McGraw-Hill/Irwin

Copyright 2010 by The McGraw-Hill Companies, Inc. All rights reserved.

Chapter 3: Evaluating a
Companys External
Environment
Screen graphics created by:
Jana F. Kuzmicki, Ph.D.
Troy University
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Chapter Learning Objectives
1. To gain command of the basic concepts and
analytical tools widely used to diagnose a
companys industry and competitive conditions.
2. To become adept in recognizing the factors that
cause competition in an industry to be fierce, more
or less normal, or relatively weak.
3. To learn how to determine whether an industrys
outlook presents a company with sufficiently
attractive opportunities for growth and profitability.
4. To understand why in-depth evaluation of specific
industry and competitive conditions is a prerequisite
to crafting a strategy well matched to a companys
situation.
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Chapter Roadmap
The Strategically Relevant Components of a
Companys External Environment
Thinking Strategically About a Companys Industry
and Competitive Environment
Question 1: What Are the Industrys Dominant Economic
Features?
Question 2: How Strong Are Competitive Forces?
Question 3: What Forces Are Driving Industry Change and
What Impacts Will They Have?
Question 4: What Market Positions Do Rivals Occupy
Who Is Strongly Positioned and Who Is Not?
Question 5: What Strategic Moves Are Rivals Likely to
Make Next?
Question 6: What Are the Key Factors for Future
Competitive Success?
Question 7: Does the Outlook for the Industry Offer the
Company a Good Opportunity to Earn Attractive Profits?
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Diagnosing a companys situation has
two facets
Assessing the companys external or macro-
environment
Industry and competitive conditions
Forces acting to reshape this environment
Assessing the companys internal or
micro-environment
Market position and competitiveness
Competencies, capabilities,
resource strengths and
weaknesses, and competitiveness
Understanding the Factors that
Determine a Companys Situation
Figure 3.1: From Thinking Strategically About the
Companys Situation to Choosing a Strategy
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Figure 3.2: The Components of a Companys Macro-environment
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Thinking Strategically About a
Companys Macro-environment
A companys macro-environment includes all
relevant factors and influences outside its
boundaries
Diagnosing a companys external situation involves
assessing strategically important factors that have a
bearing on the decisions a companys makes about
its
Direction
Objectives
Strategy
Business model
Requires that company managers scan
the external environment to
Identify potentially important external developments
Assess their impact and influence
Adapt a companys direction and strategy as needed
Key Questions Regarding the
Industry and Competitive Environment
What are the
industrys
dominant
economic traits?
How strong are
competitive
forces?
What forces
are driving
change in the
industry?
What market
positions do
rivals occupy?
What moves will
they make next?
What are the
key factors for
competitive
success?
How attractive
is the industry
from a profit
perspective?
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Market size and growth rate
Number of rivals
Scope of competitive rivalry
Buyer needs and requirements
Degree of product differentiation
Product innovation
Supply/demand conditions
Pace of technological change
Vertical integration
Economies of scale
Learning and experience curve effects
Question 1: What are the Industrys
Dominant Economic Traits?
Table 3.1: What to Consider in Identifying
an Industrys Dominant Economic Features
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Learning/Experience Effects
Learning/experience effects exist when a
companys 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
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Question 2: How Strong Are
Competitive Forces?
Objectives are to identify
Main sources of competitive forces
Strength of these forces
Key analytical tool
Five Forces Model
of Competition
Figure 3.3: The Five Forces Model of Competition
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Analyzing the Five Competitive
Forces: How to Do It
Step 1: Identify the specific competitive
pressures associated with each of
the five forces
Step 2: Evaluate the strength of each
competitive force fierce, strong,
moderate to normal, or weak?
