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4-1
distribution in any manner. This document may not be copied, scanned, duplicated, forwarded, distributed, or posted on a webs ite, in
whole or part.
Chapter 4
The External Environment
Chapter Summary
A firm’s external environment consists of three interrelated sets of factors that play a principal role in
determining the opportunities, threats, and constraints that the firm faces. This chapter describes the
complex necessities involved in formulating strategies that optimize a firm’s market opportunities.
The design of business strategies is based on the conviction that a firm able to anticipate future
dynamic nature of the business environment, an assessment process that narrows, even if it does not
precisely define, future expectations is of substantial value to strategic managers.
Learning Objectives
1. Describe the three tiers of environmental factors that affect the performance of a firm.
2. List and explain the five factors in the remote environment.
3. Give examples of the economic, social, political, technological, and ecological influences
on a business.
4. Explain the five forces model of industry analysis and give examples of each force.
availability, and competitive rivalry on a business.
6. List and explain the five factors in the operating environment.
7. Give examples of the influences of competitors, creditors, customers, labor, and direct
suppliers on a business.
Lecture Outline
I. The Firm’s External Environment
A. A host of external factors influence a firm’s choice of direction and action and, ultimately,
its organizational structure and internal processes.
1. These factors, which constitute the external environment, can be divided into three
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whole or part.
2. Exhibit 4.1, The Firm’s External Environment, suggests the interrelationship
3. In combination, these factors form the basis of the opportunities and threats that a
firm faces in its competitive environment.
II. Remote Environment
A. The remote environment comprises factors that originate beyond, and usually irrespective
of, any single firm’s operating situation: (1) economic, (2) social, (3) political, (4)
technological, and (5) ecological factors.
1. That environment presents firms with opportunities, threats, and constraints, but rarely
does a single firm exert any meaningful reciprocal influence.
B. Economic Factors
1. Economic factors concern the nature and direction of the economy in which a firm
operates.
a) Because consumption patterns are affected by the relative affluence of various
b) On both the national and international levels, managers must consider the
c) Prime interest rates, inflation rates, and trends in the growth of the gross national
2. The emergence of new international power brokers has changed the focus of
economic environmental forecasting.
a) Among the most prominent of these power brokers are the European
b) The EEC, whose members include most of the West European countries,
c) By fostering intra-European economic cooperation, it has helped its member
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whole or part.
C. Social Factors
1. The social factors that affect a firm involve the beliefs, values, attitudes, opinions, and
a) As social attitudes change, so too does the demand for various types of
b) Social forces are dynamic, with constant change resulting from the efforts of
2. The increasing awareness of the market power of Hispanics in the U.S. has
reached almost every business sector.
3. One of the most profound social changes in recent years has been the entry of
large numbers of women into the labor market.
a) This has not only affected hiring and compensation policies and the resource
b) Firms that anticipated or reacted quickly to this social change offered such
4. A second profound social change has been the accelerating interest of consumers
and employees in quality-of-life issues.
a) Evidence of this change is seen in recent contract negotiations.
b) In addition to the traditional demand for increased salaries, workers demand
5. A third profound social change has been the shift in the age distribution of the
population.
a) Changing social values and a growing acceptance of improved birth control
b) This trend will have an increasingly unfavorable effect on most producers of
c) Producers of hair and skin care preparations have already begun to adjust
d) A consequence has been a sharp increase in the demands made by a growing
e) Constrained by fixed incomes, senior citizens have demanded that arbitrary
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whole or part.
f) Such changes have significantly altered the opportunity-risk equations of
6. Cutting across these issues is concern for individual health.
a) The fast-food industry has been the target of a great deal of public concern.
7. Translating social change into forecasts of business effects is a difficult process, at
D. Political Factors
1. The direction and stability of political factors are a major consideration for
managers on formulating company strategy. Exhibit 4.3, Strategy in Action,
profiles the frustrations of unions with President Barack Obama.
a) Political factors define the legal and regulatory parameters within which
firms must operate.
b) Political constraints are placed on firms through fair-trade decisions, antitrust
2. The direction and stability of political factors are a major consideration when
3. Political activity also has a significant impact on two governmental functions that
influence the remote environment of firms: the supplier function and the customer
function:
a) Supplier Function
(1) Government decisions regarding the accessibility of private businesses
agricultural products will affect profoundly the viability of the
b) Customer Function
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whole or part.
(1) Government demand for products and services can create, sustain,
(2) Note examples in the text from the Kennedy, Carter, Reagan, Clinton,
E. Technological Factors
1. The fourth set of factors in the remote environment involves technological change.
a) To avoid obsolescence and promote innovation, a firm must be aware of
b) Creative technological adaptations can suggest possibilities for new products,
2. A technological breakthrough can have a sudden and dramatic effect on a firm’s
environment.
a) It may spawn sophisticated new markets and products or significantly shorten
the anticipated life of a manufacturing facility.
forecasting.
