The External Environment

The external environment is those conditions external to the organization, which influences the
organization and its industry, especially those that influence the intensity of competition.

The PESTEL framework is a broad but useful mnemonic to group external environmental
influences into political, economic, social, technological, environmental, and legal factors.

Structural breaks are major and unpredictable events in the external environment.

These are likely to require a sudden rethinking about an organization's purpose and strategy.

The industry life cycle likens the life of an industry to a living organism that goes through stages
of introduction, growth, maturity, and decline; each stage exhibits distinct characteristics that should be
considered against the purpose of the organization.

The five competitive forces are the primary influences affecting the choice of industry and
competitive positioning, which affect an organization's competitive advantage and profitability.

Hyper competition is a dynamic state of constant disequilibrium and competitive change in an industry.

The external environment of an organization consists of the factors outside the organization,
including the people and organizations that influence the external changes in the organization's industry,
particularly those that affect the strength of the competition. External conditions are continually
evolving, and plans need to be regularly monitored and checked by companies to handle any emerging
challenges and exploit profitable opportunities successfully. Many changes are challenging to identify,
and they often have uncertain and even unknowable consequences. The point of departure is to monitor
and review background trends to identify and evaluate opportunities and threats; this drives the
strategic management process from the outside.

The PESTEL framework

PESTEL, which is a mnemonic for political, economic, social, technological, environmental, and
legal factors, is the most comprehensive and used approach for grouping and reviewing macro-
environmental trends in strategic management. Changes in all of these fields over time are likely to
contribute to industrial change. If an organization's external environment is monitored and audited, it
will be better able to respond to trends and respond faster than its competitors.

Although the framework comprises six categories, its usage as an integrated, not
compartmentalized view of developments and changes is essential. Strategic management is about
seeing and understanding connections and is not about isolated trends but about managing the BIG
image. Essential details are, of course, the key to understanding how the change will happen. It is just in
terms of what this means for the strategic management of an organization. Understanding how the
patterns will work together to drive change and growth is essential.

There will be rewards, and there will be threats. A regular review of PESTEL encourages
strategists to think about long-term trends and pose questions such as, 'Does our overall plan offer
adequate flexibility to cope with new types of competition?
 Political trends
Political considerations include developments not only in the conduct of local, regional, and
foreign governments and agencies but also in the thought and behavior of prominent organizations and
individuals: in many ways, government policies and regulatory decisions influence competition.
Significant uncertainty hangs over financial markets, for example, because of a potential trade war
between the United States and China.

Economic trends
Economic trends include resource and price use, interest rates, disposal income, employment,
inflation, and productivity. Emerging economies in China, India, and several other Asian countries have
led the world in economic growth rates since the 2008 financial crisis. Though globalization has slowed
down in the aftermath of the global financial crisis, it shows every sign of continuing, though at a slower
pace.

Social trends
Social factors include changes in economic, social, and lifestyle, gender roles and group
identities, national cultures, ethics, morals, and aspirations. The post-WWII baby boom in Western
countries created a strong and distinct community of customers who will spend more on health and
leisure as they age.

Technological trends
The technology involves impacts on personnel, organizational practices, goods and services, and
operations from current and emerging technological changes. The proliferation of smartphones and
applications for price scanning and the expanded usage of the Internet changes the nature of shopping
and the role of information more generally.

Environmental trends
Environmental factors include not only quality of life, sustainability, and resource recycling but
also logistical and infrastructure possibilities. Issues such as environmental wealth, global warming, and
plastic packaging waste and intensive farming escalate. Many companies would have to take these into
account.

Legal trends
Legal considerations include legislation and administrative action, boundary requirements,
standards, and labor regulations. It can also include topics of globalization that deal with international
trade and competition law. National legal systems differ enormously, and their consequences are
profound for individual industries. One of the most significant trends is to tighten regulatory accounting
standards after massive corporate failures – like Enron, Tyco International, Peregrine Systems, and
WorldCom – and the dot.com bubble burst.
The PESTEL process
The PESTEL process should be kept as simple as possible with the big picture always kept central.
The use of the approach should follow this set of principles:

1. Someone should be in charge of the process, including meetings and discussions.

2. Before starting, think through the process and be clear what the objectives of the PESTEL
analysis are.

3. Keep it simple; do not get bogged down in detail so that the big picture gets lost.

4. Involve a balance of pessimists and optimists; include outsiders with different perspectives
and beware of vested interests and groupthink.

