Analyzing a Company’s External Environment

2. Chapter 2 Analyzing a Company’s External Environment Screen graphics created by: Jana F. Kuzmicki, PhD Troy University - Florida and Western Region

3. Quotes . . . “Analysis is the critical startingpoint of strategic thinking.” Laszlo Birinyi Kenichi Ohmae “Things are always different--the art is figuring out which differences matter.”

4. Chapter Outline • The Strategically Relevant Components of a Company’sExternal Environment • Thinking Strategically About a Company’s Industry and Competitive Environment • The Industry’s Strategy-Shaping Business and Economic Features • The Kinds of Competitive Forces Industry Members Are Facing • The Forces that Are Driving Industry Change and What Impact Will They Have • The Market Positions Rivals Occupy—Who Is Strongly Positioned and Who Is Not? • The Strategic Moves Rivals Are Likely to Make Next • The Key Factors for Future Competitive Success • Whether the Outlook for the Industry Presents an Attractive Opportunity

5. What Is Situation Analysis? • Two situational considerations • Company’s external ormacro-environment • Industry and competitive conditions • Company’s internal ormicro-environment • Its competencies, capabilities,resource strengths and weaknesses • Its competitiveness vis-à-vis rivals

6. Fig. 2.1: From Thinking Strategicallyto Choosing a Strategy

7. Fig. 2.2: The Components of aCompany’s Macroenvironment

8. Industry’s business and economic traits Nature and strength of competitive forces Drivers of change in the industry Industry attractiveness Key success factors Rivals’ positions and likely moves The Seven Areas of the Industry and Competitive Environment to Explore

9. Identifying the Industry’s Strategy-Shaping Business and Economic Features • Market size and growth rate • Buyer needs and requirements • Number of rivals • Scope of competitive rivalry • Degree of product differentiation • Product innovation • Production capacity • Pace of technological change • Vertical integration • Economies of scale • Learning and experience curve effects

10. Learning/Experience Curve Effects • Learning/experience effectsexist when a company’s unit costs decline as its cumulative production volume increases because of • Accumulating production know-how • Growing mastery of the technology • The bigger the learning or experience curve effect, the bigger the cost advantage of the firm with the largest cumulative production volume

11. Diagnosing the Strength of Competitive Forces Industry Members Are Facing • Objectives are to identify • Main sources of competitive forces • Strength of these forces • Key analytical tool • Five Forces Modelof Competition

12. Fig. 2.3: The Five-Forces Model of Competition

13. How to Analyze the Five Competitive Forces Step 1:Identify the specific competitivepressures associated witheach of the five forces Step 2:Evaluate the strength of eachcompetitive force -- fierce, strong,moderate to normal, or weak? Step 3:Determine whether the collective strengthof the five competitive forces isconducive to earning attractive profits

14. Rivalry Among Competing Sellers • Usually the strongest of the five forces • Key factor in determining strength of rivalry • How aggressively are rivals using various weapons of competition to improve their market positions and performance? • Competitive rivalry is a combativecontest involving • Offensive actions • Defensive countermoves

15. Fig. 2.4: Weapons for Competing andFactors Affecting Strength of Rivalry

16. Vigorous price competition More or different performance features Better product performance Higher quality Stronger brand image and appeal Wider selection of models and styles Bigger/better dealer network Low interest rate financing Higher levels of advertising Stronger product innovation capabilities Better customer service Stronger capabilities to provide buyers with custom-made products What Are the TypicalWeapons for Competing ?

17. What Causes Rivalry to be Stronger ? • Competitors engage in frequent and aggressive launches of new offensives to gain sales and market share • Slow market growth • Number of rivals increases and rivals are ofequal size and competitive capability • Buyer costs to switch brands are low • Industry conditions tempt rivals to use price cuts or other competitive weapons to boost volume • A successful strategic move carries a big payoff • Diversity of rivals increases in terms of visions, objectives, strategies, resources, and countries of origin • Strong rivals outside the industry acquire weak firms in the industry and use their resources to transform the new firms into major market contenders

18. What Causes Rivalry to Be Weaker ? • Industry rivals move only infrequently or in a non-aggressive manner to draw sales from rivals • Rapid market growth • Products of rivals are strongly differentiatedand customer loyalty is high • Buyer costs to switch brands are high • There are fewer than 5 rivals or there are numerous rivals so any one firm’s actions has minimal impact on rivals’ business

