Analyzing the External

Environment of the Firm

Chapter Two
Copyright 2010 by The McGraw-Hill Companies, I nc. All rights reserved. McGraw-Hill/I rwin
Creating the Environmentally
Aware Organization
2-2
Environmental Scanning & Monitoring
External Scanning
Surveillance of a firms external environment:
Predict environmental changes to come
Detect changes already under way
Proactive mode
Alerts the firm to critical trends before changes
have developed a discernible pattern and before
competitors recognize them
2-3
Environmental Scanning & Monitoring
External Monitoring
Track evolution of environmental trends, sequence of
events or streams of activities
2-4
How to Spot Hot Trends
Listen
Pay attention
Follow trends online
Go old school

2-5
Virgin Mobile and Crowdsourcing
Virgin Mobile USA
relies on 2,000
carefully selected
online customers,
referred to as
Insiders to keep it
aware of trends and
promising
opportunities.

The Insider
communitya very
hip focus group
provides input on
everything from
designing phones to
coming up with
names for service
plans.

2-6
Competitive Intelligence
Define and understand a firms industry
Identify rivals strengths and weaknesses
Intelligence gathering (data)
Interpretation of intelligence data
Helps a firm avoid surprises
2-7
Environmental Forecasting
Environmental forecasting
Plausible projections about direction, scope,
speed and intensity of environmental change
2-8
Environmental Forecasting
Scenario analysis
involves experts detailed assessments of
societal trends, economics, politics,
technology, or other dimensions of the
external environment
2-9
2-10
SWOT Analysis
Firms strategy must:
Build on its strengths
Remedy the weaknesses or work around them
Take advantage of the opportunities presented
by the environment
Protect the firm from threats
2-11
SWOT Analysis
Strengths and
weaknesses
Internal conditions of
the firm
Opportunities and
threats environmental
conditions external to
the firm


2-12
The General Environment
Factors external to an industry, usually beyond a
firms control
Demographic
Sociocultural
Legal/Political

Technological
Economic
Global
2-13
Demographic Segment
Aging population
Rising or declining affluence
Changes in ethnic composition
Geographic distribution of population
Greater disparities in income levels
2-14
Sociocultural Segment
More women in the workforce
Dual-income families
Increase in temporary workers
Greater concern for healthy diets and physical
fitness
Greater interest in the environment
Postponement of having children
2-15
Political/Legal Segment
Tort reform
Americans with Disabilities Act (ADA)
Repeal of Glass-Steagall Act in 1999
Deregulation of utility and other industries
Increases in federally mandated minimum
wages
Taxation at local, state, federal levels
Legislation on corporate governance reforms
(Sarbanes-Oxley Act)
2-16
Technological Segment
Genetic engineering
Emergence of Internet technology
Computer-aided design/computer-aided
manufacturing systems (CAD/CAM)
Wireless communication
Nanotechnology
2-17
Economic Segment
Interest rates
Unemployment
Consumer Price index
Trends in GDP
Changes in stock market valuations
2-18
Global Segment
Increasing global trade
Currency exchange rates
Emergence of the Indian and Chinese
economies
Trade agreements (NAFTA, EU, ASEAN)
Creation of WTO (decreasing tariffs/free trade in
services)
2-19
The Competitive Environment
Competitive environment factors that
pertain to an industry and affect a firms
strategies
Competitors, customers, and suppliers
2-20
Porters Five Forces Model
of Industry Competition
2-21
The Threat of New Entrants
Profits of established firms in the industry
may be eroded by new competitors
Sources of entry barriers
Economies of scale
Product differentiation
Capital requirements
Switching costs
Access to distribution channels
Cost disadvantages independent of scale
2-22
QUESTION
If you are considering opening a new pizza
restaurant in your community, what would be the
threat of new entrants? How would you evaluate
Porters other forces for this industry? Explain.
2-23
The Bargaining Power of Buyers
Buyers threaten an industry by:
Forcing down prices
Bargaining for higher quality or more services
Playing competitors against each other
2-24
The Bargaining Power of Buyers
A buyer group is powerful when
It is concentrated or purchases large volumes
relative to seller sales
The products it purchases from the industry are
standard or undifferentiated
The buyer faces few switching costs
It earns low profits
The buyers pose a credible threat of backward
integration
The industrys product is unimportant to the
quality of the buyers products or services
2-25
The Bargaining Power of Suppliers
Suppliers can exert power by threatening
to raise prices or reduce the quality of
purchased goods and services
2-26
The Bargaining Power of Suppliers
A supplier group will be powerful when
The supplier group is dominated by a few
companies and is more concentrated than
the industry it sells to
The supplier group is not obliged to contend
with substitute products for sale to the
industry
The industry is not an important customer of
the supplier group

2-27
The Bargaining Power of Suppliers
A supplier group will be powerful when (cont.)
The suppliers product is an important input
to the buyers business
The supplier groups products are
differentiated or it has built up switching costs
for the buyer
The supplier group poses a credible threat of
forward integration
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The Threat of Substitute
Products and Services
Substitutes limit the potential returns of an
industry
Ceiling on the prices that firms in that
industry can profitably charge
Price/performance ratio
2-29
The Intensity of Rivalry among
Competitors in an Industry
Price competition
Advertising battles
Product introductions
Increased customer service or warranties
2-30
The Intensity of Rivalry among
Competitors in an Industry
Interacting factors lead to intense rivalry

Numerous or equally
balanced competitors
Slow industry growth
High fixed or shortage
costs


Lack of differentiation or
switching costs
Capacity augmented in
large increments
High exit barriers
2-31
How the Internet and Digital Technologies
Influences Industry
2-32
Using Industry Analysis: A Few Caveats
Managers must not always avoid low profit
industries
Can still yield high returns for players with sound
strategies
Implicitly assumes a zero-sum game,
determining how a firm can enhance its position
relative to the forces
Five Forces analysis is essentially a static
analysis
2-33
Using Industry Analysis: A Few Caveats
(cont.)
Good industry analysis looks rigorously at the
structural underpinnings of profitability.
A first step is to understand the time horizon
The point of industry analysis is not to declare
the industry attractive or unattractive but to
understand the underpinnings of competition
and the root causes of profitability.
2-34
The Value Net
2-35
Strategic Groups within Industries
Two unassailable assumptions in industry
analysis
No two firms are totally different
No two firms are exactly the same
Strategic groups
Cluster of firms that share similar strategies
Breadth of product and geographic scope
Price/quality
Degree of vertical integration
Type of distribution system
2-36
Strategic Groups within Industries
Value of strategic groups as an analytical tool
Identify barriers to mobility that protect a group from
attacks by other groups
Identify groups whose competitive position may be
marginal or tenuous
Chart the future direction of firms strategies
Thinking through the implications of each industry
trend for the strategic group as a whole
2-37