business management

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Lecture

External Analysis: The Macro and Industry Environments.

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Learning Outcomes

1. Identify the broad macro-environmental influences and the major drivers of change emanating from the external environment.

2. Understand how industry structure drives competition and determines the level of industry profitability.

3. Analyse industry attractiveness by applying the 5 forces model and consider how changes to the forces can affect future profitability.

4. Introduce the concept of strategic group analysis as a refinement to five-forces analysis.

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Strategic Position Analysis

 Strategic position considers the current position of the firm in the light of future changes in the external global environment and its internal resource capabilities.

 How to analyse an organisation’s position in the external, global environment

 How to analyse the firm’s internal resources, capabilities and core competencies

 We will address internal aspects next week.

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Strategic Position Analysis

Strengths Weaknesses

Opportunities Threats

External Environment

Internal Resources & Capabilities

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Spheres of External Analysis

Macro-Environment

Industry Environment

Competitors

Organisation

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External Environment Analysis O & T

Opportunity

A trend in the external environment which potentially has a positive impact on the organisation and, if exploited, will improve it’s performance.

Threat

A trend in the external environment which potentially has a negative impact on the organisation and, if not addressed, will hinder its performance.

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Building your external analysis: The Macro Environment

 Identify external trends –

which are the most important environmental forces affecting the organisation?

 Assess the impact of the trend on the industry and the firm (+ opportunity or - threat)

 Evaluate trend and impact to derive key drivers from the external environment - which forces are likely to have a significant influence on the organisation in the future?

 Build alternative scenarios from key drivers.

 Useful framework = PEST ANALYSIS

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• What are the most important PESTEL trends facing the organisation?

• Is a trend likely to be a business opportunity (+) or a harmful threat (-)?

• What is the impact of these trends on the strategy of the organisation?

• How will this opportunity or threat impact the organisation over the short, medium and long-term?

• How do we define the short, medium and long-term?

• How do we prioritise opportunities and threats?

• Should we react to or ignore certain opportunities or threats?

Key questions when analysing the macro-environment

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Building your external analysis: PEST Analysis

• The PESTEL framework categorises environmental factors into six key types:

Political Economic Social Technological

Ecological Legal

• PESTEL helps to provide a list of potentially important trends influencing strategy. It is important to assess the impact of each factor, leading to key drivers for change.

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• Political risk

• Government stability (democracy, authoritarian or totalitarian regimes)

• Political ideologies (collectivism versus individualism)

• Policy making (Keynes versus Hayek)

• Employment or taxation policies

• Foreign trade policies

• Economic integration versus disintegration (EU, NAFTA, ASEAN Brexit)

Political factors include

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• GDP growth and recessions

• Industry cycles

• Inflation

• Unemployment rates

• Interest rates

• Exchange rates

• Personal disposable income

• Differential growth rates around the world

Economic factors include

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• Lifestyle changes • Health • Demography • Income distribution • Green issues • Education • Consumerism • Changes in culture and fashion • Interactions with technology (e.g. mobile, social media, consumption patterns)

Social factors include

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Technological factors include:

New discoveries and technology developments include the internet, digital technology, nano-technology or the rise of new composite materials.

There are five primary indicators of innovative activity:

1. Research and development budgets. 2. Patenting activity. 3. Citation analysis. 4. New product announcements. 5. Media coverage.

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Ecological factors include:

“Green” or environmental issues, such as pollution, waste and climate change which result in environmental protection regulations, energy problems, global warming, waste disposal and recycling. Organisations need to consider ecological challenges such as:

1. Direct pollution obligations– minimising the production of pollutants; cleaning up and disposing of waste.

2. Product stewardship – managing ecological issues throughout the organisation’s entire value chain and the whole life cycle of the firm’s products.

3. Sustainable development – whether the product or service can be produced indefinitely into the future.

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Legal factors include:

• Differences in legal systems, e.g. common law (US/UK) versus civil law (Germany, Japan)

• Labour, environmental and consumer regulations

• Taxation and reporting requirements

• Rules on ownership

• Competition regulations

• Corporate governance regulations

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Building your Analysis

 Identify the PEST factors affecting the organisation and monitor changes.

 Forecast/project the trends into the future.

 Impact analysis - anticipate the impact of the trends on the strategy of the organisation and the expected timing of events.

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Political

Government stability

Monopoly policy

Employment/taxation

policy

Foreign Trade Policy

Government Policy

Economic

Inflation

Unemployment

Interest Rates

Exchange Rates

GDP levels

Disposable Income

Sociocultural Lifestyle Changes

Culture/Values

Demography

Green issues

Education

Health

Technological Govt Research Policy

Technology transfer

Patent or Product developments

Industry developments

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Potential Factors to Arise from PEST Analysis

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• Apply selectively – identify specific factors which impact on the industry, market and organisation in question.

• Identify factors which are important currently but also consider which will become more important in the next few years.

• Use data to support the points and analyse trends using up-to-date information.

