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External Analysis


... industry analysis? ... Understanding the industry anticipating its future trends and ... point for the analysis of an industry is the total sales level (size) ... – PowerPoint PPT presentation

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Title: External Analysis

Chapter 4
  • External Analysis
  • Objective analyzing the external factors
    (industry and environment) to make strategic

Why to conduct industry analysis?
  • In external analysis, the next factor (after
    customer and competitors) to analyze is the
    industry/market in which the company operates.
    For effective strategic planning, it is a must to
    understand the industry forces affecting the
    company, and the companys capabilities to deal
    with those forces.
  • Understanding the industry anticipating its
    future trends and directions give the company the
    knowledge it needs to react and control its
    portion of that industry.

  • The industry analysis helps the company
  • to identify threats and opportunities that may
    influence the companys abilities to reach its
  • to focus in on any competitive advantages
    available. Since both the company and its
    competitors are in the same industry, the key to
    success is in finding the different abilities
    between the company and the competitors in
    dealing with the industry forces. If the company
    can identify abilities it has that are superior
    to competitors, it can use those abilities to
    establish a competitive advantage.

Dimensions of an Industry Analysis
  • Industry analysis often include the following
  • Industry size and growth
  • Industry forces (profitability)
  • Industry attractiveness
  • Industry success factors

Industry Size and Growth
  • A basic starting point for the analysis of an
    industry is the total sales level (size).
  • What are the important and potentially important
  • What are their size and growth characteristics?
  • What submarkets are or will soon decline? How
  • It is also useful to consider the potential
    market a new use, new user group, or more
    frequent usage could change the size of the

  • After the size of the market and its important
    submarkets has been estimated, the focus turns to
    growth rate.
  • What will be the market size in the future?
    Growth often means more sales and profits even
    without increasing market share.
  • Identifying the driving forces, forecasting the
    rate (predicting the market sales), detecting
    maturity and declines (turning points in market
    sales and profit) are important considerations
    about market growth.
  • Company can detect maturity or decline by
    checking if there is price pressure caused by
    overcapacity, lack of product differentiation,
    increase in buyer sophistication and knowledge,
    and substitute products or technology, decline in
    first-time buyers, no further growth
    opportunities for users or new users, and
    reduction in customer interest.

Industry Forces
  • As identified by Michael Porter, a Harvard
    economist, there are five basic forces at work
    within any industry which influence
    profitability. The problem is to estimate how
    profitable the average firm will be (measured by
    the long-term return on investment of the average
  • (1) Ease of entry, (2) Supplier power, (3) Buyer
    power, (4) Product substitutes, (5) Industry

1 - Ease of Entry
  • Ease of entry refers to the relative degree of
    difficulty for a new firm to enter the industry.
    This force affects the company because each new
    entrant means a new competitor.
  • If it is easy to enter the industry, competitive
    advantages that the company have today may
    quickly disappear with each new competitor.

  • However, if ease of entry is difficult, the
    company benefits because
  • The competitive advantages the company may have
    greater longevity
  • The companys set of competitors will remain
    fairly constant.
  • Two factors influence ease of entry into an
    industry. Those are
  • Barriers to entry that currently exist
  • Reaction of existing competitors to each new

Barriers to entry
  • What barriers to entry may exist?
  • Product differentiation Does a new firm need to
    offer distinct product advantages in order to
    capture business?
  • Capital requirements and existence of high fixed
    costs Are large amounts of capital required to
    set up a business within the industry?
  • Switching costs for the customer Will customers
    incur high expenses in order to switch to a
  • Access to distribution channels Can new
    competitors access distribution channels easily?

Reaction of competition
  • How will the existing companies react to a new
    layer in the market? There are several factors to
    look at
  • History How have they reacted in the past?
  • Strength of existing firms Do existing firms
    have substantial resources or large commitments
    to the industry?
  • Industry growth rate Is the industry limited in
    its ability to accept new firms because of a slow
    growth rate?

2 - Supplier Power
  • Supplier power (suppliers may influence the
    relationship that company has with its customers,
    e.g. dictate the quality company offers, control
    the price, conditions) exists
  • when the industry sells products manufactured by
    just a few suppliers
  • when the product they supply is unique or do not
    have substitutes
  • when the company is not a significant part of the
    suppliers business
  • When the supplier has intention to move forward
    on the distribution chain and displace the

3 - Buyer Power
  • Buyer power exists when the purchasers
    (intermediaries) of the companys product can
    exert influence on the company e.g. through
    customers demanding lower prices, demanding
    higher quality or more services or playing
    competitors each other. Factors that give
    purchasers buying power
  • Single buyer purchases high volumes of the
    companys product
  • The companys products are undifferentiated or
    subject to substitution

  • It is relatively easy and inexpensive for a buyer
    to switch from the company to a competitor
  • The companys product is unimportant to the
    quality of the buyers product.
  • The key in the buyer-power scenario is the needs
    of the customer. Buyers of the companys products
    or the company can gain power in the relationship
    by influencing the customers decision.

