[MHR 410] External Analysis

Key Points:
Thinking strategically about a company’s external situation involves probing for answers to the following seven questions:

1. What are the industry’s dominant economic features?
• Industries differ significantly on such factors as market size and growth rate, the number and relative sizes of both buyers and sellers, the geographic scope of competitive rivalry, the degree of product differentiation, the speed of product innovation, demand-supply conditions, the extent of vertical integration, and the extent of scale economies and learning curve effects.
2. What kinds of competitive forces are industry members facing, and how strong is each force?
• The strength of competition is a composite of five forces: 
• (1) competitive pressures stemming from buyer bargaining power and seller-buyer collaboration
• (2) competitive pressures associated with the sellers of substitutes
• (3) competitive pressures stemming from supplier bargaining power and supplier-seller collaboration
• (4) competitive pressures associated with the threat of new entrants into the market
• (5) competitive pressures stemming from the competitive jockeying among industry rivals.
3. What forces are driving changes in the industry, and what impact will these changes have on competitive intensity and industry profitability?
• Industry and competitive conditions change because forces are in motion that create incentives or pressures for change. The first phase is to identify the forces that are driving industry change. The second phase of driving forces analysis is to determine whether the driving forces, taken together, are acting to make the industry environment more or less attractive.
4. What market positions do industry rivals occupy—who is strongly positioned and who is not?
• Strategic group mapping is a valuable tool for understanding the similarities and differences inherent in the market positions of rival companies. Rivals in the same or nearby strategic groups are close competitors, whereas companies in distant strategic groups usually pose little or no immediate threat. Some strategic groups are more favorable than others. The profit potential of different strategic groups may not be the same because industry driving forces and competitive forces likely have varying effects on the industry’s distinct strategic groups.
5. What strategic moves are rivals likely to make next?
• Scouting competitors well enough to anticipate their actions can help a company prepare effective countermoves (perhaps even beating a rival to the punch) and allows managers to take rivals’ probable actions into account in designing their own company’s best course of action.
6. What are the key factors for competitive success?
• An industry’s key success factors (KSFs) are the particular product attributes, competitive capabilities, and intangible assets that spell the difference between being a strong competitor and a weak competitor—and sometimes between profit and loss. KSFs by their very nature are so important to competitive success that all firms in the industry must pay close attention to them or risk being driven out of the industry.
7. Does the outlook for the industry present the company with sufficiently attractive prospects for profitability?
• Conclusions regarding industry attractiveness are a major driver of company strategy. When a company decides an industry is fundamentally attractive and presents good opportunities, a strong case can be made that it should invest aggressively to capture the opportunities it sees. When a strong competitor concludes an industry is relatively unattractive and lacking in opportunity, it may elect to simply protect its present position, investing cautiously if at all and looking for opportunities in other industries. A competitively weak company in an unattractive industry may see its best option as finding a buyer, perhaps a rival, to acquire its business. On occasion, an industry that is unattractive overall is still very attractive to a favorably situated company with the skills and resources to take business away from weaker rivals.

Objectives:

1. Gain command of the basic concepts and analytically tools widely used to diagnose the competitive conditions in a company’s industry. 
2. Learn how to diagnose the factors shaping industry dynamics and to forecast their effects on future industry profitability. 
3. Become adept at mapping the market positions of key groups of industry rivals. 
4. Understand why in-depth evaluation of a business’s strengths and weaknesses in relation to the specific industry conditions it confronts is an essential prerequisite to crafting a strategy that is well-matched to its external situation. 

From Thinking Strategically about the Company’s Situation to Choosing a Strategy 

• Chapter 3: Thinking strategically about a firm’s external environment 
• Chapter 4: Thinking strategically about a firm’s internal environment 
• Forming a strategic vision of where the firm needs to head 
• Identifying promising strategic options for the firm 
• Selecting the best strategy and business model for the firm 

The External Environment 

• The Macro-Environment
• Is the broad environmental context in which a firm’s industry is situated. 
• Includes strategically relevant components over which the firm has no direct control. 
• General economic conditions
• Immediate industry and competitive environment

