferry company operating passenger services between the Greek
islands, but they are in the same industry.

Generic types of industry

Porter suggested that there are five generic types of industry. The strategic position of a company
depends to some extent on the type of industry it is operating in. The five industry types are as
follows:

a. Fragmented industries. In a fragmented industry, firms are small and sell to a small
portion of the total market. Examples are dry cleaning services, hairdressing services, shoe
repairs.
b. Emerging industries. These are industries that have only just started to develop, and are
likely to become much bigger and much more significant in the future. An example is the space
travel industry.
c. Mature industries. These are industries where products have reached the mature phase
of their life cycle. (The product life cycle is described later.) Examples are automobile
manufacture and soft drinks manufacture.
d. Declining industries. These are industries that are going into decline: total sales are falling
and the number of competitors in the market is also falling. An example is in coal mining in
Europe.
e. Global industries. Some industries operate on a global scale, such as the microprocessor
industry and the professional football industry.

Convergence

Occasionally, two or more industries or industrial segments converge, and become part of the
same industry, with the same customer markets. When convergence is happening, or might
happen in the future, this can have a major impact on business strategy.
 Demand-led and supply-led convergence
With demand-led convergence, the pressure for industry convergence comes from customers.
Customers begin to think of two or more products as interchangeable (e.g. mobile and fixed line
telephones) or closely complementary (e.g. air travel and car hire).
With supply-led convergence suppliers see a link between different industries and
decide to bridge the gap between the industries. The convergence of the entertainment, voice
communication and data communication industries, is probably supply-led, because suppliers
became aware of the technological possibilities before consumers became aware of the
convenience.

Industry Competition: Five Forces Model

Competition analysis

Analyzing competition is an important part of strategic position analysis. It is also important to

assess the strength of competition in a market, and try to understand what makes the
competition weak or strong. A company should also monitor each of its major competitors,
because in order to obtain a competitive advantage, it is essential to know about what
competitors are doing.

Porter’s Five Forces Model

Porter’s Five Forces model provides a framework for analyzing the strength of competition in a
market. It is not a model for analyzing individual competitors, or even what differentiates the
performance of different firms in the same market. In other words, it is not used to assess why
some firms perform better than others.

In addition, the Five Forces model can be used to explain why some industries are more
profitable than others, so that companies operating in one industry are able to make bigger
profits than companies operating in another industry. Profitability is affected by the strength of
competition: the stronger the competition, the lower the profits.

The Five Forces

A. Threat from potential entrants. The significance of this threat depends on how easy or how
difficult it would be for new competitors to enter the market. In some markets, the cost of
entering a new market can be high, with new entrants having to invest in assets and establish
production facilities and distribution facilities. In other markets, the cost of entering the market
can be fairly low.
• The costs and practical difficulties of entering a market are called ‘barriers to entry’.
• When barriers to entry are low. If new entrants are able to come into the market
without much difficulty, firms already in the market are likely to keep prices low
and to meet customer needs as effectively as possible. As a result, competition in
the market will be strong and there will be no opportunities for high profit
margins.
• When barriers to entry are high. When it is difficult for new competitors to enter
a market, existing competitors are under less pressure to cut their costs and sell
their products at low prices.

A number of factors might help to create high barriers to entry:

Economies of scale - Economies of scale are reductions in average costs that are achieved by
producing and selling an item in larger quantities. In an industry where economies of scale are
large, and the biggest firms can achieve substantially lower costs than smaller producers, it is
much more difficult for a new firm to enter the market. This is because it will not be big enough
at first to achieve the economies of scale, and its average costs will therefore be higher than
those of the existing large-scale producers.

Capital investment requirements - If a new entrant to the market will have to make a large
investment in assets, this will act as a barrier to entry, and deter firms from entering the market
when they do not want the investment risk.

Access to distribution channels - In some markets, there are only a limited number of distribution
outlets or distribution channels. If a new entrant will have difficulty in gaining access to any of
these distribution channels, the barriers to entry will be high.
Time to become established - In industries where customers attach great importance to
branding, such as the fashion industry, it can take a long time for a new entrant to become well
established in the market. When it takes time to become established, the costs of entry are high.