19. Is the Entry of AdditionalCompetitors a Serious Threat ? • Seriousness of threat depends on • Size of pool of entry candidatesand available resources • Barriers to entry • Reaction of existing firms • Evaluating threat of entry involves assessing • How formidable entry barriers are for each type of potential entrant and • Attractiveness of growth and profit prospects

20. Fig. 2.5: Factors Affecting Strength of Threat of Entry

21. Common Barriers to Entry • Sizable economies of scale • Cost and resource disadvantages independent of size • Brand preferences and customer loyalty • Capital requirements and/or otherspecialized resource requirements • Access to distribution channels • Regulatory policies • Tariffs and international trade restrictions

22. When Is the Threat of Entry Stronger ? • There’s a sizable pool of entry candidates • Entry barriers are low • Industry growth is rapid and profit potential is high • Incumbents are unwilling or unable to contest a newcomer’s entry efforts • When existing industry members have a strong incentive to expand into new geographic areas or new product segments where they currently do not have a market presence

23. When Is the Threat of Entry Weaker ? • There’s only a small pool of entry candidates • Entry barriers are high • Existing competitors are struggling to earn good profits • Industry’s outlook is risky • Industry growth is slow or stagnant

24. The Strength of CompetitivePressures from Substitute Products Substitutesmatter when customers are attracted to the products of firms in other industries Concept Examples • Eyeglasses and contact lensvs. laser surgery • Sugar vs. artificial sweeteners • Newspapers vs. TV vs. Internet

25. How to Tell Whether SubstituteProducts Are a Strong Force • Whether substitutes arereadily available and attractively priced • Whether buyers view substitutes as being comparable or better • How much it costs end users to switch to substitutes

26. Fig. 2.6: Factors Affecting Competition From Substitute Products

27. When Is the Competition From Substitutes Stronger ? • There are many good substitutes that are readily available • The lower the price of substitutes • The higher the quality and performance of substitutes • The lower the user’s switching costs

28. Competitive Pressures From Suppliersand Supplier-Seller Collaboration • Whether supplier-seller relationships represent aweak or strong competitive force depends on • Whether suppliers can exercisesufficient bargaining leverage toinfluence terms of supply in their favor • Nature and extent of supplier-sellercollaboration in the industry

29. Fig. 2.7: Factors Affecting the Bargaining Power of Suppliers

30. When Is the Bargaining Power of Suppliers Stronger ? • Industry members incur high costs in switchingtheir purchases to alternative suppliers • Needed inputs are in short supply • Supplier provides a differentiated inputthat enhances the quality of performanceof sellers’ products or is a valuable partof sellers’ production process • There are only a few suppliers of a specific input • Some suppliers threaten to integrate forward

31. When Is the Bargaining Power of Suppliers Weaker ? • Item being supplied is a commodity • Seller switching costs to alternative suppliers are low • Good substitutes exist or new ones emerge • Surge in availability of supplies occurs • Industry members account for a bigfraction of suppliers’ total sales • Industry members threaten to integrate backward • Seller collaboration with selected suppliers provides attractive win-win opportunities

32. Competitive Pressures Can Be Createdby Effective Seller-Supplier Collaboration • Forging strategic partnershipswith select suppliers to • Reduce inventory and logistics costs • Speed availability of next-generationcomponents • Enhance quality of parts being supplied • Squeeze out cost savings for both parties can lower costs or enhance product differentiation • Utilizing supply chain partnerships to lower costs and/or enhance product differentiation puts rivals under increased competitive pressure • Sellers who do a significantly better job than rivals of managing supply chain partnerships may even achieve competitive advantage

33. Competitive Pressures From Buyersand Seller-Buyer Collaboration • Whether seller-buyer relationships represent aweak or strong competitive force depends on • Whether buyers have sufficient bargainingleverage to influence terms of sale in their favor • Extent and competitive importance ofseller-buyer strategic partnershipsin the industry

34. Fig. 2.8: Factors Affecting the Bargaining Power of Buyers

35. When Is the BargainingPower of Buyers Stronger ? • Buyer switching costs to competing brands orsubstitutes are low • Buyers are large and can demand concessions • Large-volume purchases by buyers are important to sellers • Buyer demand is weak or declining • Only a few buyers exists • Identity of buyer adds prestigeto seller’s list of customers • Quantity and quality of informationavailable to buyers improves • Buyers have ability to postpone purchases until later • Buyers threaten to integrate backward