• Identify opportunities and threats – the main point of the exercise.

Using the PESTEL framework

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From Macro to Industry Analysis

Competitive Environment

Suppliers Competitors Customers

• The macro-environment is difficult for the organisation to influence.

• The macro-environment directly affects the Industry Competitive Environment.

Economy (national/global)

Political/Legal

Technology

Social, Cultural,

Environment

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The five forces framework emphasises that competitive rivalry between firms is only one force of competition. To understand industry attractiveness, you must analyse five forces of competition.

• The bargaining power of buyers – demand side (prices)

• The bargaining power of suppliers – supply side (costs)

• The threat of new entrants

• The threat of substitutes

• The extent competitive rivalry between firms

These five forces of competition constitute an industry’s ‘structure’.

Porter’s five forces framework

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The five-forces framework

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Source: Adapted from Competitive Strategy: Techniques for Analyzing Industries and Competitors by Michael E. Porter, copyright © 1980, 1998 by The Free Press. All rights reserved.

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The Threat of Entry

How easy it is for new potential competitors to enter the industry depends on the height of the barriers to entry:

Sources of barriers to entry are one or more of:  Capital requirements  Economies of scale  Absolute cost advantage  Product differentiation  Access to channels of supply & distribution  Legal and regulatory barriers  Expected Retaliation

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Power of Buyers

Buyers are the organisation’s immediate customers, not necessarily the end users.

Buyer power is likely to be high when:

 A low concentration of buyers (few of them)

 Buyers have low switching costs (many substitute products available)

 When there is low product differentiation.

 When the buyer purchases a large portion of industry output (so they seek lower prices).

 When there is a threat of backwards vertical integration (could the buyers supply their own needs internally?)

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Power of Suppliers

Suppliers are those who supply what the organisations needs to produce the product or service.

Supplier power is likely to be high when:

• There’s a low concentration of suppliers (few of them).

• A supplier is a competitor.

• Suppliers are critical to the organisation’s success (e.g. product differentiation).

• There are high switching costs.

• When there is a threat of forwards vertical integration.

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Threat of Substitutes

Not to be confused with other competitor products, substitutes meet similar customer needs but are meet by players outside the industry.

The threat depends on:

• the buyers’ propensity to substitute

• the price-performance characteristics of substitutes.

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Degree of Competitive Rivalry

Competitive Rivalry tends to be more intense when:

 There are numerous competitors or a smaller number of equally balanced competitors

 Industry growth is slowing and entering maturity  There are high fixed costs to cover  Products have limited differentiation (approaching

commodity status) and low switching costs  There are high exit barriers.

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Industry Structure and Profitability

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Applying the Five Forces Model

 Forecast industry profitability (attractiveness) by identifying and evaluating the key forces influencing the future competitive environment, and their impact on profitability.

 Review strategies to improve industry profitability: - which key forces are lowering profitability? - which key forces can be changed in the future by individual

firm strategy, or in collaboration between existing or potential competitors?

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Strategic Group Analysis

Strategic Groups

A group of firms within an industry which compete on a similar basis and share similar characteristics – a subset of the industry’s 5 forces.

Examples of characteristics defining strategic groups are:

 Product range  Geographic coverage – markets, production.  Market segments  Distribution channels  Technology  Organisation size

Industry examples:

Car industry, Airlines, Supermarkets

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Strategic Groups in the Automobile Industry

Broad

PRODUCT RANGE

Narrow

National GEOGRAPHICAL SCOPE Global

NATIONALLY- FOCUSED, SMALL, SPECIALIST

PRODUCERS e.g. Morgan (U.K.)

NATIONALLY FOCUSED, INTERMEDIATE LINE

PRODUCERS e.g. Proton

REGIONALLY FOCUSED BROAD- LINE PRODUCERS

e.g. Fiat, PSA

PERFORMANCE CAR

PRODUCERS e.g., Porsche

LUXURY CAR MANUFACTURERS

e.g., Jaguar, Daimler- Benz, BMW

GLOBAL SUPPLIERS OF NARROW

MODEL RANGE e.g., Volvo, Subaru, Saab

GLOBAL, BROAD-LINE PRODUCERS e.g.GM,

Ford, Toyota, Nissan, VW

Grant, R. M.,Contemporary Strategy Analysis, 5 th Ed, 2005 30

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Summary

 External environment analysis identifies future threats and opportunities

 There are 3 potential levels of analysis: macro-environment (PEST), industry competitive environment (5 Forces), intra-industry strategic groups (SGA).

 In PEST: discuss trend, assess impact, identify key drivers of future change.

 In 5 Forces: assess each force by analysing underlying factors then conclude on the attractiveness of industry and key forces impacting future structure of industry competition.

 Refine 5 forces analysis further through SGA.

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Reading

• MacKay et al., (2020) Strategy: Theory, Practice, Implementation. Chapter 5.

• Porter, M. E. (2008). The five competitive forces that shape strategy. Harvard business review, 86(1), 25-40.

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