The Components of a Company’s Macro-Environment

The Seven Components of the Macro-Environment 

• Demographics
• The size, growth rate, and age distribution of different sectors of the population. It includes the geographic distribution of the population, the distribution of income across the population, and trends in these factors. 
• Social forces
• Societal values, attitudes, cultural factors, and lifestyles that impact businesses. Social forces vary by locale and change over time.
• Political, legal, and regulatory factors
• Political policies and processes, as well as the regulations and laws with which companies must comply—labor laws, antitrust laws, tax policy, regulatory policies, the political climate, and the strength of institutions such as the court system.
• Natural environment
• Ecological and environmental forces such as weather, climate, climate change, and associated factors like water shortages. 
• Technological factors
• The pace of technological change and technical developments that have the potential for wide-ranging effects on society, such as genetic engineering, the rise of the Internet, changes in communication technologies, and knowledge and controlling the use of technology.
• Global forces
• Conditions and changes in global markets, including political events and policies toward international trade, socio-cultural practices and the institutional environment in which global markets operate. 
• General economic conditions
• Rates of economic growth, unemployment, inflation, interest, trade deficits or surpluses, savings, per capita domestic product, and conditions in the markets for stocks and bonds affecting consumer confidence and discretionary income.

QUESTION 1: DOES THE INDUSTRY OFFER ATTRACTIVE OPPORTUNITIES FOR GROWTH? 

• Defining Growth: 
• What is the current market size in units or sales? 
• What is the past, current and expected rate of growth for the market\industry? 
• Considerations: 
• Different sectors\regions of a market grow at different rates. 
• Growth varies with the industry’s life cycle stage— emergence, rapid growth, maturity, and decline.
• Growth does not guarantee profitability.

QUESTION 2: WHAT KINDS OF COMPETITIVE FORCES ARE INDUSTRY MEMBERS FACING, AND HOW STRONG ARE THEY? 

• Porter’s Forces Model:
• Industry Analysis
• External Analysis
• Five Forces Model/Analysis

The Five-Forces Model of Competition: A Key Analytically Tool

Competitive Pressures That Act to Increase the Rivalry among Competing Sellers

• Buyer demand is growing slowly or declining.
• It is becoming less costly for buyers to switch brands.
• Industry products are becoming more alike.
• There is unused production capacity, and\or products have high fixed costs or high storage costs.
• The number of competitors is increasing and\or they are becoming more equal in size and competitive strength.
• The diversity of competitors is increasing.
• High exit barriers stop firms from exiting the industry.

Market Entry Barriers Facing New Entrants

• Economies of scale in production, distribution, advertising, or other areas of operation 
• Experience and learning curve effects
• Unique cost advantages of industry incumbents
• Strong brand preferences and customer loyalty
• Strong “network effects” in customer demand
• High capital requirements 
• Building a network of distributors or dealers and securing adequate space on retailers’ shelves 
• Restrictive government policies
• Expected reaction of incumbent firms

Competitive Pressures from the Sellers of Substitute Products

• Substitute Products Considerations:
• Ready availability of substitutes
• Pricing, quality, performance, and other relevant attributes of substitutes 
• Switching costs that buyers incur
• Indicators of Substitutes’ Competitive Strength:
• Increasing rate of growth in sales of substitutes
• Substitute producers adding output capacity
• Increasing profitability of substitute producers

Competitive Pressures Stemming from Supplier Bargaining Power

• Supplier Bargaining Power Considerations:
• Ready availability of supplier products 
• Criticality of supplier products as industry inputs 
• Number of suppliers of standard\commodity items 
• Buyers’ costs for switching among suppliers 
• Availability of substitutes for suppliers’ products 
• Fraction of supplier sales due to industry demand 
• Ratio of suppliers relative to industry buyers 
• Backward integration into suppliers’ industry

Competitive Pressures Stemming from Buyer Bargaining Power and Price Sensitivity

• Buyer Bargaining Power Considerations:
• Buyer costs for switching to competing sellers 
• Degree to which industry products are commoditized
• Number and size of buyers relative to sellers
• Strength of buyer demand for sellers’ products
• Buyer knowledge of products, costs and pricing
• Backward integration of buyers into sellers’ industry
• Buyer discretion in delaying purchases
• Buyer price sensitivity due to low profits, size of purchase,and consequences of purchase 

Is the Collective Strength of the Five Competitive Forces Conducive to Good Profitability?

• Is the state of competition in the industry stronger than “normal”? 
• Can industry firms expect to earn decent profits given prevailing competitive forces? 
• Are some of the competitive forces sufficiently powerful to undermine industry profitability?

Matching Strategy to Competitive Conditions

1. Pursuing avenues that shield the firm from as many competitive pressures as possible.
2. Initiating actions calculated to shift competitive forces in the firm’s favor by altering underlying factors driving the five forces.
3. Spotting attractive arenas for expansion, where competitive pressures in the industry are somewhat weaker.