Know-how - This can be time-consuming and expensive for a new entrant to acquire.

Switching cost - Switching costs are the costs that a buyer has to incur in switching from one
supplier to a new supplier. In some industries, switching costs might be high. For example, the
costs for a company of switching from one audit firm to another might be quite high, and deter
a company from wanting to change its auditors. When switching costs are high, it can be difficult
for new entrants to break into a market.

Government regulation - Regulations within an industry, or the granting of rights, can make it
difficult for new entrants to break into a market. For example, it might be necessary to obtain a
license to operate, or to become registered in order to operate within an industry

B . Threat from substitute products. There is a threat from substitute products when customers
can switch fairly easily to buying alternative products (substitute products). The threat from
substitutes varies between markets and industries.
Example: Food and drink products. Consumers might switch between similar products, such as
coffee and tea.
When there are substitute products that customers might buy, firms must make their products
more attractive than the substitutes. Competition within a market or industry will therefore be
higher when the threat from substitute products is high.

Threats from substitute products may vary over time. There are many examples in the past of
industries that have been significantly affected by the emergence of new substitute products.
Examples:
• Plastic containers and bottles became a significant substitute for glass containers and
bottles.
• Synthetic fibres became a substitute for natural fibres such as wool and cotton.

C. Bargaining power of suppliers. In some industries, suppliers have considerable power. When
this occurs, they might charge high prices that firms buying from them are unable to pass on to
their own customers. As a result, profitability in the industry is low, and the market is
competitive.
• Porter wrote: ‘Suppliers can exert bargaining power over participants in an industry by
threatening to raise prices or reduce the quality of purchased goods or services. Powerful
suppliers can thereby squeeze profitability out of an industry unable to recover cost
increases in its own prices.’

An example of supplier power is possibly evident in the industry for personal computers.
Software companies supplying the computer manufacturers (such as Microsoft) have
considerable power over the market and seem able to obtain good prices for their products.
Computer manufacturers are unable to pass on all the high costs to their own customers for PCs,
and as a consequence, profit margins in the market for PC manufacture are fairly low.

Porter suggested that the bargaining power of suppliers might be strong in any of the following
situations:
• when there are only a small number of suppliers to the market
• when there are no substitutes for the products that are supplied
• when the products of a supplier are differentiated, and so distinctly ‘better’ or more
suitable than the products of rival suppliers
• when the supplier’s product is an important component in the end products that are
made with it
• when the industry supplied is not an important customer for the suppliers
• when the suppliers could easily integrate forward, and enter the market as competitors
of their existing customers.
The bargaining power of suppliers also depends on the importance of the product they
supply. For example, for a firm that manufactures cars the bargaining power of engine suppliers
will be greater than the bargaining power of suppliers of car mirrors.

D. Bargaining power of customers. Buyers can reduce the profitability of an industry when they
have considerable buying power. Powerful buyers are able to demand lower prices, or improved
product specifications, as a condition of buying. Strong buyers also make rival firms compete to
supply them with their products.
Example:
In the UK, a notable example of buyer power is the power of supermarkets as buyers in the
market for many consumer goods. They are able to force down the prices from suppliers of
products for re-sale, using the threat of refusing to buy and switching to other suppliers. As a
result, profit margins in the manufacturing industries for many consumer goods are very low.

Porter suggested that buyers might be particularly powerful in the following situations:
• when the volume of their purchases is high relative to the size of the supplier
• when the products of rival suppliers are largely the same (‘undifferentiated’)
• when the costs of switching from one supplier to another are low
• when the cost of purchased item is a significant proportion of the buyer’s total costs
• when the profits of the buyer are low
• when the buyer’s product is not affected significantly by the quality of the goods that it
buys
• when the buyer has full information about suppliers and prices.