36. When Is the BargainingPower of Buyers Weaker? • Buyers purchase item infrequently or in small quantities • Buyer switching costs to competing brands are high • Surge in buyer demand creates a “sellers’ market” • Seller’s brand reputation is important to buyer • A specific seller’s product delivers qualityor performance that is very important to buyer • Buyer collaboration with selected sellers provides attractive win-win opportunities

37. Competitive Pressures Can Be Createdby Effective Seller-Buyer Collaboration • Collaborative partnerships may result in mutual benefits due to • Just-in-time deliveries • Electronic order processing • Electronic invoice payments • Data sharing • When a company delivers added value to customersvia its collaborative efforts, rivals come under increased competitive pressure to provide equivalent benefits or risk loss of customer patronage • Competitive advantage potential may accrue to sellers who do a better job than rivals of managing partnerships with customers

38. Strategic Implications of theFive Competitive Forces • Competitive environment is unattractive fromthe standpoint of earning good profits when • Rivalry is vigorous • Entry barriers are lowand entry is likely • Competition from substitutes is strong • Suppliers and customers haveconsiderable bargaining power

39. Strategic Implications of theFive Competitive Forces • An industry’s competitive environment is idealfrom a profit-making standpoint when • Rivalry is moderate • Entry barriers are highand no firm is likely to enter • Good substitutesdo not exist • Suppliers and customers arein a weak bargaining position

40. Coping With theFive Competitive Forces • Objective is to crafta strategyto • Insulate firm fromcompetitive pressures • Initiate actions to producesustainable competitive advantage • Allow firm to be the industry’s “mover and shaker” with the “most powerful” strategy that defines thebusiness model for the industry and that may shape the “rules of competition and market engagement”

41. The Factors Driving IndustryChange and Their Anticipated Impact • Industries change because forcesare driving industry participantsto alter their actions • Driving forces are themajor underlying causesof changing industry andcompetitive conditions

42. Analyzing Driving Forces • Identify forces likely to exert greatestinfluence over next 1 - 3 years • Usuallyno more than 3 - 4 factorsqualify as real drivers of change • Assess impact • Are the driving forces causing demand for product to increase or decrease? • Are the driving forces acting to make competitionmore or less intense? • Will the driving forces lead to higher or lower industry profitability?

44. Diagnosing the Market Positions of Rivals:Who Is Strongly Positioned and Who Is Not? • One technique to revealdifferent competitive positionsof industry rivals isstrategic group mapping • A strategic group is acluster of firms in an industrywith similar competitiveapproaches and market positions

45. Similarly Positioned CompaniesForm a “Strategic Group” • Firms are said to be in the same strategic group when they have several competitive characteristics in common • Have comparable product line breadth • Sell in same price/quality range • Emphasize same distribution channels • Use same product attributes to appealto similar types of buyers • Use identical technological approaches • Offer buyers similar services • Cover same geographic areas

46. Procedure for Constructing a Strategic Group Map STEP 1: Identify at least two competitive characteristics that differentiate firms in an industry from one another STEP 2: Plot firms on a two-variable map using pairs of these differentiating characteristics STEP 3: Assign firms that fall in about the same strategy space to same strategic group STEP 4: Draw circles around each group, making circles proportional to size of group’s respective share of total industry sales

47. Example: Strategic Group Map of Selected Retail Chains

48. Guidelines: Strategic Group Maps • Variables selected as axes should not be highly correlated • Variables chosen as axes should expose big differences in how rivals compete • Variables do not have to be either quantitative or continuous • Drawing sizes of circles proportional to combined sales of firms in each strategic group allows map to reflect relative sizes of each strategic group • If more than two competitive variables can be used as differentiating characteristics, several maps can be drawn— there’s not always one single best strategic group map

49. What Can Be Learned from Strategic Group Maps • Driving forces and competitive pressures oftenfavor some strategic groups and hurt others • Profit potential of different strategic groups often varies due to strengths and weaknesses in each group’s market position • The closer strategic groups are to each other on the map, the strongerthe competitive rivalry between themtends to be

50. Predicting the Next StrategicMoves Rivals Are Likely to Make • A firm’s best strategic moves are affected by • Current strategies of competitors • Future actions of competitors • Profiling key rivals involves gatheringcompetitive intelligence about • Current strategies • Most recent actions and public announcements • Resource strengths and weaknesses • Efforts being made to improve their situation • Thinking and leadership styles of top executives