Step 3: Determine whether the collective
strength of the five competitive forces
is conducive to earning attractive
profits
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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 combative
contest involving
Offensive actions
Defensive countermoves
Competitive Pressures
Among Rival Sellers
Figure 3.4: Weapons for Competing and Factors
Affecting Strength of Rivalry
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Seriousness of threat depends on
Size of pool of entry candidates
and 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
Competitive Pressures
Associated With Potential Entry
Figure 3.5: Factors Affecting Threat of Entry
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Sizable economies of scale
Cost and resource disadvantages independent
of size
Brand preferences and customer loyalty
Capital requirements and/or other
specialized resource requirements
Access to distribution channels
Regulatory policies
Tariffs and international trade restrictions
Ability of industry incumbents to launch
vigorous initiatives to block a newcomers entry
Common Barriers to Entry
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Competitive Pressures from
Substitute Products

Substitutes matter when customers
are attracted to the products of
firms in other industries
Sugar vs. artificial sweeteners
Eyeglasses and contact lens
vs. laser surgery
Newspapers vs. TV vs. Internet
Concept
Examples
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How to Tell Whether Substitute
Products Are a Strong Force
Whether substitutes are readily
available and attractively priced
Whether buyers view substitutes
as being comparable or better
How much it costs end users
to switch to substitutes
Figure 3.6: Factors Affecting Competition From Substitute Products
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Whether supplier-seller relationships
represent a weak or strong competitive
force depends on
Whether suppliers can exercise
sufficient bargaining leverage to
influence terms of supply in their favor
Nature and extent of supplier-seller
collaboration in the industry
Competitive Pressures From Suppliers
and Supplier-Seller Collaboration
Figure 3.7: Factors Affecting Bargaining Power of Suppliers
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Industry members often forge strategic
partnerships with select suppliers
to
Reduce inventory and logistics costs
Speed availability of
next-generation components
Enhance quality of parts being supplied
Squeeze out cost savings for both parties
Competitive advantage potential may accrue
to those industry members (sellers) doing the
best job of managing supply-chain relationships
Competitive Pressures: Collaboration
Between Sellers and Suppliers
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Whether the relationships between industry
members and buyers represent a weak or
strong competitive force depends on
Whether buyers have sufficient
bargaining leverage to influence
terms of sale in their favor
Extent and competitive importance of
strategic partnerships between certain industry
members and the buyers
Competitive Pressures From Buyers
and Seller-Buyer Collaboration
Figure 3.8: Factors Affecting Bargaining Power of Buyers
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Partnerships between industry members
and some/many of their customers can
impact competitive pressures
Collaboration may result in
mutual benefits regarding
Just-in-time deliveries
Order processing
Electronic invoice payments
Data sharing
Competitive advantage may accrue to
those industry members doing the best job
of partnering with their customers
Competitive Pressures: Collaboration
Between Sellers and Buyers
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Competitive environment is
unattractive from the standpoint
of earning good profits when
Rivalry is vigorous
Entry barriers are low
and entry is likely
Competition from
substitutes is strong
Suppliers and customers have
considerable bargaining power
Strategic Implications of
the Five Competitive Forces
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Competitive environment is ideal from
a profit-making standpoint when
Rivalry is moderate
Entry barriers are high
and no firm is likely to enter
Good substitutes
do not exist
Suppliers and customers are
in a weak bargaining position
Strategic Implications of
the Five Competitive Forces
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Objective is to craft a strategy to
Insulate firm from
competitive pressures
Initiate actions to produce
sustainable competitive advantage
Allow firm to be the industrys mover and
shaker with the most powerful strategy that
defines the business model for the industry
Coping With the
Five Competitive Forces
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Question 3: What Forces Are Driving Industry
Change and What Impacts Will They Have?
Industries change because forces
are driving industry participants
to alter their actions
Driving forces are the
major underlying causes
of changing industry and
competitive conditions
Where do driving forces originate?
Outer ring of macroenvironment
Inner ring of macroenvironment
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STEP 1: Identify forces likely to exert greatest
influence over next 1 - 3 years
Usually no more than 3 - 4 factors
qualify as real drivers of change
STEP 2: Assess impact
Are driving forces acting to cause market
demand for product to increase or decrease?
Are driving forces acting to make competition
more or less intense?
Will driving forces lead to higher or lower
industry profitability?
STEP 3: Determine what strategy changes are
needed to prepare for impacts of driving forces
Analyzing Driving Forces:
Three Key Steps
Table 3.2: The Most Common Driving Forces
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Question 4: What Market
Positions Do Rivals Occupy?
