Chapter 3 - External Analysis: Industry Structure, Competitive Forces, and Strategic Groups

Rivalry: industry growth During periods of positive growth...

Consumer demand rises Price competition among firms decreases - They focus on capturing new customers - They are not focused on taking profitability away from each other

Co-opetition

Cooperation by competitors to achieve a strategic objective.

co-opetition

Cooperation by competitors to achieve a strategic objective.

Entry Barriers: Switching Costs

Cost incurred by moving from one supplier to another - Changing vendors may require the buyer to alter product specifications, retrain employees, and/or modify existing processes.

Political factors

- Result from the processes and actions of government bodies that can influence the decisions and behavior of firms - Firms can shape this factor through nonmarket strategies - Lobbying, public relations, contributions, etc.

PESTEL model

A framework that categorizes and analyzes an important set of external factors (political, economic, sociocultural, technological, ecological, and legal) that might impinge upon a firm. These factors can create both opportunities and threats for the firm.

Strategic Group Model

A framework that explains differences in firm performance within the same industry.

strategic group model

A framework that explains differences in firm performance within the same industry.

five forces model

A framework that identifies five forces that determine the profit potential of an industry and shape a firm's competitive strategy.

Industry

A group of incumbent companies that face more or less the same set of suppliers and buyers.

industry

A group of incumbent companies that face more or less the same set of suppliers and buyers.

industry analysis

A method to (1) identify an industry's profit potential and (2) derive implications for a firm's strategic position within an industry.

Industry Analysis

A method to: (1) identify an industry's profit potential and risks (2) derive implications for a firm's strategic position within an industry

industry convergence

A process whereby formerly unrelated industries begin to satisfy the same customer need.

Complement

A product, service, or competency that adds value to the original product offering when the two are used in tandem.

complement

A product, service, or competency that adds value to the original product offering when the two are used in tandem.

Rivalry is determined by:

Competitive structure Industry growth Strategic commitments Exit barriers

Entry Barriers: Advantages Independent of Size

Cost or quality advantages that are independent of size: • Brand loyalty • Proprietary technology • Preferential access to raw materials and distribution channels • Favorable geographic locations • Cumulative learning and experience effects

Rivalry

Describes intensity with which companies in the same industry fight.

competitive industry structure

Elements and features common to all industries, including the number and size of competitors, the firms' degree of pricing power, the type of product or service offered, and the height of entry barriers.

Oligopoly

Few (large) firms, some pricing power, differentiated product, high entry barriers

strategic commitments

Firm actions that are costly, long-term oriented, and difficult to reverse.

firm effects

Firm performance attributed to the actions strategic leaders take.

industry effects

Firm performance attributed to the structure of the industry in which the firm competes.

Entry Barriers: Government Policy

Frequently government policies restrict or prevent new entrants. - Threat of entry is high when restrictive government policies do not exist or when industries become deregulated.

Legal factors

Include the official outcomes of political processes as manifested in: laws mandates court decisions

mobility barriers

Industry-specific factors that separate one strategic group from another.

entry barriers

Obstacles that determine how easily a firm can enter an industry and often significantly predict industry profit potential.

exit barriers

Obstacles that determine how easily a firm can leave an industry.

Monopoly

One firm, considerable pricing power, unique product, very high entry barriers

PESTEL Model

Political Economic Sociocultural Technological Ecological Legal

Buyer Power

Pressure an industry's customers can put on producer's margins in the industry by demanding a lower price or higher product quality.

Rivalry: industry growth During periods of negative growth...

Rivalry is fierce Rivals can only gain at the expense of one another

Alice Corp. v. CLS Bank International

Since Alice, software patents have suffered a very high mortality rate. Hundreds of patents have been invalidated under §101 of the U.S. patent laws in Federal District Courts.

nonmarket strategy

Strategic leaders' activities outside market exchanges where firms sell products or provide services to influence a firm's general environment through, for example, lobbying, public relations, contributions, and litigation in ways that are favorable to the firm.

Substitution

Substitutes meet same basic customer needs as industry product but in different way.

Industry structure is conceived of as a function of:

entry & exit barriers degree of product differentiation cost structure, vertical integration relationships with buyer / suppliers

The higher the entry barriers, the ______________ is the threat of entry

lower

monopolistic competition

many firms, some pricing power, differentiated product, medium entry barriers

Perfect Competition

many small firms, firms are price takers, commodity product, low entry barriers

By analyzing factors in the external environment, managers can mitigate threats and leverage...

opportunities

Five Forces Model represents a _________________________ in time

snapshot

Entry Barriers

• Economies of scale • Network effects • Customer switching costs • Capital requirements • Government policy • Credible threat of retaliation • Advantages independent of size

Power of buyers is high when...