E. Competitive rivalry. Competition within an industry is obviously also determined by the rivalry
between the competitors. Strong competition forces rival firms to offer their products to
customers at a low price (relative to the product quality) and this keeps profitability fairly low.
Porter suggested that competitor rivalry might be strong in any of the following circumstances:
• when the rival firms are of roughly the same size and economic strength
• when there are many competitors
• when there is only slow growth in sales demand in the market
• when the products of rival firms are largely the same (‘undifferentiated’)
• when fixed costs in the industry are high, so that firms still make some contribution to
profit even when they cut prices
• when supply capacity can only be increased in large incremental amounts (for example,
in electricity supply industry, where increasing total supply to the market might only be
possible by opening another power generation unit)
• when the costs of withdrawing from the industry are high, so that even unprofitable
companies are reluctant to leave the market.
I. The Product Life Cycle

The classical product life cycle

The product life cycle analysis is a technique used to plot the progress of a
product through its life span. The model can be used to assess an individual firm's
products (e.g. the iPod Classic), a type of product (e.g. CRT televisions) or an industry
(e.g. movies).

The model can show between four and six stages. Here, we show four stages:
a. introduction
b. growth
c. maturity
d. decline.

Figure 5: Product Life Cycle

This cycle reflects changes in demand and the spread of technical

knowledge among producers. Innovation creates the new industry, and this is normally
product innovation. Later, innovation shifts to processes in order to maintain margins.
The overall progress of the industry life cycle is illustrated below.

Introduction Growth Maturity Decline

Product Basic, no Improved Standardized Varied quality
characteristics standards design and product with but fairly
established quality little undifferentiated
differentiated differentiation

Competitors None to few Many entrants Competition Few remain.

increases, Competition
weaker players may be on price.
leave
Buyers Early More Mass market, Enthusiasts,
adopters, customers brand traditionalists,
prosperous, attracted and switching sophisticates
curious must aware common
be induced

Profits Negative – Good, Eroding Variable

high first possibly pressure of
mover starting to competition
advantage decline

Technology No standards Technologies Technology is Technology is

established become more understood understood
standardized across the across the
industry industry

Production Small scale Mass Long Overcapacity.

process batch production. production Production is
production. Distribution runs. reduced.
Specialised networks Cost efficiency
distributors expanded critical

The life cycle model has strategic implications for organizations operating in
that industry. Management must pursue different strategies at each stage.

a. Introduction stage
 Attract trend-setting buyer groups by promotion of technical novelty or
fashion.
 Price high (skim) to cash in on novelty, or price low (penetration) to gain
adoption and high initial share.
 Support product despite poor current financial results.
 Review investment program periodically in light of success of launch (e.g.
delay or bring forward capacity increases).
 Build channels of distribution
 Monitor success of rival technologies and competitor products

b. Growth stage
 Ensure capacity expands sufficiently to meet firm’s target market share
objectives.
 Penetrate market, possibly by reducing price.
 Maintain barriers to entry (e.g. fight patent infringements, keep price
competitive).
 High promotion of benefits to attract early majority of potential buyers.
 Build brand awareness to resist impact form new entrants.
  Ensure investors are aware of potential of new products to ensure support for
financial strategy.
 Search for additional markets and product refinements (i.e. market
penetration).
 Consider methods of expanding and reducing costs of production (e.g. contract
manufacturing overseas, building own factory in a low cost location).
 Product development

c. Maturity stage
 Maximize current financial returns from product.
 Defend market position by matching to gain acceptance from non-buyers (e.g.
new outlets or suggested new uses).
 Modify the product to make it cheaper or of greater benefit.
 Intensify distribution.
 Seek to extend growth by finding new markets or technologies

d. Decline stage
 Harvest cash flows by minimizing spending on promotion or product
refinement.
 Simplify range by weeding out variations.
 Narrow distribution to target loyal customers and reduce stocking costs.
 Evaluate exit barriers and identify the optimum time to leave the industry.
 Seek potential exit strategy (e.g. sell the business).
 The response of competitors is particularly important – there may be threats
as they attempt to defend their position, or opportunities, e.g. when a
competitor leaves the market.

