1. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 1 Chapter 3 The External Environment

2. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 2 Chapter Topics Remote Environment International Environment Industry Environment Industry Analysis and Competitive Analysis Operating Environment Emphasis on Environmental Factors

3. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 3 Ex. 3-1: The Firm’s External Environment THE FIRM Operating Environment (Global and Domestic) Competitors Labor Suppliers Customers Industry Environment (Global and Domestic) Entry barriers Supplier power Buyer power Substitute availability Competitive rivalry Creditors Remote Environment (Global and Domestic) Economic Social Political Technological Ecological

4. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 4 Economic Factors Concern the nature and direction of economy in which a firm operates Types of factors General availability of credit Level of disposable income Propensity of people to spend Prime interest rates Inflation rates Trends in growth of gross national product

5. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 5 Social Factors Beliefs, values, opinions, and lifestyles of people Recent social trends Entry of large numbers of women into labor market Accelerating interest of consumers and employees in quality-of-life issues Shift in age distribution of population

6. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 6 Political Factors Define legal and regulatory parameters within which firms must operate Types of factors –Fair-trade decisions –Antitrust laws –Tax programs –Minimum wage legislation –Pollution and pricing policies –Administrative jawboning

7. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 7 Technological Factors Focus on technological changes affecting industry Types of changes New products Improvements in existing products Manufacturing and marketing techniques Role of technological forecasting Foresees advancements and estimating their impact on organization’s operations Alerts managers to impending challenges and promising opportunities

8. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 8 Ecological Factors Ecology refers to the relationships among human beings and other living things and air, soil, and water Current concerns Global warming Loss of habitat and biodiversity Air, water, and land pollution Responsibilities of firms Eliminating toxic by-products of current manufacturing processes Cleaning up prior environmental damage

9. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 9 Ex. 3-7: Federal Ecological Legislation Centerpiece Legislation National Environmental Policy Act, 1969 Established Environmental Protection Agency; consolidated federal environmental activities under it. Established Council on Environmental Quality to advise president on environmental policy and to review environmental impact statements

10. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 10 Ex. 3-7: Federal Ecological Legislation (contd.) Air Pollution Clean Air Act, 1963 Clean Air Act, Amendments, 1965 Air Quality Act, 1967 Clean Air Act, Amendments, 1970 and 1977 Solid Waste Pollution Solid Waste Disposal Act, 1965 Resource Recovery Act, 1970 Resource Conservation and Recovery Act, 1976 Surface Mining and Reclamation Act, 1976

11. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 11 Ex. 3-7: Federal Ecological Legislation (contd.) Water Pollution Refuse Act, 1899 Federal Water Pollution Control Act, 1956 Water Quality Act, 1965 Water Quality Improvement Act, 1970 Federal Water Pollution Control Act Amendments, 1972 Safe Drinking Water Act, 1974 Clean Water Act, 1977

12. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 12 Concept of Eco-Efficiency Definition Firms producing more useful products while continuously reducing resource consumption and pollution Benefits – why should firms implement an environmental policy? Increasing demand for cleaner products by customers More stringent environmental regulations Attracting employees who prefer to work for environmentally conscious firms Availability of financing Governmental incentives

13. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 13 Characteristics of Eco-Efficient Companies Proactive, not reactive Design in, not add on Flexibility Encompassing, not insular

14. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 14 Ex. 3-8: Factors Used to Assess the International Environment Economic Environment Level of economic development Population GNP Per capita income Literacy level Social infrastructure Natural resources Climate Membership in economic blocs Monetary and fiscal policies Wage and salary levels Nature of competition Currency convertibility Inflation and interest rates Taxation systems Political System Form of government Political ideology Stability of government Strength of opposition parties Social unrest Political strife and insurgency Governmental attitude toward foreign firms Foreign policy

15. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 15 Ex. 3-8: Factors Used to Assess the International Environment (contd.) Legal Environment Legal tradition Effectiveness of legal system Treaties with foreign nations Patent trademark laws Laws affecting business firms Cultural Environment Customs, norms, values, beliefs Language Attitudes Motivations Social institutions Status symbols Religious beliefs

16. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 16 Ex. 3-9: Forces Driving Industry Competition Suppliers Substitutes Industry Competitors Rivalry Among Existing Firms New Entrants Buyers Bargaining power of suppliers Threat of substitute products or services Bargaining power of buyers Threat of new entrants

17. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 17 Competitive Force: Threat of Entry Seriousness of threat depends on Barriers to entry Reaction of existing firms Barriers to entry Economies of scale Product differentiation Capital requirements Cost advantages independent of size Access to distribution channels Government policy

18. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 18 Competitive Force: Suppliers A supplier group is powerful if: It is dominated by a few companies and is more concentrated than industry it sells to Its product is unique, or differentiated, or has built up switching costs It is not obliged to contend with other products for sale to industry It poses a threat of integrating forward into industry’s business Industry is not an important customer of supplier group

19. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 19 Competitive Force: Buyers A buyer group is powerful if: It is concentrated or purchases in large volume Products purchased from industry are standard or undifferentiated Products purchased from industry form a component of its product, representing a significant fraction of its cost It earns low profits, creating incentives to lower its costs Industry’s product is unimportant to quality of buyers’ products or services Industry’s product does not save buyer money Buyer poses credible threat of integrating backward

20. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 20 Competitive Force: Substitute Products Relevance of substitutes By placing a ceiling on prices charged, they limit profit potential of an industry Substitutes deserving the most attention are those Subject to trends improving their price- performance trade-off with the industry’s product Produced by industries earning high profit

21. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 21 Competitive Force: Jockeying For Position Tactics of competitive rivalry Price competition Product introduction Advertising slugfests

22. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 22 What Causes Rivalry to be Intense? Numerous competitors or they are roughly equal in size and power Slow growth in industry Product lacks differentiation or switching costs High fixed costs or perishable product Capacity normally augmented in large increments High exit barriers Rivals are diverse in strategies, origins, and “personalities”

23. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 23 Industry and Competitive Analysis Questions involved in designing viable strategies 1.What are the boundaries of the industry? 2. What is the structure of the industry? 3. Which firms are our competitors? 4. What are the major determinants of competition?

24. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 24 Why a Definition of Industry Boundaries is Important Helps executives determine arena in which their firm competes Focuses attention on firm’s competitors Helps executives determine key factors for success Gives executives another basis on which to evaluate their firm’s goals

25. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 25 Sources of Difficulty in Defining Industry Boundaries Evolution of industries over time creates new opportunities and threats Industry evolution creates industries within industries Industries are becoming global in scope

26. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 26 Issues in Defining an Industry What part of the industry corresponds to our firm’s goals? What are the key ingredients of success in that part of the industry? Does our firm have the skills needed to compete in that part of the industry? Will the skills enable us to seize emerging opportunities and deal with future threats? Is our definition of the industry flexible enough to allow necessary adjustments to our business concept as the industry grows?

27. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 27 Characteristics of Industry Structure Structural attributes – Enduring characteristics giving an industry its distinctive character Variations among industries involves examining Concentration – Extent to which industry sales are dominated by only a few firms Economies of Scale – Savings firms within an industry achieve due to increased volume Product Differentiation – Extent to which customers perceive products of firms in industry as different Barriers to Entry – Obstacles a firm must overcome to enter an industry

28. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 28 Variables in Identifying Competitors How do other firms define the scope of their market? The more similar the definitions of firms, the more likely the firms will view each other as competitors How similar are the benefits the customers derive from the products and services other firms offer? The more similar the benefits, the higher the level of substitutability between them How committed are other firms to the industry? To size up commitment of potential competitors to industry, reliable intelligence data are needed concerning potential resource commitments

29. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 29 Common Mistakes in Identifying Competitors Overemphasizing current and known competitors while ignoring potential entrants Overemphasizing large competitors while ignoring small ones Overlooking potential international competitors Assuming competitors will continue to behave in same way

30. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 30 Common Mistakes in Identifying Competitors (contd.) Misreading signals indicating a shift in focus of competitors Overemphasizing competitors’ financial resources, market position, and strategies while ignoring their intangible assets Assuming all firms in industry are subject to same constraints or are open to same opportunities Believing purpose of strategy is to outsmart competition, rather than satisfy customer needs

31. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 31 Operating Environment The operating environment, also called the competitive or task environment, comprises factors in the competitive situation that affect a firm’s success in acquiring needed resources or in profitably marketing its goods and services

32. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 32 Factors in the Operating Environment Firm’s competitive position The composition of its customers Its reputation among suppliers and creditors Its ability to attract capable employees

33. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 33 Criteria Used in Constructing Competitor Profiles Market share Breadth of product line Effectiveness of sales distribution Proprietary and key-account advantages Price competitiveness Advertising and promotion effectiveness Location and age of facility Capacity and productivity Experience Raw material costs Financial position Relative product quality R&D advantages position Caliber of personnel General images Customer profile Patents and copyrights Union relations Technological position Community reputation

34. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 34 Customer Profiles Improves ability of managers to Plan strategic operations Anticipate changes in size of markets Reallocate resources to support forecasted shifts in demand patterns Segmenting customers Geographic Demographic Psychographic Buyer behavior

35. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 35 Ex. 3-12: Major Segmentation Variables for Industrial Markets Demographic Industry Company size Location Operating Technology User-nonuser status Customer capabilities

36. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 36 Ex. 3-12: Major Segmentation Variables for Industrial Markets (contd.) Purchasing Approaches Purchasing-function organization Power structure Nature of existing relationships General purchase policies Purchasing criteria

37. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 37 Ex. 3-12: Major Segmentation Variables for Industrial Markets (contd.) Situational Factors Urgency Specific application Size of order Perfect Characteristics Buyer-seller similarity Attitudes toward risk Loyalty

38. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 38 Factors Related to Assessing Relationship With Suppliers How costly are shipping charges? Are suppliers competitive in terms of production standards? Are suppliers’ prices competitive? Do they offer quantity discounts? In terms of deficiency rates, are suppliers’ abilities, reputations, and services competitive? Are suppliers reciprocally dependent on the firm?

39. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 39 Factors Related to Assessing Relationship with Creditors Do creditors fairly value and willingly accept firm’s stock as collateral? Do creditors perceive firm as having an acceptable record of past payment? A strong working capital position? Little or no leverage? Are creditors’ loan terms compatible with firm’s profitability objectives? Are creditors able to extend necessary lines of credit?

40. McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. 40 Factors Related to Acquiring Needed Human Resources A firm’s access to needed personnel is affected by Reputation as an employer Local employment rates Availability of people with needed skills