QUESTION 3: WHAT FACTORS ARE DRIVING INDUSTRY CHANGE, AND WHAT IMPACTS WILL THEY HAVE?
Strategic Analysis of Industry Dynamics:

1. Identifying the drivers of change. 
2. Assessing whether the drivers of change are, individually or collectively, acting to make the industry more or less attractive. 
3. Determining what strategy changes are needed to prepare for the impacts of the anticipated change.

The Most Common Drivers of Industry Change

1. Changes in the long-term industry growth rate 
2. Increasing globalization 
3. Changes in who buys the product and how they use it 
4. Technological change 
5. Emerging new Internet capabilities and applications 
6. Product and marketing innovation 
7. Entry or exit of major firms 
8. Diffusion of technical know-how across companies and countries 
9. Improvements in efficiency in adjacent markets 
10. Reductions in uncertainty and business risk 
11. Regulatory influences and government policy changes 
12. Changing societal concerns, attitudes, and lifestyles

QUESTION 4: HOW ARE INDUSTRY RIVALS POSITIONED—WHO IS STRONGLY POSITIONED AND WHO IS NOT? 

• A Strategic Group 
• Is a cluster of industry rivals that have similar competitive approaches and market positions: 
• Have comparable product-line breadth 
• Sell in the same price/quality range 
• Emphasize the same distribution channels 
• Use the same product attributes to buyers 
• Depend on identical technological approaches 
• Offer similar services and technical assistance

Using Strategic Group Maps to Assess the Market Positions of Key Competitors

• Constructing a strategic group map: 
• Identify the competitive characteristics that differentiate firms in the industry.
• Plot the firms on a two-variable map using pairs of differentiating competitive characteristics.
• Assign firms occupying about the same map location to the same strategic group.
• Draw circles around each strategic group, making the circles proportional to the size of the group’s share of total industry sales revenues.

Choosing Variables for Group Maps

• Variables selected as map axes: 
• Must not be highly correlated.
• Must reflect key approaches to customer value and expose sizable differences in the marketplace positions of rivals. 
• May be quantitative, continuous, discrete and\or defined in terms of distinct classes and combinations.

Guidelines for Constructing Group Maps

• Draw map circles proportional to the combined sales of firms in each strategic group to reflect the relative sizes of each group to the total size of the industry. 
• Use different variable sets to show different views of relationships among competitive positions in the industry’s structure—there is no one best map for portraying how competing firms are positioned.

U.S. Bicycle Industry

Carpenter & Sanders, 2007


Follow-up 

• Which strategic group is located in the least favorable market position? Which group is in the most favorable position?
• Which strategic group is likely to experience increased intragroup competition?
• Which groups are most threatened by the likely strategic moves of members of nearby strategic groups?

What Can Be Learned from Strategic Group Maps?

• Maps are useful in identifying which industry members are close rivals and which are distant rivals. 
• Not all map positions are equally attractive.
1. Prevailing competitive pressures in the industry and drivers of change favor some strategic groups and hurt others. 
2. Profit prospects vary from strategic group to strategic group.

QUESTION 5: WHAT STRATEGIC MOVES ARE RIVALS LIKELY TO MAKE NEXT?

• Competitive Intelligence 
• Information about rivals that is useful in anticipating their next strategic moves. 
• Signals of the Likelihood of Strategic Moves:
• Rivals under pressure to improve financial performance 
• Rivals seeking to increase market standing 
• Public statements of rivals’ intentions 
• Profiles developed by competitive intelligence units

QUESTION 6: WHAT ARE THE KEY FACTORS FOR FUTURE COMPETITIVE SUCCESS?

• Key Success Factors:
• Are the strategy elements, product and service attributes, operational approaches, resources, and competitive capabilities that are necessary for competitive success by any and all firms in an  industry. 
• Vary from industry to industry, and over time within the same industry, as drivers of change and competitive conditions change.

Identification of Key Success Factors

1. What product attributes and service features buyers strongly affect buyers when choosing between the competing brands of sellers?
2. What resources and competitive capabilities are required for a firm to execute a successful strategy in the marketplace?
3. What shortcomings will put a firm at a significant competitive disadvantage?

QUESTION 7: DOES THE INDUSTRY OFFER GOOD PROSPECTS FOR ATTRACTIVE PROFITS? 

• Industry Profitability Considerations: 
• The industry’s overall growth potential 
• Effects of strong competitive forces 
• Effects of prevailing drivers of change in the industry 
• Competitive strength of the firm: its market position relative to its rivals, its capability to withstand competitive forces, and whether its position will change in the course of competitive interactions
• The success of the firm’s strategy in delivering on the industry’s key success factors