Chapter 2, Part II

The External Environment: Opportunities, Threats, Industry Competition

and Competitor Analysis

Diane M. Sullivan, Ph.D., 2011

Sections modified from Hitt, Ireland, and Hoskisson, Copyright © 2008 Cengage

Step 1in the Strategic Management Process

Insert figure 1.1 graphic Collect information/

knowledge to help you determine what type of strategy would be effective and how it could best be implemented

One starting place is to examine the strategic inputs important in the I/O model

A reminder:I/O Model of

Firm Performance I/O Model says

The industry in which a firm chooses to compete has a stronger influence on firm performance than do the choices managers make inside their organizations

What’s the Industry Environment? The industry environment has a more direct effect on the

firm’s strategic competitiveness and above-average returns than the general environment

Industry: a market containing a group of firms producing products/services that are similar

The industry’s attractiveness (e.g., it’s profit potential) is a function of the five forces of competition

The results of our Porter’s Five Forces

analysis tell us if the industry is

attractive (e.g., how likely it is that firms

competing within the industry will

capture long-term profitability by

participating in the industry. Firms should pursue strategies that

lessen the effects of negative forces.

Porter’s Five Forces Model

Porter’s Five Forces: The Power of Suppliers

Determined by five factors: Suppliers’ industry dominated by a small number of firms Suppliers sell unique or highly differentiated products Suppliers are not threatened by substitutes Suppliers threaten forward integration Firms are not important customers for suppliers

The higher the power of suppliers, the more/less attractive the industry?

Porter’s Five Forces: The Power of Buyers

Determined by four factor: Number of buyers is small

Because there are few buyers, they can have more power over those providing the goods. Large-volume buyers are also powerful.

Products sold to buyers are undifferentiated and standard If the goods are commodities, buyers can find alternative products

Buyers are not earning significant economic profits If buyers are not earning high economic profits, they are 1) likely to be price

sensitive, and 2) their simple ability to afford higher-priced goods is low.

Buyers threaten backward (vertical) integration If buyers can easily backward integrate (e.g., produce the goods or perform

the service themselves) this gives them power

The higher the power of buyers, the more/less attractive the industry?

Porter’s Five Forces: Threat of Substitutes

Substitutes are products/services from other industries that viably serve the same function as products/services in the focal industry

Determined by: The availability of substitutes from other industries (e.g., in the auto

manufacturing industry, substitutes come in the form of public transportation, bicycles, flying, walking, etc.).

What are substitutes for the USPS? What’s its purpose (e.g., what need does it serve or problem does it solve)?

What are substitutes for libraries? What’s its purpose?

The higher the threat of substitutes of suppliers, the more/less attractive the industry?

Porter’s Five Forces: Threat of New Entrants

Determined by: Barriers to entry:

Economies of scale Product differentiation Capital requirements Switching costs faced by customers if they were to switch to another supplier of the

good Access to distribution channels (e.g., if the entrant cannot secure a way to distribute

it’s product, it is a barrier to their entry) Cost advantages independent of scale (e.g., other cost advantages other than

capturing economies of scale) Proprietary technology: secret or patented technology Managerial know-how: tacit knowledge Favorable access to raw materials: low cost access to critical raw materials

Government regulation of entry

The higher the threat of new entrants, the more/less attractive the industry?

Porter’s Five Forces: Intensity of Rivalry

Determined by five factors: Large number of competing firms that are roughly the same size

This leads to price competition Slow industry growth Lack of product differentiation High exit barriers

Specialized assets Fixed costs of exit (e.g., labor agreements) Strategic interrelationships Governmental and social restrictions

Large production capacities If, in order to obtain economics of scale, production capacity must be

added in large increments, an industry is likely to experience periods of oversupply after new capacity comes online. This leads to price cutting.

The higher the intensity of rivalry, the more/less attractive the industry?

Porter’s Five Forces: Conclusion/Outcome Analysis

Based on your analysis, rate each force from -5 (really bad, poor profit potential to +5 (great, excellent profit potential)

Five Forces Overall Analysis

Intensity of Rivalry Rating:

Power of Suppliers Rating:

Power of Buyers Rating:

Threat of New Entrants Rating:

Threat of Substitutes Rating:

Sum of Ratings:

Scores between +10 to +25 Generally Attractive and High Profit PotentialScores between -6 to +9 Generally Moderately Attractive and Moderate Profit PotentialScores less than -6 Generally Unattractive and Low Profit Potential

Porter’s Five Forces: Conclusion/Outcome Analysis Example

Based on your analysis, rate each force from -5 (really bad, poor profit potential to +5 (great, excellent profit potential)

Five Forces Overall Analysis

Intensity of Rivalry Rating: -4 to -5

Power of Suppliers Rating: -3 to -5

Power of Buyers Rating: -1 to -3

Threat of New Entrants Rating: 0 to -2

Threat of Substitutes Rating: +1 to -3

Sum of Ratings: -7 to -18

Scores between +10 to +25 Generally Attractive and High Profit PotentialScores between -6 to +9 Generally Moderately Attractive and Moderate Profit PotentialScores less than -6 Generally Unattractive and Low Profit Potential

These results would suggest that the industry is not attractive and prospects for long-term profitability for the industry are low.