One technique to reveal different
competitive positions of industry rivals is
strategic group mapping
A strategic group is a cluster of firms in an
industry with similar competitive
approaches and market positions
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Firms in same strategic group
have two or more competitive
characteristics in common
Have comparable product line breadth
Sell in same price/quality range
Emphasize same distribution channels
Use same product attributes to appeal
to similar types of buyers
Use identical technological approaches
Offer buyers similar services
Cover same geographic areas
Strategic Group Mapping
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STEP 1: Identify 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 groups
respective share of total industry sales
Procedure for Constructing
a Strategic Group Map
Example: Strategic Group Map of Selected Automobile Manufacturers
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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 good competitive variables can
be used, several maps can be drawn
Guidelines: Strategic Group Maps
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Interpreting Strategic Group Maps
The closer strategic groups are
on the map, the stronger the cross-group
competitive rivalry tends to be
Not all positions on the map
are equally attractive
Driving forces and competitive pressures often
favor some strategic groups and hurt others
Profit potential of different strategic
groups varies due to strengths and
weaknesses in each groups market
position
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A firms best strategic moves
are affected by
Current strategies of competitors
Future actions of competitors
Profiling key rivals involves gathering
competitive 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
Question 5: What Strategic Moves
Are Rivals Likely to Make Next?
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Sizing up strategies and competitive
strengths and weaknesses of rivals
involves assessing
Which rival has the best strategy? Which
rivals appear to have weak strategies?
Which firms are poised to gain
market share, and which ones
seen destined to lose ground?
Which rivals are likely to rank among the
industry leaders five years from now? Do any
up-and-coming rivals have strategies and the
resources to overtake the current industry
leader?
Competitor Analysis
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Which rivals need to increase their unit sales
and market share? What strategies are rivals
most likely to pursue?
Which rivals have a strong incentive, along with
resources, to make major strategic changes?
Which rivals are good candidates to be
acquired? Which rivals have the resources to
acquire others?
Which rivals are likely to enter new geographic
markets?
Which rivals are likely to expand their product
offerings and enter new product segments?
Things to Consider in
Predicting Moves of Rivals
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Key Success Factors (KSFs) are competitive
factors and attributes that affect every industry
members ability to be competitively and financially
successful
KSFs are those particular attributes that are so
important that they spell the difference between
Profit and loss
Competitive success or failure
KSFs can relate to
Specific strategy elements
Product attributes
Resources
Competencies
Competitive capabilities
Market achievements
Question 6: What Are the Key
Factors for Competitive Success?
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The answers to 3 questions often help pinpoint
an industrys KSFs
On what basis do customers choose
between competing brands of sellers?
What resources and competitive capabilities does a
company need to have to be competitively
successful?
What shortcomings are likely to place a company at
a significant competitive disadvantage?
Rarely are there more than 5 - 6
factors that are truly key to the future financial
and competitive success of industry members
Identifying Industry Key Success Factors
Table 3.3: Common Types of Industry Key Success Factors
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Involves assessing whether the industry and
competitive environment presents a company with
an attractive or unattractive opportunity
for earning good profits
Factors to consider:
Industry growth potential
Whether competitive forces are growing stronger/weaker
Whether driving forces will favorable/unfavorably impact
industry profitability
Degree of risk and uncertainty in industrys future
Whether the industry confronts severe problems
Firms competitive position in industry vis--vis rivals
Firms potential to capitalize on industry opportunities or
the vulnerabilities of weaker rivals
Whether a firm has sufficient competitive strength to
defend against unattractive industry factors
Question 7: Does the Outlook for the
Industry Offer an Attractive Opportunity?
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Factors to Consider in
Assessing Industry Attractiveness
As a general proposition
If an industrys overall profit prospects are
above average, the industry environment is
basically attractive
If an industrys overall profit prospects are
below average, the industry environment is
basically unattractive
However
Attractiveness is relative, not absolute
Conclusions about attractiveness have
to be drawn from the perspective of a
particular company

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An industry is unlikely to be equally
attractive or unattractive to all industry
members
Industry environments attractive to strong
competitors may be unattractive to weak competitors
A favorably positioned company may survey an
industry environment and see opportunities that
weak competitors have little or no ability to
capture
Industry environments attractive to insiders may be
unattractive to potential entrants
Under certain circumstances, a firm uniquely well-
situated in an otherwise unattractive industry can
still earn good profits by taking sales and market
share away from weaker competitors
Factors to Consider in
Assessing Industry Attractiveness
Core Concept: Assessing
Industry Attractiveness
The degree to which an industry
is attractive or unattractive is not the
same for all industry participants
or potential entrants.
The opportunities an industry
presents depend partly on a
companys ability to capture them.
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