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BUSS498Ch3.pptxLearning Objectives
LO 3-1 Generate a PESTEL analysis to evaluate the impact of external factors on the firm.
LO 3-2 Differentiate the roles of firm effects and industry effects in determining firm performance.
LO 3-3 Apply Porter’s five competitive forces to explain the profit potential of different industries.
LO 3-4 Explain how competitive industry structure shapes rivalry among competitors.
LO 3-5 Describe the strategic role of complements in creating positive-sum co-opetition.
LO 3-6 Explain the five choices required for market entry.
LO 3-7 Appraise the role of industry dynamics and industry convergence in shaping the firm’s external environment.
LO 3-8 Generate a strategic group model to reveal performance differences between clusters of firms in the same industry.
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The Firm Within Its External Environment
Exhibit 3.1
General Environment (managers have little direct influence)
General Environment
Task Environment
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This image represents each of these environmental layers in detail, moving from a firm’s general environment to its task environment.
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Drivers of Superior Firm Performance
Exhibit 3.2
INDUSTRY EFFECTS: For example, barriers to entry
FIRM EFFECTS: Managerial actions
OTHER EFFECTS:
Business Cycle
Unexplained variance
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Although a firm’s industry is not quite as important as the firm’s strategy within its industry, they jointly determine roughly 75 percent of overall firm performance. The remaining 25 percent relates partly to business cycles and other effects.
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Political Factors
Processes & actions of government bodies
Can be shaped through:
Lobbying
Public Relations
Contributions
Litigation
Political and legal forces are closely related.
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For example, hotel chains and resort owners have challenged Airbnb in courts and lobbied local governments, some of which passed regulations to limit or prohibit short-term rentals. Local residents in New York, San Francisco, Berlin, Paris, and many other cities are also pressuring local governments to enact more aggressive rules banning short-term rentals because they argue that companies such as Airbnb contribute to a shortage of affordable housing by turning entire apartment complexes into hotels or transforming quiet family neighborhoods into all-night, every-night party hot spots.
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Economic Factors
Largely macro-economic
Economy-wide phenomena
Examples include:
Growth rates
Levels of employment
Interest rates
Price stability
Currency exchange rates
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Occasionally, boom periods can overheat and lead to speculative asset bubbles. In the early 2000s, the United States experienced an asset bubble in real estate.4 Easy credit, made possible by the availability of subprime mortgages and other financial innovations, fueled an unprecedented demand in housing. Real estate, rather than stocks, became the investment vehicle of choice for many Americans, propelled by the common belief that house prices could only go up. When the housing bubble burst, the deep economic recession of 2008–2009 began, impacting in some way nearly all businesses in the United States and worldwide.
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Sociocultural Factors
Society’s cultures, norms, and values
Are constantly in flux
Differ across groups
Demographic trends
Population characteristics
Age, gender, family size, ethnicity, sexual orientation, religion, and socioeconomic class
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In recent years, for example, a growing number of U.S. consumers have become more health-conscious about what they eat. This trend led to a boom for businesses such as Chipotle, Subway, and Whole Foods. At the same time, traditional fast-food companies McDonald’s and Burger King, along with grocery chains such as Albertsons and Kroger, have all had to scramble to provide healthier choices in their product offerings.
The most recent U.S. census revealed that 55 million Americans (16.4 percent of the total population) are Hispanic. It is now the largest ethnic group in the United States and growing fast. On average, Hispanics are also younger and their incomes are climbing quickly. This trend is not lost on companies trying to benefit from this opportunity. For example, MundoFox and ESPN Deportes (specializing in soccer) have joined Univision and NBC’s Telemundo in the Spanish-language television market. In the United States, Univision is now the fifth most popular network overall, just behind the four major English-language networks (ABC, NBC, CBS, and Fox). Likewise, advertisers are pouring dollars into the Spanish-language networks to promote their products and services.
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Technological Factors
Application of knowledge
New processes and products
Innovations in process technology:
Lean manufacturing and Six Sigma quality
Innovations in product technology:
Smartphones and wearable devices
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As discussed in the Chapter Case, Airbnb launched a radical process innovation of offering and renting rooms based on a business model leveraging the sharing economy. If one thing seems certain, technological progress is relentless and seems to be picking up speed.
Strategy Highlight 3.1 details how BlackBerry fell victim by not paying sufficient attention to the PESTEL factors.