4 - Product Substitution
  • A substitute product is one that can perform the
    same function as the companys product.
  • It becomes a substitute when, in the mind of the
    customer, it performs the same function at an
    equal or better price-performance ratio.
  • The solution is differentiating the product by
    understanding the customer.

5 - Industry Competitors
  • The battle between the company and its
    competitors is about getting a superior position
    in the mind of the customer.
  • The intensity and form (e.g. price war, ad
    campaigns, expanded service offerings, new or
    improved product introductions) of this battle
    affects the companys ability to win that
    position and sustain it.
  • Several industry factors dictate the intensity
    and form of the battle (1) the number of
    competitors, (2) the rate of industry growth, (3)
    the rate of differentiation.

Industry Attractiveness
  • Industry attractiveness is the presence or
    absence of threats displayed by each of the
    industry forces.
  • The greater a threat posed by an industry force,
    the less attractive the industry becomes (the
    industry forces should be rated).
  • Industry attractiveness should be evaluated at
    each SBU base. This is important in order to rank
    each SBUs importance for the company.

Industry Success FactorsBases of Competition
  • Success factors are indicators of why a company
    succeeds or fails within an industry.
  • Identifying success factors is a subjective
    process since qualified judgments are made based
    on the collected information.
  • Some examples for industry success factors
    ability to quickly respond to marketplace, good
    credit arrangements, excellent product
    quality/performance/reliability, excellent
    support after sale, knowledgeable personnel,
    strong financial foundation etc.

Risks in High-Growth Markets
  • The conventional wisdom that the growing markets
    are better, neglects the risks involved in those
    markets. The following risks are important to
    consider before the company decides to enter a
    growing market
  • Competitive overcrowding too many competitors
    with unrealistic expectations would get
    attracted. But in reality there may not be
    sufficient sales volume to support all those
  • A superior competitive entry a competitor would
    enter with a superior product or low-cost

  • Changing key success factors key success factors
    would change and the company cannot adapt.
  • Changing technology technology would change. A
    safe strategy is to wait until it becomes clear
    which technology will dominate and then attempt
    to improve it with a compatible entry.
  • Disappointing market growth the market growth
    would fail to meet expectations.
  • Resource constraints resources may be inadequate
    to maintain a high growth rate.
  • Distribution constraints adequate distribution
    may not be available.

Environmental Analysis
  • After the market/industry is analyzed, the focus
    shifts to the environment surrounding the market.
  • Why to conduct environmental analysis? The
    environmental analysis is used to locate current
    and future trends or events that represent
    potential opportunities or threats to the

Opportunities and Threats
  • The goal of the environmental analysis is to
    allow the company to locate the opportunities
    (represent a chance for the company to increase
    its sales, growth, or competitive position
    anything that would have a positive impact on the
    business) that the company should attempt to take
    advantage of, and the threats (anything that can
    cause a decrease in sales, represent an obstacle
    to success or endanger the companys survival)
    that have greatest potential to negatively affect
    the future of the business and therefore the
    company should decide to develop strategy to
    defend against it.

Which data to collect?
  • Since there are millions of changes taking place
    in the environment, each company must decide
    which data will have the greatest impact on its
    success and survival and therefore have
    significant impact on strategy.
  • Ideally, the data should represent both current
    and future (anticipating forecasting) critical
    environmental factors those that will likely
    impact the company, its customers, and its
  • The environmental analysis is not complied on an
    annual basis, it is an ongoing process.

Dimensions of Environmental Analysis
  • Environmental analysis is usually divided into
    the following four areas
  • Political
  • Economic
  • Social
  • Technological

Political Regulation and Actions
  • The introduction or removal of legislative or
    regulatory constraints can represent major
    strategic threats and opportunities. E.g. the ban
    of some ingredients in food products or
  • One research indicated that governmental issues
    tend to follow an eight-year cycle. For the first
    five years, the issues carry less importance but
    can be detected in the press and in some polls.
    In the fifth or six year, the national press
    becomes interested and finally, government action
    results. Of course, the earlier a company becomes
    involved, the better.

Economic Conditions
  • Some strategies will be affected by judgments
    made about the economy, particularly inflation
    and general economic health as measured by
    unemployment and economic growth. E.g. heavy
    investment in a capital-intensive industry needs
    to be matched with a strong economy to avoid a
    possibly damaging period of losses.
  • Usually it is better to look beyond the general
    economy and consider the health of the specific
  • Multinational companies must forecast the
    relative valuation of currencies. Thus, an
    analysis of balance of payments and other factors
    affecting currency valuations might be needed.

