Outline:

Strategy formulation begins with an analysis of the forces that shape competition within the
industry in which a company is based.

Assessing the opportunities and risks that the organization is facing can help us design
strategies that will help us surpass our competitors.

Opportunities Elements and conditions in a company’s environment that allow it to formulate

and implement strategies that enable it to become more profitable.

Threats Elements in the external environment that could endanger the integrity and
profitability of the company’s business.

Explanation: Opportunities exist when a business can make the most of factors in its
surroundings to create and put into action plans that help it increase its profitability. Threats
occur when factors in the outside environment compromise the honesty and profitability of
the company's operations. The viability of carriers in the American airline business is
seriously threatened by rising oil prices and, consequently, the cost of jet fuel. The viability of
carriers in the American airline business is seriously threatened by rising oil prices and,
consequently, the cost of jet fuel.

Begins with Industry analysis

 First, it examines concepts and tools for analyzing the competitive structure of an
industry and identifying industry opportunities and threats.
 Second, it analyzes the competitive implications that arise when groups of companies
within an industry pursue similar or different kinds of competitive strategies.
 Third, it explores the way an industry evolves over time, and the changes present in
competitive conditions.
 Fourth, it looks at the way in which forces in the macroenvironment affect industry
structure and influence opportunities and threats.

Defining an Industry

 An industry can be defined as a group of companies offering products or services that

are close substitutes for each other that is, products or services that satisfy the same
basic customer needs.
 A company’s closest competitors.
 Explanation: For Example, Fashion Industry ( Chanel and Dior) both of this company offers
same variety of product and because of that they share same market.

Industry and Sector

 Explanation: An important distinction should be made between an industry

and a sector. A sector is a group of closely related industries. For example, as
illustrated in Figure 2.1, the computer sector comprises several related
industries: the computer component industries (e.g., the disk drive industry,
the semiconductor industry, and the modem industry), the computer
hardware industries (e.g., the personal computer industry, the hand-held
computer industry, which includes smart phones such as the Apple iPhone and
slates such as Apple’s iPad, and the mainframe computer industry), and the
computer software industry.

Industry and Market Segments

It is also important to recognize the difference between an industry and the market
segments within that industry. Market segments are distinct groups of customers within a
market that can be differentiated from each other on the basis of their individual
attributes and specific demands.

Changing Industry Boundaries

Industry boundaries may change over time as customer needs evolve, or as emerging
new technologies enable companies in unrelated industries to satisfy established
customer needs in new ways.

Explanation: Industry competitive analysis begins by focusing upon the overall industry
in which a firm competes. Tools that managers can use to perform industry analysis
include the competitive forces model, strategic group analysis, and industry life-cycle
analysis. For an example of how change can alter industry boundaries, consider the
convergence between the computer and telecommunications industries.

Competitive Forces Model

 Once the boundaries of an industry have been identified, managers face the task of
analyzing competitive forces within the industry environment in order to identify
opportunities and threats. Michael E. Porter’s well-known framework, known as “The Five
Forces Model,” has helped managers with this analysis.

Risk of Entry by Potential Competitors

Potential competitors are companies that are not currently competing in an industry
but have the capability to do so if they choose.

For example, cable television companies have recently emerged as potential

competitors to traditional phone companies. New digital technologies have allowed cable
companies to offer telephone service over the same cables that transmit television shows.

Established companies already operating in an industry often attempt to discourage

potential competitors from entering the industry because as more companies enter, it
becomes more difficult for established companies to protect their share of the market and
generate profits.

Economies of scale Reductions in unit costs attributed to a larger output.

Sources of scale economies include:

(1) cost reductions gained through mass producing a standardized output.

(2) discounts on bulk purchases of raw material inputs and component parts;

(3) the advantages gained by spreading fixed production costs over a large production
volume; and
(4) the cost savings associated with distributing marketing and advertising costs over a large
volume of output.

For example: 10 pesos unit cost and the company can product 5 pcs. And on the other hand,
other manufacturing company produce 10 pcs for 5 pesos unit cost. And take note both
companies produced same product. So, the company who produce a product with low cost is
better because the organization can reduce cost with the same product, and have the
privilege of discount for mass-purchase supplies, gaining fixed production cost and cost
advantage.

Brand loyalty Preference of consumers for the products of established companies.

Explanation: A company can create brand loyalty by continuously advertising its brand-name
products and company name, patent protection of its products, product innovation achieved
through company research and development programs, an emphasis on high quality
products, and exceptional after-sales service.

Absolute cost advantage

A cost advantage that is enjoyed by incumbents in an industry and that new entrants cannot
expect to match.

Explanation: meaning that entrants cannot expect to match the established companies’ lower
cost structure. Absolute cost advantages arise from three main sources: (1) superior
production operations and processes due to accumulated experience, patents, or trade
secrets; (2) control of particular inputs required for production, such as labor, materials,
equipment, or management skills, that are limited in their supply; and (3) access to cheaper
funds because existing companies represent lower risks than new entrants. If established
companies have an absolute cost advantage, the threat of entry as a competitive force is
weaker.

Switching costs

Costs that consumers must bear to switch from the products offered by one established
company to the products offered by a new entrant

Explanation: If a person currently uses Microsoft’s Windows operating system and has a
library of related software applications (e.g., word-processing software, spreadsheet, games)
and document files, it is expensive for that person to switch to another computer operating
system. To effect the change, this person would need to purchase a new set of software
applications and convert all existing document files to the new system’s format. Faced with
such an expense of money and time, most people are unwilling to make the switch unless the
competing operating system offers a substantial leap forward in performance. Thus, the
higher the switching costs, the higher the barrier to entry for a company attempting to
promote a new computer operating system.

Rivalry Among Established Companies

 The second of Porter’s Five Forces is the intensity of rivalry among established
companies within an industry.
 Rivalry refers to the competitive struggle between companies within an
industry to gain market share from each other.

The competitive struggle can be fought using:

 Price
 product design
 advertising and promotional spending,
 direct-selling efforts, and after-sales service and support.

Industry Competitive Structure

 The competitive structure of an industry refers to the number and size distribution of
companies in it, something those strategic managers determine at the beginning of an
industry analysis.

Explanation: Industry structures vary, and different structures have different implications
for the intensity of rivalry. A fragmented industry consists of many small or medium-sized
companies, none of which is in a position to determine industry price.

Industry Demand

 Growing demand from new customers or additional purchases by existing customers

tend to moderate competition by providing greater scope for companies to compete
for customers.
 Growing demand tends to reduce rivalry because all companies can sell more without
taking market share away from other companies. High industry profits are often the
result.
 Demand declines when customers exit the marketplace, or when each customer
purchases less. When this is the case, a company can only grow by taking market
share away from other companies.

Cost Conditions

The cost structure of firms in an industry is a third determinant of rivalry.

Explanation: In industries where the fixed costs of production are high, firms cannot
cover their fixed costs and will not be profitable if sales volume is low. For example,
cable TV companies must lay cable in the ground; the cost of doing so is a fixed cost.
Similarly, to offer express courier service, a company such as FedEx must first invest
in planes, package-sorting facilities, and delivery trucks.

Exit Barrier

are economic, strategic, and emotional factors that prevent companies from leaving an industry

Explanation: If exit barriers are high, companies become locked into an unprofitable
industry where overall demand is static or declining. The result is often excess productive
capacity, leading to even more intense rivalry.