The External Environment and Its Relationship to Strategy

Porter’s Five Forces

1. possibility of new entrants: the risk and increased competition associated with the threat of new entrants

2. threat of substitute products: increased competitiveness due to the availability or possible availability of substitutes for buyers’ needs

3. power of suppliers: the degree of suppliers’ bargaining power and supplier-seller collaboration

4. power of buyers: the degree of buyers’ bargaining power and seller-buyer collaboration

5. rivalry among competing sellers: the level of competitive pressures associated with market conditions and actions among rival sellers in an industry

threat of new entrants

• new capacity

• new capabilities

• changes existing market relationships

• greater competition over price and quality

• possible loss of market share

barriers to entry

• economies of scale

• cost disadvantages not related to scale

• product differentiation

• nonrecoverable capital investments

• switching costs

• access to distribution channels

• government policy

economies of scale

new entrants will not have the large volumes incumbents have and thus would risk having a cost per unit disadvantage

cost disadvantages not related to scale

existing organizations often enjoy advantages conferred by their experience or position; these factors can become strong deterrents to new entries

product differentiation

customers’ loyalty to established products may require new entrants to spend heavily to change customers’ perceptions and convince them to switch to new products

nonrecoverable capital investments

large financial investments are required to successfully enter a market; these investments cannot be recovered or would be difficult to recover if the venture fails

switching costs

real or perceived costs are associated with changing to another product, brand, marketplace, or supplier

access to distribution channels

the best products will not sell unless consumers have access to them through a distribution channel; the more exclusive distribution channels are to existing companies, the more dofficult it is to enter a market

government policy

governments can complicate or even block entry into a market; legislative barriers include licensure, permits, and regulatory rules

evaluating the strength of barriers to entry

• do you have a unique process or product that is protected by patent?

• are customers loyal to your brand and product?

• does your type of business require high start-up costs?

• are the assets needed to operate your type of business unique and hard to obtain?

• are your business’ processes and procedures difficult to learn?

• would a new rival have difficulty purchasing key inputs?

• would a new competitor have difficulty finding customers?

• would it be difficult for a new entrant to attract enough customers and resources to operate efficiently?

threat of substitute products

• closely related industries almost always produce products that can be substituted for each other by differ with respect to quality, cost, and features

  • contact lenses and glasses vs laser surgery

  • prescription drugs vs alternative medicine

• substitutes increase price competition

evaluating the threat of substitues

• does your product offer more benefits than its substitutes do?

  • if so, why are the benefits of your product valued by consumers? are the benefits sustainable?

• is the price for your product the same or less than the price for comparable substitutes?

• is it difficult for your customers to switch to another product?

• are customers loyal to your existing products and brands?

power of suppliers

• powerful suppliers can extract concessions from their buyers

• suppliers consist of a wide array of organizations, ranging from unions, intermediaries like HMOs and insurance companies, and retail outlets to wholesalers and manufacturers of raw materials

evaluating suppliers’ relative bargaining power in a market

• is there a large number of potential suppliers for your critical inputs?

• are there potential substitutes for your critical inputs?

• do your purchases from certain suppliers represent a small portion of your business?

• would it be difficult for your supplier to enter your business and sell directly to your customers?

• are you well informed about your supplier’s product and market?

power of buyers

• the power of buyers is almost the mirror image of the power of suppliers

• buyers can have little or extensive market power, depending on their size, their number, and the nature of the market

• buyers enjoy more power when they are large relative to sellers and purchase a large part of a business’ output

• buyer power increases if switching costs are low, the number of buyers is small relative to the number of sellers, the demand for the product is marginal, buyers have a good understanding of the purchase, buyers can acquire sellers fairly easily, and the products sellers offer are not critical to the buyers’ business

evaluating the strength of buyers’ power

• do you have enough customers that the loss of one will not significantly damage your business?

• does your product account for a relatively small expense for your buyers?

• is it difficult to understand your market, and are buyers poorly informed?

• is your product unique and differentiated in the minds of your buyers?

• would it be difficult for your buyers to purchase one of your competitors and/or the products you offer?