(1) Technological forecasting can help protect and improve the profitability
F. Ecological Factors
1. The most prominent factor in the remote environment is often the reciprocal
relationship between business and the ecology.
a) The term ecology refers to the relationships among human beings and other
b) Threats to our life-supporting ecology caused principally by human activities
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whole or part.
a) A change in atmospheric radiation, due in part to ozone depletion, causes
3. Another area of great importance is the loss of habitat and biodiversity.
a) Ecologists agree that the extinction of important flora and fauna is occurring
4. Air pollution is created by dust particles and gaseous discharges that contaminate
the air.
a) Acid rain, which can destroy aquatic and plant life, is believed to result from
5. Water pollution occurs principally when industrial toxic wastes are dumped or
leak into the nation’s waterways.
a) Fewer than 50 percent of all municipal sewer systems are in compliance with
6. Land pollution is caused by the need to dispose of ever-increasing amounts of
waste.
a) Routine, everyday packaging is a major contributor to this problem.
7. As a major contributor to ecological pollution, business is now being held
8. Environmental legislation impacts corporate strategies worldwide.
a) Many companies fear the consequences of highly restrictive and costly
environmental regulations.
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whole or part.
b) Some manufacturers view these new controls as an opportunity, capturing
9. Despite cleanup efforts to date, the job of protecting the ecology will continue to be
a top strategic priority.
a) Stockholders and executives choose this, while increasingly the public and
10. Benefits of Eco-Efficiency
a) Many of the world’s largest corporations are realizing that business activities
must no longer ignore environmental concerns.
(1) Every activity is linked to thousands of other transactions and their
(2) Because of increases in government regulations and consumer
b) Stephen Schmidheiny, chairman of the Business Council for Sustainable
Development, has coined the term eco-efficiency to describe corporations that
c) There are four key characteristics of eco-efficient corporations:
(1) Eco-efficient firms are proactive, not reactive. Policy is initiated and
(2) Eco-efficiency is designed in, not added on. This implies that the
(3) Flexibility is imperative for eco-efficient strategy implementation.
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whole or part.
(4) Eco-efficiency is encompassing, not insular. In the modern global
III. International Environment
A. Monitoring the international environment, perhaps better thought of as the international
C. Exhibit 4.7, Global Strategy in Action, lists economic, political, legal, and cultural
factors used to assess international environments.
be considered.
IV. Industry Environment
A. Harvard professor Michael E. Porter propelled the concept of industry environment into the
foreground of strategic thought and business planning.
1. The cornerstone of Porter’s work first appeared in the Harvard Business Review, in
2. Porter’s well-defined analytic framework helps strategic managers to link remote
V. How Competitive Forces Shape Strategy
A. The essence of strategy formulation is coping with competition.
1. While we sometimes hear executives complaining to the contrary, intense
2. Moreover, in the fight for market share, competition is not manifested only in the
other players.
a) Competition in an industry is rooted in its underlying economics, and
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whole or part.
3. The state of competition in an industry depends on five basic forces, which are
diagrammed in Exhibit 4.8, Forces Driving Industry Competition.
a) The collective strength of these forces determines the ultimate profit
potential of an industry.
4. In the economists’ “perfectly competitive” industry, jockeying for position is
unbridled and entry to the industry very easy.
a) This kind of industry structure, of course, offers the worst prospect for long-
b) The weaker the forces collectively, however, the greater the opportunity for
5. The corporate strategists’ goal is to find a position in the industry where his or her
company can best defend itself against these forces or can influence them in its
6. Knowledge of the underlying sources of competitive pressure provides the
groundwork for a strategic agenda of action.
a) They highlight the critical strengths and weaknesses of the company, animate
b) Understanding these sources also proves to be of help in considering areas
VI. Contending Forces
A. The strongest competitive force or forces determine the profitability of an industry and
so are of greatest importance in strategy formulation.
1. Different forces take on prominence, of course, in shaping competition in each
industry.
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whole or part.
B. Threat of Entry
1. New entrants to an industry bring new capacity, the desire to gain market share,
and often substantial resources.
a) The seriousness of the threat of entry depends on the barriers present and on
2. Economies of Scale
a) These economies deter entry by forcing the aspirant either to come in on a
3. Product Differentiation
a) Product differentiation, or brand identification, creates a barrier by forcing
entrants to spend heavily to overcome customer loyalty.
4. Capital Requirements
a) The need to invest large financial resources in order to compete creates a
b) Capital is necessary not only for fixed facilities but also for customer credit,
c) While major corporations have the financial resources to invade almost any
5. Cost Disadvantages Independent of Size
a) Entrenched companies may have cost advantages not available to potential
rivals, no matter what their size and attainable economies of scale.