5. Agree on appropriate sources and check inside the organization first for information.

6. Use visual tools and discussion aids.

7. Identify the most critical factor issues for strategy.

8. Produce a discussion document for broader circulation.

9. Use feedback and follow-up checks on actions and keep all PESTEL participants informed on
a follow-up to encourage continual dialogue.

10. Decide which issues to monitor on an ongoing basis; link to existing in-house processes for
monitoring and reviewing change, especially for planning.

PESTEL is a valuable tool for testing and defining strategic goals, as managers are encouraged to look
beyond their company and sector and be less insular. However, beware of system vulnerabilities.
Scanning data can be too easy and slip into lazily ticking boxes over time. A strong PESTEL will go far
enough to understand the root causes behind the trends; things are not always as it seems. The research
should not just emphasize the obvious; strategists should avoid overloading information.
Industry life cycle
The industry life cycle likens the life of an industry to a living organism: markets expand over
time, eventually maturing and declining. The life cycle has an introduction, growth, maturity, and decline
stages.

Growth stage
The time when first movers are well known in their industries and take dominant roles. The expansion
comes as the latest items get familiar to consumers, dealers, and retailers. Supplier companies gain
expertise and leverage more significant economies of scale in order to deliver lower prices. When a
bandwagon effect gathers strength, a tipping point is reached at a sales threshold. As a dominant design
establishes itself, the number of competing organizations first rises and then reduces to a handful.

Maturity stage
A mature industry is relatively stable, and a handful of competitors have been reduced to the
competition. Observers often use the term category killer to identify a company that has managed to
remove much of the competition for a product or service category. During the maturity period, individual
growth levels can no longer be sustained without taking market shares from other rivals. Typically
speaking, costs are small due to the large-scale manufacturing benefits, and competitors compete by
distribution and brand loyalty. Size and branding industries pose essential barriers to market entry. When
the number of surviving companies is relatively large and similar in size, oligopolistic positions may mean
that they are well placed to prevent price wars and take advantage of rising prices and gain high profits.
The stage of maturity is also a time when an essential product or service developed as a range of
different, but related offers. Once the marketing programmed is modified to suit the changing needs of
the customer, each deal is subject to the product life cycle.

Decline stage
The reasons for the decline that lies in the global environment as well as any of the PESTEL variables. A
significant explanation for this is technological change. Old technology may rally though – a 'sailing ship
effect' – as steamships were introduced, sailing technology became more productive. The integration of
computing, telecommunications, and media technology has changed industries in modern times,
bringing in new life cycles.

The life cycle of the industry depends on the characteristics of the production phases of a
product. Nonetheless, it may not be the stages as such, but how rivals compete with each other in those
stages is significant. It is not only about an industry's general circumstances and its economies, but how
competing companies compete against each other to survive – and the fittest survive:
The Five Competitive Forces
Arguably the most crucial contribution to thinking about strategic strategies came from Michael
Porter (1980), who introduced the competitiveness of the market and the concept of five competitive
powers. The core factor is the strength of the competition between established competitors; four others
affect this – the threat of new company, the bargaining power of customers, the bargaining power of
suppliers, and the threat of substitutes. The strength of these forces and how they influence one another
influences industry productivity and forms its structure. The strength of these forces and how they
influence one another influences industry productivity and forms its structure.

The threat of new entrants (new business)

New external competition brings additional capacity pressures to existing market shares, which
influence the industry 's prices, costs, and investment. Because of this, many existing companies in a
threatened industry will hold down profitability and make their business less appealing to potential
entrants. If entry barriers are small and the comp tentativeness of the market is strong, a new company
will enter the industry and push down prices and increase costs for established competitors. The
challenge for new entrants is to find ways to resolve the entry barriers without the high investment costs
that cancel the profitability of industrial operations. There are eight sources of barriers to entry that
entrants have to consider and overcome:

1 Supply-side economies of scale – incumbents have a cost advantage over incumbents from
economies of scale and can sustain lower prices.

2 Demand-side benefits of scale – incumbents have a reputation for quality and service that comes
from size.

3 Customer switching costs – there is a high cost to customers of incumbents in switching to

entrants.

4 Capital requirements – cost and availability for investment in new areas are likely to be high for
entrants.

5 Incumbency advantages independent of size advantages are stemming from the first advantage,
such as proprietary technology, access to resources, and locations.

6 Unequal access to distribution channels – fewer wholesale and retail channels may mean these
are tied up by incumbents.