• would it be difficult for customers to switch from your products to those of your competitors?

rivalry

• rivals may invoke different competitive tactics to gain better market positions, greater sales and market share, and other competitive advantages; these tactics include

  • lowering prices

  • adding new or different features to their products

  • emphasizing their brand image

  • offering a wider selection of products and services

  • expanding their distribution network

  • offering low-interest financing

  • increasing their advertising

  • providing longer warranties

  • improving customer service

organizational and product-related factors affecting rivalry

• equality of organizations’ strengths

• degree of product differentiation

• height of exit barriers

• different ownership types

• rate of demand growth

degree of product differentiation and market rivalry

• lack of brand loyalty increases competition and enables rivals to more easily convince buyers to switch products

• negotiations for managed care contracts between insurance companies and hospitals often are centered on pricing, enabling insurance companies to extract cost concessions

• many perceive brand-name prescription drugs to be different from their generic equivalents; as a result, there is little direct competition between manufacturers of brand-name and generic drugs

exit barriers

• costs to an organization to exit a business

  • greater unrecoverable costs lead to greater competition

  • special assets increase exit barriers

  • may be non-asset factors

    • emotional ties

    • governmental and social restrictions

different ownership types

• market competition is greater among rivals of different ownership types

• corporate-owned and freestanding organizations in the same industry often engage in greater competition than do organizations of the same ownership type

• greater variation brings distrust and uncertainty of actions

  • distinct cultures and norms

  • corporate vs freestanding

  • for vs non-profit

rivalry and demand

• rivalry is greater in industries in which consumer demand is low of decelerating

• when consumer demand is high, producers have growth opportunities and strategies often focus on attracting new customers

• when demand slows or declines, organizations grow primarily by drawing existing customers away from rivals

• organizations commonly predict future demand on the basis of past increases in demand

• when the rate of demand slows unexpectedly, organizations may be left with unneeded facilities and capacity; those in this situation may seek to undercut their competitors through price competition and fierce sales tactics

evaluating the favorability of market conditions

• is the number of competitors small?

• does one organization clearly lead the market?

• is the market growing?

• does your organization have low fixed costs?

• can your product be stored and sold at a later time?

• are competitors pursuing a low-growth strategy and making few investments to develop their products?

• is your product unique and different from other available products?

• would it be easy for your competitors to exit the industry?

• is it difficult for your customers to switch from your product to another?

strategic groups

• strategic groups are clusters of organizations that use the same of similar strategies in an industry

• by segmenting industry competitors, analysts refine their view of organizations’ market positions and gain a better understanding of how the organizations interact and compete

• the factor or factors used to form strategic groups depend on which best capture essential strategic differences among the organizations in an industry

mobility barriers

• intra-industry obstacles that impeded organizations in a strategic group from joining and competing in another group

• may include advertising, research and development expenditures, distribution channels, breadth of product line, patents, and objectives that might be difficult to achieve without large expenditures of time and money

industry driving forces

• major factors causing change in an industry

• common driving forces in healthcare

  • changes in consumer demand

  • technological changes

  • workforce availablity

  • political changes

PEST analysis

• PEST is an analytical method for deriving driving forces (political, economic, social, and technological)

• conducted much like a SWOT process, PEST guides participants to examine each driving force sequentially to provide a more detailed environmental analysis

force field analysis

• determines whether the identified forces support or undermine an organization’s plans

• forces that promote achievement of the organization’s goals should be leveraged, while those that hinder it should be mitigated

identifying driving forces

• what factors account for our present situation?

• what factors are keeping us from accomplishing our goals?

• what factors are helping us achieve our goals?

scenario analysis

• sensitizes leaders to different possible environments in ways that traditional graphs and written plans do not

• helps organizations prepare the knowledge and means they will need to deal with different futures

use of scenario planning

• appropriate when significant future uncertainties exist as a result of

  • rapidly advancing technologies

  • potential shifts in customers’ preferences

  • major market power shifts by consolidation of distribution channels, suppliers, or buyers

  • changes in government regulations

steps in scenario analysis

• examination of key factors in the external environment

• identification of key uncertainties and driving forces

• creation of scenarios

• integration of scenarios into strategic planning