Chapter 2- External Analysis
Dr. Lakhi Muhammad
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Objectives
The chapter explores the process of
• PEST analysis,
• Industry analysis,
• Competitor analysis and
• Market analysis.
• The use of various approaches to facilitate this
process, in particular the ‘five forces’ model and
strategic groups, are covered.
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Benefits derived from organized
environmental analysis
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External Environment Analysis
• An analysis of the external environment can be
broken down into three key steps each becoming
more specific to the organization.
• The first step is an analysis of the macro-
environmental influences that the organization faces.
• This is followed by an examination of the competitive
(micro) environment the organization operates
within. Finally a specific competitive analysis is
undertaken.
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Scanning
• The environmental audit is reliant on the monitoring
activity that is undertaken by the organization. The
process is normally referred to as scanning.
• There are four forms of scanning according to Aguilar
(1967).
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Four forms of scanning
• Undirected viewing: This activity concerns the viewer exploring
information in general without carrying a specific agenda. The
viewer is exposed to a large amount of varied information but this
is not an active search looking for particular issues, just a broad
attempt to be aware of factors or areas that may have changed.
• Conditional viewing: Again this is not an organised search but the
viewer is sensitive to information that identifies changes in
specific areas of activity.
• Informal search: This is an organised but limited search for
information to support a specific goal.
• Formal search: This type of search is actively pursued and
specifically designed to seek particular information.
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• A balance has to be struck between the resources
allocated to this activity and the potential benefits.
More information also does not lead to better
decision making.
• Managers search for information in five broad areas
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Critical areas of external information
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Macro-environmental analysis
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Industry analysis
• Five Forces Model
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Suppliers
The power of suppliers is liable to be strong where:
● Control over supplies is concentrated into the hands of
a few players.
● Costs of switching to a new source of supply are high.
● If the supplier has a strong brand.
● The supplier is in an industry with a large number of
smaller disparate customers.
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Buyers
The power of buyers is liable to be strong where:
● A few buyers control a large percentage of a volume
market. and are in a very strong position versus their
suppliers as a result.
● There are a large number of small suppliers.
● The costs of switching to a new supplier are low.
● The supplier’s product is relatively undifferentiated,
effectively lowering barriers to alternative sources of
supply
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Potential entrants
The threat of potential entrants will be determined by a number of barriers to
entry that may exist in any given industry:
● The capital investment necessary to enter the industry can be very high in
areas such as electrical power generation or chemical production.
● A well-entrenched competitor who moved into the industry early may have
established cost advantages irrespective of the size of their operation. They
have had time to establish crucial aspects of their operation such as effective
sources of supply, the best locations, and customer franchises.
● Achieving economies of scale in production, distribution or marketing can be
a necessity in certain industries.
● Gaining access to appropriate distribution channels can be difficult.
● Government legislation and policies such as patent protection, trade relations
with other states and state owned monopolies can all act to restrict the entry
of competitors.
● The prospect of a well-established company’s hostile reactions to a new
competitor’s entry to the market may be enough to act as a deterrent.
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Substitutes
Substitution can arise in a number of ways:
● A new product or service may eradicate the need for a previous
process. Insurance services delivered directly by producers over
the phone or Internet are substitutes for the services of the
independent insurance broker.
● A new product replaces an existing product or service. Cassette
tapes replaced vinyl records, only to be replaced by compact discs.
● All products and services, to some extent, suffer from generic
substitution. Consumers may choose to substitute buying a car in
order to purchase an expensive holiday instead.
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Competitive rivalry
The stage of the industry life cycle will have an effect. Natural growth reaches a plateau
once an industry reaches maturity; the only way a organization can continue to grow in
the industry is to take market share off its rivals.
● The relative size of competitors is an important factor. In an industry where
rivals are of similar size, competition is likely to be intense as they each strive for
a dominant position. Industries that already have a clear dominant player tend
to be less competitive.
● In industries that suffer from high-fixed costs, companies will try to gain as
much volume throughput as possible, this may create competition based on
price discounting.
● There may be barriers that prevent companies withdrawing from an industry.
This may be plant and machinery that is specialist in nature and therefore cannot
be transferred to other uses. The workforce may have non-transferable specialist
skills. If the industry is in maturity, moving towards decline, and rivals cannot
easily leave the industry then competition inevitably will increase. 15
Competitor analysis
Strategic groups
• Strategic groups are made up of organizations within
the same industry that are pursuing equivalent
strategies targeting groups of customers that have
similar profiles.
• All these companies are following similar strategies
and facing similar strategic questions. They are also
aiming at very similar market segments
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Competitor analysis…
There is a range of attributes that can be used to identify
strategic groups. Some examples are as follows:
● Size of the company
● Assets and skills
● Scope of the operation
● Breadth of the product range
● Choice of distribution channel
● Relative product quality
● Brand image
Defining an organization's strategic group allows a company to
concentrate its analysis on its direct competitors and to examine
them in more detail.
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Competitor analysis…
Competitor in their strategic group an organisation
needs, as far as possible, to establish the following
1. Competitors objectives
2. Competitor’s current and past strategies
3. Competitor’s capabilities
• Management capabilities
• Marketing capabilities
• Innovation capabilities
• Production capabilities
• Financial capabilities
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Competitor analysis…
4. Competitors future strategies and reactions
• Certain retaliation
• Failure to react
• Specific reactions
• Inconsistent reactions
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Problems in identifying
competitors
There are risks in the process of identifying an
organisation’s competitors and a number of errors should
be avoided:
● Overlooking smaller competitors by placing too much
emphasizing on large visible competitors.
● Focusing on established competitors and ignoring
potential new entrants.
● Concentrating on current domestic competitors and
disregarding international competitors who could possibly
enter the market.
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The market analysis
A market analysis will be made up of a range of factors
relevant to the particular situation under review, but
would normally include the following areas:
• Actual and potential market size
• Trends
• Customers
• Customer segments
• Distribution channels
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