7 Restrictive government policy – competition policy, regulation, and licensing may foreclose entry
to entrants from overseas.
8 Expected retaliation – the ability and history of incumbents to retaliate when faced with the new
competition may deter entrants.

The bargaining power of customers

Potential customers or groups of customers can force suppliers in the industry to lower prices, demand
more customized features, and force up service quality. This activity drives down an organization's
profitability and shifts the balance of power and value in favor of buyers. Customers have an advantage if
the following conditions apply:

1 Customers are few and buy in quantities that are mainly about the size of suppliers. If the fixed
costs of suppliers are high and marginal costs are low, there are likely to attempt to keep
capacity filled through discounting.

2 The industry's products are standardized or undifferentiated. If buyers can find equivalent
products elsewhere, suppliers can play off against each other.

3 Customers have low switching costs in changing suppliers.

4 Customers can produce the product themselves if a supplier is too costly.

Buyers are likely to be sensitive to prices if the cost of the product or service is a significant proportion of
its costs and are likely to search for the best deals and to negotiate hard. The opposite is exact when
price forms a low percentage of a buyer's costs. In general, however, price is less important when the
quality of the supplied product and its influence on the buyer's products are vital considerations. The
importance of service, especially when quick response and advice required from the supplier, can be
much more important than price. Also, cash-rich and profitable business customers with healthy
enterprises may be less sensitive to levels of price. Intermediate customers and customers who are not
the end-user of the final product, such as in distribution, are similarly less motivated by price. Producers
often attempt to reduce the power of the channel through exclusive arrangements with distributors and
retailers.

The bargaining power of suppliers

The strength of suppliers will influence the profitability of customer organizations; if this is strong,
suppliers can negotiate higher prices to their advantages. It is likely to apply if any of the following
conditions apply to an industry's suppliers:

1 Supply is more concentrated than the industry’s customers.

2 Suppliers are not dependent upon a single industry for their revenues. 3 Suppliers have
customers with high switching costs and close supply chain relations with customers.

4 Suppliers with differentiated products and services are dependent on individual customers.

5 Suppliers have products and services for which there are no substitutes. 6 Suppliers have the
potential to integrate forward and enter a customer's market.
The threat of substitute products and services
Most often, there are substitutes, but it is difficult to determine if they appear different in type
from the goods or services of the industry. However, the threat of substitutes influences the profitability
of an industry because it can allow customers to go elsewhere. The danger of substitutes becomes high
as it is clear that competitors give the industry 's offer an enticing price performance trade-off. The
switching cost for the customer must be small, not just in terms of cost but also in terms of comfort and
assurance.

Rivalry among existing competitors

The other four influences this latter competitive force. Depending on how actively rivals use the
other forces to reinforce positions, increase revenue, and save costs, it is the most effective. The rivalry is
healthy when there are numerous and rough competitors of equal power and size. In this case, winning
customers without taking them from rivals is difficult for any organization. If the industry has a CEO, the
leader who determines the industry's economic conditions, competition would likely be unpredictable
and expensive for the industry.

The importance of the five forces

Michael Porter revisited his five-force framework in an article published in 2008, in which he
summed up its importance: Understanding the forces that shape industry competition is the starting
point for developing a strategy. Every company should already know its industry's average profitability
and how it has been changing over time. The five forces reveal why industry profitability is what it is.
Only then can a company incorporate industry conditions into a strategy.

An organization's competitive strategy can base on building defenses against the five forces or
finding a position in an industry where the forces are weak. Porter warns that an organization should be
careful not to set in motion dynamics that will undermine the industry's attractiveness in the longer
term. However, for some industries, especially those emerging from new technologies, the short-term
may be more critical.
OPPORTUNITES
1. Market Growth and Expansion:

 Entering new markets or segments that show growth potential.

 Expanding into international markets.

 Capitalizing on emerging trends and consumer preferences.

2. Technological Advancements:

 Adopting new technologies to improve operational efficiency.

 Developing innovative products or services based on technological advancements.

 Leveraging digital platforms for marketing, sales, and customer engagement.

3. Changing Demographics and Lifestyle:

 Catering to changing demographics and preferences.

 Offering products/services that align with evolving lifestyle trends.

 Customizing offerings for specific customer segments.

4. Regulatory and Legal Changes:

 Benefiting from favorable regulatory changes that open up new opportunities.

 Adapting to industry standards and regulations to gain a competitive edge.

5. Economic Factors:

 Leveraging economic upswings to increase sales and profitability.