• Few buyers, and each purchases large quantities • Industry's products are undifferentiated • Buyers face low switching costs

The threat of substitution is high when...

• Substitute offers attractive price-performance trade-off • Buyer's cost of switching to substitute is relatively low

The power of suppliers tend to be high when...

• Suppliers' industry highly concentrated • Suppliers do not depend heavily on the industry • High switching costs when changing suppliers • Suppliers offer products that are differentiated • There are no readily available substitutes

Entry Barriers: Capital Requirements

- "Price of the entry ticket" into a new industry - How much capital is required to compete in the industry

Five Forces Model

- A framework that identifies five forces that determine the profit potential of an industry that shape a firm's competitive strategy. - The stronger the five forces, the lower the industry's profit potential—making the industry less attractive.

Sociocultural factors

- Capture a society's cultures, norms, and values Examples: age gender family size ethnicity sexual orientation religion socioeconomic class demographic trends

Entry Barriers: Economies of Scale

- Cost advantages that accrue to firms with larger output - Spread fixed costs over more units - Employ technology more efficiently - Benefit from more specialized division of labor - Demand better terms from their suppliers

Two things firms need to do to be profitable

- Create value - Appropriate the value created

Five Forces Framework: Step-by-step

- Define the industry or market: - Both Art & Science. Determine what products / services are in and out; Identify the key players - Map the key relationships: - Identify cooperative vs. competitive relationships - Identify issues that affect your market: - Think dynamically ... what trends exist? what will change in the future? What can be adapted? What can be shaped? - Sniff-test: - Is assessment in line with actual profitability? Are more profitable players better positioned vis-a-vis competitive forces?

Threat of Entry

- Describes the risk new competitors will come into the industry. Potential new entry depresses industry profit in two major ways: - Incumbent firms may lower prices to make entry appear less attractive - Threat of new entry may force incumbent firms to spend more to satisfy existing customers

Rivalry: strategic commitment

- Firm actions that are costly, long-term oriented, and difficult to reverse. - Strategic commitments to a specific industry can stem from large, fixed cost requirements.

Strategist cookbook:

- First step: PESTEL Analysis - How external factors affect the industry - Next step: Porter's Five Forces - The overall industry environment - Final step: Draw a Strategic Group Map - Explains performance differences in an industry

Strategic group: Strategic group map

- Identify important strategic dimensions - Expenditures on R&D, product differentiation, market segments - Choose two key dimensions - Horizontal and vertical axes Graph the firms in the strategic group - Each firm's market share indicated by the size of the bubble

Ecological factors

- Involve broad environmental issues Examples: natural environment climate change sustainable economic growth

Economic factors

- Largely macroeconomic, affecting economy-wide phenomena Examples: Growth rates Levels of employment Interest rates Price stability (inflation and deflation) Currency exchange rates

Entry Barriers

- Obstacles that determine how easily a firm can enter an industry and often significantly predict industry profit potential.

Rivalry: exit barriers

- Obstacles that determine how easily a firm can leave an industry. - Are comprised of both economic and social factors. - Economic factors such as fixed costs that must be paid (contracts with suppliers) - Social factors such as emotional attachments to certain geographic locations (autos)

Entry Barriers: Credible Threat of Retaliation

- Price war (industry profit may fall below cost of capital) - Increased product and service innovation - Advertising and sales promotions - Litigation

Supplier Power

- Reduce the industry's profit potential by capturing a bigger part of the economic value created - Suppliers demand higher prices or reduce the quality of input or service delivered

The Five Forces frameowrk

1. Threat of Entry 2. Supplier Power 3. Buyer Power 4. Substitution 5. Competition 6. Complements

Complementor

A company that provides a good or service that leads customers to value your firm's offering more when the two are combined.

complementor

A company that provides a good or service that leads customers to value your firm's offering more when the two are combined.

strategic position

A firm's strategic profile based on the difference between value creation and cost (V − C).

Competitive industry structure is captured by:

The number and size of its competitors The firms' degree of pricing power The type of product or service (commodity or differentiated product) The height of entry barriers

threat of entry

The risk that potential competitors will enter an industry.

Strategic Group

The set of companies that pursue a similar strategy within a specific industry.

strategic group

The set of companies that pursue a similar strategy within a specific industry.

Entry Barriers: Network Effects

The value of a product or service for an individual user increases with the number of total users.

network effects

The value of a product or service for an individual user increases with the number of total users.

Technological factors

capture the application of knowledge to create new processes and products