Cycle of competition

A cycle of competition is another concept for understanding the behavior

of competitors in a market. When one company achieves some success in a
market, competitors might try to do something even better in order to gain a
competitive advantage. A new initiative by one company will result in a counter-
measure from another company. Each company in the market tries to do
something different and better.

A typical cycle of competition affects prices and quality. If one company

has a large share of a profitable market, a rival company might start to sell its
product at a lower price. Another rival company might improve the quality of its
product, but sell it at the same price as rivals in the market. The first company might
respond to these initiatives by its rivals by improving its product quality and
reducing the selling price.

The effect of a cycle of competition in a growing market is that prices fall

and quality might improve.
 In the maturity phase of a product’s life cycle, or in the decline phase, it
becomes more difficult to lower prices without reducing quality. Competitors
might try to gain a bigger share of the market by selling at a lower price, but the
product quality might be reduced. This can lead to a ‘spiral’ of falling prices and
falling quality, to the point where the product is no longer profitable, and it is less
attractive to customers.

The concept of the cycle of competition is useful for strategic analysis,

because it can help to explain the strategies of companies in a market, and to
assess what future initiatives by competitors might be.

II. Strategic Group Analysis

Strategic groups

Another approach to analyzing and understanding the competitors in a

market is to group them into strategic groups.

A strategic group is a number of entities that operate in the same

industry and that have similar strategies or that are competing in their markets
in a similar way. Strategic groups have been defined as: ‘Clusters of firms within
an industry that have common specific assets and thus follow common strategies in
key decision variables’ (Oster).

When there are only a few competitors in the same industry, the concept of
strategic groups has no practical value, because each competitor can be analyzed
individually. However, when there are many competitors in the industry, it can
simplify the analysis to put them into strategic groups of entities with similar
resources and similar strategies. For the purpose of competitor analysis, all the
entities in the same strategic group can then be treated as if they are a single
competitor. Instead of analyzing each competitor individually, they can be analyzed
collectively, in groups.

Strategic space

When all the companies in an industry are put into strategic groups, and
these groupings are analyzed, a strategic space might become apparent.

A strategic space is a gap in the market that is not currently filled by

any strategic group. The existence of strategic space might provide an
opportunity for a company to make a strategic initiative, and attempt to fill the
space that no other rivals occupy.

Example
One way of identifying strategic groups within an entire market is to classify market
position in terms of price and quality. Some firms will offer lower-priced products,
but their quality is probably not as good. Other firms might offer higher-quality
products for a higher price.

The strategic groups in a market might be mapped according to price and quality as
follows:

This map indicates that there are four strategic groups, each in a different market
position in relation to price and quality. The largest group, Group 2, sells products
with a middle-range price and middle-range quality.

This method of analysis can help an entity to identify possible gaps in the market –
strategic space. When there is a perceived gap in the market, an entity might decide
on a strategy of filling the empty space by offering a product with the characteristics
that are needed to fill the gap.

If the positioning of entities in a market is analyzed by price and quality, as above,

possible strategic spaces might be identified as follows:
In this example, an entity might decide to target a position in the market where it
sells a high-quality product for a low price, because there are no firms yet in this part
of the market. Alternatively, there might be a market for even higher-quality products
at an even higher price.

Product differentiation

A market can be identified as a group of customers or potential customers

for a particular product or range of related products.

In a very small number of markets, all suppliers provide an identical product

that is the same in every respect to the product supplied by its competitors. An
example is foreign exchange. Banks selling US dollars in exchange for euros are all
trading exactly the same product.

In most markets, products are differentiated in various ways. They are similar,
but there are also noticeable differences. Differences in products include differences
in:
a. product design
b. pricing
c. branding

Products might also be differentiated by the way in which they are

delivered to customers. For example, banking services might be delivered through
a branch network or as an internet service. Similarly, consumers can buy products
in shops or through the internet; or they can buy a hot meal by going to a cafeteria
or restaurant, or by ordering a home-delivery meal.

Business entities often use differentiation to make their products

attractive to customers in the market – so that customers will buy their products
rather than those of competitors.