 Capitalizing on changes in exchange rates for international trade.

6. Collaborative Opportunities:

 Forming strategic partnerships, alliances, or joint ventures.

 Leveraging the expertise of other companies to enhance capabilities.

7. Social and Cultural Shifts:

 Creating products/services that align with socially responsible trends.

 Addressing societal challenges and contributing positively to communities.

8. Environmental Concerns:

 Developing eco-friendly products and processes to cater to environmentally conscious

consumers.

 Capitalizing on the growing demand for sustainable practices.

9. Competitor Weaknesses:

 Identifying gaps in the offerings of competitors.

 Exploiting competitor vulnerabilities to gain market share.

10. Customer Feedback and Insights:

 Listening to customer feedback to identify unmet needs.

 Developing solutions that directly address customer pain points.

11. Mergers and Acquisitions:

 Identifying potential targets for acquisition to expand market presence.

 Taking advantage of consolidation opportunities within the industry.

12. Changing Consumer Behavior:

 Adapting to shifts in how consumers make purchasing decisions.

 Developing new sales channels to reach customers where they are.

13. Global Trends:

 Leveraging global trends such as urbanization, mobility, and connectivity.

 Identifying opportunities arising from geopolitical changes.

14. Health and Wellness Trends:

 Capitalizing on the increasing demand for health and wellness products/services.

 Developing solutions that improve physical and mental well-being.

15. E-commerce and Digital Transformation:

 Embracing the shift to online shopping and digital platforms.

 Creating seamless omni-channel experiences for customers.

THREATS

1. Competition: Intense competition from existing and new competitors can erode market share,
pricing power, and profitability.

2. Technological Changes: Rapid technological advancements can make existing products or

services obsolete and disrupt traditional business models.

3. Market Trends: Shifts in customer preferences, demographics, and buying behaviors can affect
demand and require adjustments to product offerings.

4. Economic Factors: Economic downturns, inflation, currency fluctuations, and interest rate
changes can impact consumer spending and business investments.

5. Regulatory and Legal Changes: New regulations, laws, and compliance requirements can
increase costs, limit operations, or require adjustments to business practices.

6. Political Instability: Changes in government policies, geopolitical tensions, and political unrest
can disrupt supply chains, affect market access, and create uncertainty.

7. Environmental Factors: Increasing environmental regulations, sustainability concerns, and

natural disasters can impact operations, reputation, and resource availability.

8. Social and Cultural Shifts: Changes in societal values, cultural norms, and social trends can
influence product acceptance and brand perception.

9. Supplier Issues: Dependence on specific suppliers or shortages of critical inputs can disrupt
production and increase costs.

10. Customer Power: Concentrated or powerful customers can demand lower prices, better terms,
and higher quality, affecting profitability.

11. Technological Disruption: Emerging technologies can lead to new competitors and business
models that threaten established industries.

12. Cybersecurity Threats: Data breaches, cyberattacks, and information security vulnerabilities can
damage customer trust and disrupt operations.

13. Globalization: Increased international competition, trade barriers, and market dynamics can
impact market access and sourcing strategies.

14. Resource Scarcity: Shortages of essential resources, such as raw materials or energy, can lead to
increased costs and operational challenges.
15. Mergers and Acquisitions: Competitors' strategic moves, such as mergers and acquisitions, can
reshape the competitive landscape and impact market dynamics.

16. Social Media and Reputational Risks: Negative publicity, social media backlash, and reputational
damage can quickly spread and harm brand equity.

17. Changing Distribution Channels: Shifts in how products reach customers, such as the rise of e-
commerce, can disrupt traditional distribution models.

18. Labor Market Trends: Skill shortages, changing labor laws, and evolving workforce expectations
can impact labor costs and availability.

19. Demographic Changes: Aging populations, changing population sizes, and shifts in demographics
can affect target markets and demand.

20. Intellectual Property Concerns: Intellectual property theft, patent disputes, and infringements
can impact innovation and competitiveness.

PREPARED BY:

Jackie Tubia Beatingo

Kier C. Baral

Vebian S. Balanza

References:

Witcher, B. J. 2020, Absolute essentials of strategic management (1st Ed.) Routledge, New York

Retrieved from

https://b-ok.cc/book/5304725/25a98e

Young, F. C., 2015, Strategimanagementnt made simple. Manila: REX Book Store

Flores, Marivic F. 2017, Business policy and strategy. Intramuros, Metro Manila: Unlimited Books

Library Services and Publishing Inc.