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Ecological Factors
Broad environmental issues:
Natural environment
Global warming
Sustainable economic growth
Can provide business opportunities
Tesla cars have zero emissions
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Negative examples come readily to mind, as many business organizations have contributed to the pollution of air, water, and land, as well as depletion of the world’s natural resources. BP’s infamous oil spill in the Gulf of Mexico destroyed fauna and flora along the U.S. shoreline from Texas to Florida. This disaster led to a decrease in fish and wildlife populations, triggered a decline in the fishery and tourism industries, and threatened the livelihood of thousands of people. It also cost BP more than $40 billion and one-half of its market value (see Strategy Highlight 2.2).
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Legal Factors
Official outcomes of political processes:
Laws
Mandates
Regulations
Court decisions
Many industries have been deregulated:
Airlines, telecom, energy, and trucking
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Consider how several European countries and the European Union (EU) apply political and legal pressure on U.S. tech companies. European targets include Apple, Amazon, Facebook, Google, and Microsoft—the five largest U.S. tech companies—but also startups such as Uber, the taxi-hailing mobile app. Europe’s policy makers seek to retain control over important industries ranging from transportation to the internet to ensure that profits earned in Europe by Silicon Valley firms are taxed locally. The EU parliament even proposed legislation to break up “digital monopolies” such as Google. This proposal would require Google to offer search services independently as a standalone company from its other online services.
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Porter’s Five Forces Model
Exhibit 3.3
Competition viewed broadly to not only include direct competitors but potential new entrants, substitutes, suppliers, and buyers
Industry’s long-term profit potential determined by the above five factors
Demand higher price
Demand lower price
Brings new capacity
Better price-performance trade-off
Airline industry
You & me, Travel website
Aircraft manufacturer, pilots, mechanics
Train, Video-conferencing
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Porter derived two key insights that form the basis of his seminal five forces model:
1. Rather than defining competition narrowly as the firm’s closest competitors to explain and predict a firm’s performance, competition must be viewed more broadly, to also encompass the other forces in an industry: buyers, suppliers, potential new entry of other firms, and the threat of substitutes.
2. The profit potential of an industry is neither random nor entirely determined by industry-specific factors. Rather, it is a function of the five forces that shape competition: threat of entry, power of suppliers, power of buyers, threat of substitutes, and rivalry among existing firms.
As a rule of thumb, the stronger the five forces, the lower the industry’s profit potential—making the industry less attractive for competitors. The reverse is also true: the weaker the five forces, the greater the industry’s profit potential—making the industry more attractive.
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Threat of Entry is high when:
Minimum efficient scale low
Network effects not present
Capital requirements low
Incumbents do not possess SIZE-INDEPENDENT advantages such as brand loyalty, proprietary technology, access to [raw materials, distribution channels, geographical location], cumulative learning and experience effects, etc.
Customer switching costs low
Restrictive government regulations non-existent
Incumbents will not or cannot retaliate
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The threat of entry is high when:
✓The minimum efficient scale to compete in an industry is low.
✓Network effects are not present.
✓Customer switching costs are low.
✓Capital requirements are low.
✓Incumbents do not possess:
Brand loyalty.
Proprietary technology.
Preferential access to raw materials.
Preferential access to distribution channels.
Favorable geographic locations.
Cumulative learning and experience effects.
✓Restrictive government regulations do not exist.
✓New entrants expect that incumbents will not or cannot retaliate.
To benefit from economies of scale, Tesla is introducing new models, helping it move away from small-scale and costly production of niche vehicles to larger production runs of cars with a stronger mass-market appeal.
Network effects: For example, Facebook, with over 1.2 billion active users worldwide, enjoys tremendous network effects, making it difficult for more recent entrants such as Google Plus to compete effectively.
Switching costs - For example, a firm that has used enterprise resource planning (ERP) software from SAP for many years will incur significant switching costs when implementing a new ERP system from Oracle
Capital requirements: Tesla Motors made a sizable capital investment of roughly $150 million when it purchased the Fremont, California, manufacturing plant from Toyota and upgraded it with a highly automated production process, using robots to produce cars of the highest quality at large scale.
Advantages independent of size – Tesla’s lithium-ion batteries are not only the most expensive and critical parts of an all-electric vehicle, but they are also in short supply. Tesla’s new battery “gigafactory” will afford it independence from the few worldwide suppliers, such as Panasonic of Japan, and also likely bestow an absolute cost advantage.
Government policy - India did not allow foreign retailers such as Walmart or IKEA to own stores and compete with domestic companies in order to protect the country’s millions of small vendors and wholesalers. China frequently requires foreign companies to enter joint ventures with domestic ones and to share technology.