Social Trends
  • Shifts in the makeup of the population have great
    effect on the companies.
  • Social, cultural and demographic (age, income,
    education, geographic location) trends can
    represent both threats and opportunities for a
    wide variety of companies. E.g. the change in
    womens life styles influences dress designers
    product lines and pricing strategies. E.g. the
    rise in the ageing population influences the type
    of food offered in the restaurants.

  • Technological trends or technological events
    occurring outside the market/industry have
    potential to impact strategies.
  • Impact of new technologies introduction of a new
    technology does not always mean that businesses
    with prior technology will suddenly become
    unhealthy. Generally, the sales of the old
    technology continues for some time, since (1)
    companies continue to improve it and (2) it is
    difficult to predict the outcome of the new

  • The technology life cycle many technologies have
    life-cycles. E.g. computer printer industry. The
    key to manage the transition from one technology
    to another is to detect when the original
    technology is in the decline phase (indicators
    (1) if performance levels are approaching
    physical barriers, (2) RD efforts are becoming
    less effective, (3) small competitors are
    experiencing with alternative technologies).
  • Forecasting new technologies studies indicate
    that reviewing articles, magazines etc help in
    forecasting technological trends and events.

Forecasting Environmental Trends and Events
  • Expert opinions often are helpful in
    environmental forecasting.
  • Another method of forecasting is trend
    extrapolation. However, departures from an
    extrapolated trend carry more interest.
  • It is important to consider the cross-impact of
    one environmental development on others. In
    cross-impact analysis, the impact of one event on
    the probability of another is determined.

Scenario Analysis
  • Forecasting the individual events and trends
    would be too simplistic in a complex environment
    where some key area of uncertainty and complexity
    may not be resolved.
  • Scenario analysis is one way to deal with both
    complexity and uncertainty in the environment.

How to conduct scenario analysis?
  • Scenario analysis involves
  • the development (identification) of a set of
    total scenarios of what the future environment
    will contain (based on optimistic, pessimistic,
    and most likely scenarios).
  • relating those identified scenarios to strategies
    (strategy development). Major purpose here is to
    create new strategic options.
  • evaluating alternative scenarios by determining
    the scenario probabilities (asking experts).
  • comparing the expected outcomes of each strategy
    if the wrong scenario emerges (regret analysis)

Impact Analysis
  • Throughout the entire external analysis, the
    problem of information overload occurs.
  • So, it is crucial to determine not only which
    information is needed, but also which information
    has priority.
  • For this purpose, the creation of an impact
    matrix which identify and evaluate the various
    information need areas and also quantify their
    impact on each SBU, can be useful.

Impact MatrixImpact of an information-need area
  • On the matrix, the vertical axis lists potential
    information needs areas, areas in which
    information could be gathered and organized. They
    can be drawn not only from an environmental
    analysis, but also from analyses of the customer,
    competitor and market.
  • The horizontal axis represents the present SBUs,
    may also include proposed and potential SBUs.
  • The entries in the matrix represent the relative
    impact that trends or events associated with
    information-need areas will have on the SBUs. The
    impact can be positive or negative (as the scale
    on the bottom of the example show).

  • The listing and assessing the impact of
    information need areas on SBUs can help (1)
    identify and (2) prioritize the information need
    areas for each SBU. The areas with greatest
    impact are those with the highest scale values.
  • The column at the right (which adds the positive
    and negative entries for each row) provides a
    summary measure of the impact associated with an
    information-need area.
  • On the other hand, the vertical column totals at
    the lower section indicate the SBUs sensitivity
    to trends and events in the environment. The
    relative importance of each SBU is also shown.

Immediacy/Impact MatrixImmediacy of an
information-need area
  • When the information-need areas have high impact
    but such a low probability of occurrence, then it
    is not worth gathering and analyzing that
  • Similarly, when occurrence is far in the future,
    then it may also be of little concern.
  • The following matrix is helpful in identifying
    how much information will be sufficient, after
    an information need is crystallized.

  • High
  • Impact
  • Low
  • Low High
  • Immediacy

Monitor and In-depth analysis analysis, strate
gy contingent development strategies
considered Monitor Monitor and analysis
  • If both the immediacy and impact are low, then a
    low level of monitoring may be sufficient.
  • If the impact is thought to be low but the
    immediacy is high, the area deserves monitoring
    and analysis.
  • If the immediacy is low and the impact is high,
    then the area may require monitoring and analysis
    in more depth, and contingent strategies may be
    considered but not necessarily developed and
  • If both the immediacy and potential impact of the
    underlying trends and events are high, then an
    in-depth analysis will be appropriate, as will be
    the development of reaction plans or strategies.
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