Market segmentation
 Business entities choose to target its products at a particular section or
segment of the market. A market segment is a section of the total market in which
the potential customers have certain unique and identifiable characteristics and
needs.

Instead of trying to sell to all customers in the entire market, an entity might
develop products or services that are designed to appeal to customers in a specific
market segment.

Market segmentation is the process of dividing the market into separate segments,
for the purpose of developing differing products for each segment.

Example

The market for motor cars might be segmented according to the design of the car,
for example:
 four-door or two-door family saloon car (with or without hatchback) – and
with differing engine sizes
 two-seater sports cars
 estate cars
 people carriers
 4 × 4 vehicles
 electric-powered cars
 cars that can be powered by ethanol (bio-fuel).

For car dealers, the market for cars can also be segmented into the new cars market
and the used cars market.

Each type of car design is intended to appeal to the needs of a different segment of
car buyers.

When an entity is selecting a product market strategy, Porter has suggested that it
should select from three generic strategies:
(a) Cost leadership. This means being the lowest-cost producer in the
market. The least-cost producer can compete on price, and can expect to
achieve market leadership.
(b) Differentiation. This means offering products or services that are different
in some way from those of competitors. By making its products different,
an entity might be able to add value for customers, and so justify a higher
price (= higher than the lowest price in the market).
(c) Focus. This means selecting a specific market segment for selling a
product or service. Having targeted a market segment, an entity must also
choose between a strategy of cost leadership or a strategy of differentiation
within that market segment.
Market segmentation is important for strategic management for two main reasons:
a. It provides a basis for analyzing competition in a market or industry.
b. It provides a basis or framework for making strategic choices.

Methods of segmenting the market

There are various ways of segmenting the market, and identifying different
groups of customers. Methods of segmenting the market include segmentation by:
a. geographical area
b. quality and performance
c. function (for example, within the market for footwear, there are market
segments for running shoes, football boots, hiking boots, riding boots, snow
boots, and so on)
d. type of customer: for example, consumers and commercial customers
e. social status or social group
f. age:
g. life style

Market segmentation and strategic space

A similar analysis of strategic groups can be made to identify possible target

market segments. In the example below, the strategic groups are analyzed by life
style of customers.

This analysis suggests that there are possibly gaps in the market for a
product, and that a product is not currently being made and sold that might appeal
specifically to individuals whose children have left home or to individuals who
have retired from working.

Having analyzed the market and identified these strategic spaces,

management can go on to assess whether a strategy based on developing an
 amended product specifically for these gaps in the market might be strategically
desirable and financially worthwhile.

Identifying gaps in a market can be a particularly useful method of

competition analysis for companies that are considering whether or not to enter into
a market for the first time.

III. Opportunities and Threats

Opportunities. Opportunities may take the form of strategic gaps: these are
potentially profitable aspects of the competitive environment that are not being
exploited by rivals. JS&W give several examples of how these might arise.

a. Potential substitutes for existing products might be created. This is

largely a technology-based opportunity, but an important route to the
development of substitutes is the imaginative development of new uses for
existing products and methods.
b. Other strategic groups may present opportunities, especially if there are
changes in the macro-environment, such as deregulation or opening of new
markets in developing countries.
c. It may be possible to target different strategic customers. In the case of
consumer goods, the development of internet selling means that the ultimate
user is displacing the distributor as the strategic customer.
d. There may be potential to market complementary products. For example,
capital goods manufacturers routinely offer credit services to assist the
customer to buy.
e. New market segments may have potential, though there may be a need to
adapt the product.

Threats. For a commercial organization, the most urgent threats are likely
to emerge from within the immediate industry arena. The five forces model
provides a good summary of the threats inherent here, supplemented environment
by strategic group analysis. Recognizing threats in the wider PESTEL environment
is, perhaps, more difficult, since it covers such an enormous range of factors.

Summary

All of the environment factors affecting an organization can be summarized

as either opportunities or threats. The diagram below illustrates this.

However, having identified all the external factors influencing their

organization, the strategist then needs to work out how best to align them to the
internal strengths and weaknesses of an organization.