Threat of retaliation - For example, in the southeastern United States, TV cable company Comcast has entered the market for residential and commercial telephone services and internet connectivity (as an ISP, internet service provider), emerging as a direct competitor for AT&T. Comcast also acquired NBC Universal, combining delivery and content. AT&T responded to Comcast’s threat by introducing U-verse, a product combining high-speed internet access with cable TV and telephone service, all provided over its fast fiber-optic network.
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Threat of Substitutes is high when:
Substitutes have better price-performance trade-off
Buyer’s switching cost is low
Substitutes typically come from outside the given industry (video-conferencing for airline industry)
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The threat of substitutes is high when:
✓The substitute offers an attractive price-performance trade-off.
✓The buyer’s cost of switching to the substitute is low.
Examples: many software products are substitutes to professional services, at least at the lower end. Tax preparation software such as Intuit’s TurboTax is a substitute for professional services offered by H&R Block and others. LegalZoom, an online legal documentation service, is a threat to professional law firms. Other examples of substitutes are energy drinks versus coffee, videoconferencing versus business travel, e-mail versus express mail, gasoline versus biofuel, and wireless telephone services versus Voice over Internet Protocol (VoIP), offered by Skype or Vonage.
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Bargaining Power of Suppliers Is High When:
1) Concentrated (or limited) supplier industry
2) Suppliers not dependent on industry for majority revenue
3) Incumbent firms face supplier switching costs
Supplier Industry
Industry X buys 90%
Industry Y buys remaining 10%
Supplier X
Supplier Y
Incumbent firm
4) Suppliers offer differentiated products
5) There are no supplier substitutes
6) Suppliers can forward-integrate into the industry
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Bargaining Power of Buyers Is High When:
1) There are a few buyers & each buyer purchases large quantities
2) The industry’s products are standardized or undifferentiated commodities
3) Buyers face low or no switching costs
4) Buyers can backwardly integrate into the industry
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Rivalry Among Competitors
Intensity of rivalry determined by (covered next):
Industry competitive structure
Industry growth
Strategic commitments
Exit barriers
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1) Exhibit 3.4 Industry Competitive Structures
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2) Industry Growth
Affects intensity of rivalry among competitors
During periods of high growth:
Consumer demand rises
Price competition among firms decreases
They focus on capturing new customers
They are not focused on taking profitability away from each other
During periods of negative growth:
Rivalry is fierce
Rivals can only gain at the expense of one another
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3) Strategic Commitments
Affects intensity of rivalry among competitors
Firm actions that are:
Costly
Long-term oriented
Difficult to reverse
Example: Airline industry
Hub and spoke model requires significant upfront fixed costs and investments
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4) Exit Barriers
Affects intensity of rivalry among competitors
Obstacles that determine how easily a firm can leave that industry
Examples:
Contractual obligations
Emotional attachments
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A Sixth Force: Complements and Co-Opetition
Complementary product adds value when used with the original product
Increases demand for the original product
Should complements be included as the sixth force?
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For example, in the smartphone industry, Google complements Samsung. The Korean high-tech company’s smartphones are more valuable when they come with Google’s Android system installed. At the same time, Google and Samsung are increasingly becoming competitors. With Google’s acquisition of Motorola Mobility, the online search company launched its own line of smartphones and Chromebooks.
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Industry Dynamics
Five forces model only a snapshot in time
Industries aren’t stable over time
Consolidation: Mergers and acquisitions consolidate an industry
Convergence: Unrelated industries satisfy the same need
Repeat analysis over time
How are the drivers of individual forces going to change in the future
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Exhibit 3.7 Strategic Groups and Mobility Barriers in U.S. Domestic Airline Industry
2) Choose two key dimensions: Not highly correlated
3) Graph the firms in the strategic group; firm market share indicated by the bubble size.
Group of firms pursuing similar strategies in an industry
Mobility Barriers
Rivalry strongest between firms in the same strategic group
External environment and five forces affect strategic groups differently
Some strategic groups more profitable
1) Identify important strategic dimensions
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Entry Choices
Exhibit 3.6
Source: Based on and adapted from Zachary M.A., Gianiodis P.T., Tyge Payne G., and G.D. Markman (2014), Entry timing: enduring lessons and future directions, Journal of Management, 41: 1409; and Bryce D.J. and J.H. Dyer (2007), Strategies to crack well-guarded markets, Harvard Business Review, May: 84-92.
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This represents an integrative model that can guide the entry choices firms make. Rather than considering firm entry as a discrete event (i.e., simple yes or no decision), or a discrete event composed of five parts, this model suggests that the entry choices firms make constitute a strategic process unfolding over time.
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