Understanding the business environment and the drivers of change. Opportunities and threats: PESTE,...

Understanding the business environment and the drivers of

change.

Opportunities and threats: PESTE, market forces and the forces of

competition, scenarios.

Understanding the environment 2

Environment


John’s seminar approach

• Describing the business as it is.

• Understanding the drivers of performance.

• Understanding the drivers of the environment.

• Understanding the options for developing the business.


Understanding the drivers of business performance

Understanding the business/ assessing performance

Understanding business environment/ driversof change

Understanding options for business/ corporate development


Coming from/ going to • We have been examining the characteristics

of the business, and the drivers of business performance.

• Our ultimate goal is to consider the options for the future development of the business, to maintain or to improve its performance as a value creator.

• But before we do this we must consider the environment in which the business will be operating in future.


Opportunities and threats

• Understanding the environment in which the business will be operating in future is crucial because the business must continue to look for opportunities to develop and use its resources and capabilities AND of course it must seek as far as possible to protect its value creating activities and resources from changes in the environment which can threaten their current value.


• The point is therefore to understand the business environment and the drivers of change in order to help prepare the business for the future. Recall our definition of the firm:

• Firms exist to motivate and co-ordinate the search for value, by searching for, exploiting, and protecting valuable opportunities.


Every case is different

• We said before that business’s vary a lot, and this is true also of the business environment. The environment of a fashion business is different from that of an electricity business. For example in one, six months is a long time, in the other it is more like six or even sixteen years.

• So as before we need to think about the characteristics of the environment of a particular business and their strategic significance. The best strategists combine deep understanding of a particular business and its particular environment with the ability to conceive options and implement change.


• As before, for any case study you are faced with this background is unlikely to be fully specified so a bit of thought and research may be necessary to fill this out.

• As before, there are lots and lots of things to consider about the environment but the objective is to try to identify and focus on the strategically significant for the business being studied.

• This is the point of the tools and techniques discussed in the course notes (PESTE, scenarios etc.)

• Again I would make the point that the information you develop needs to inform your analysis of a case but it will not always be necessary or possible to spell it out in full.


Strategy and the future • Look back to our many views of strategy, to Prahalad and

Hamel for example who talk about competing to shape the future, of identifying tomorrow’s opportunities, of building tomorrow’s competencies. Or PA consultants, understanding the complex dynamics of the relationship between the business and its changing environment. Or Brown and Eisenhardt, managing change. Or Kees’s view in your course notes of the concept of strategy.

• Strategy is forward looking by definition and explicitly or implicitly it is about the complex relationship between the organisation, its performance and its changing environment.


The business of success

• Who is most likely to succeed?

• Those who create&shape the future/

• Those who anticipate it and are prepared for it?

• Those who react after it has happened?

• Those who try to ignore it?


Point of the exercise? • Immediate point is about the exam case where it will be

crucial to consider the changing environment of the case business and to examine opportunities and threats carefully with a view to discussing how the business is to prepare for the future.

• More generally a failure to understand and act on the implications of environmental change can bring a company as successful and powerful as IBM to its knees. Look also at Marks and Spencer in the UK.

• On the other hand the ability to spot emerging opportunities and exploit them early was the making of Nokia, Dell, Sony, Cisco, and Turner Broadcasting et al.


Team Tasks • For your chosen case company consider the nature

and significance of environmental changes and the key factors driving opportunities for and threats to the business in the future.

• Do a PESTE type analysis, consider the different elements of market forces and of the five forces analysis which impinge on market attractiveness, consider underlying cost drivers, consider the possibility of hypercompetition, and try to develop some likely scenarios, if appropriate for the business, and how these might impinge on the business.


References guide • Material on this topic is found in,

• Buspol chapters 3 and 4.

• Busecon chapters 2,5,6, and 7.

• Kees van der Heijden’s book on scenarios.

• Web sites such as McKinsey and Marakon.

• Woods, D’Aveni, Foster-Kaplan (McKinsey) et al specifically look at the complex nature of the ‘new economy’ businesses and the complex environment in which they operate. These could easily form a basis for an optional advanced course in SM for the ‘new economy’!


Opportunities/ threats • Our focus is on opportunities and threats

• The potential for innovative thinking about value creation in the future, to leverage existing resources and capabilities further and/or to build new resources and capabilities for the future.

• What/where are the opportunities for improving good or average performance or turning around poor performance?

• What are the potential threats to existing performance, threats to the value of positions and assets and capabilities from changing tastes, technologies, social trends, government policies, market and competitive forces.


Types of environment• Some general considerations might be: • Changeability: likelihood of change. • Complexity: number of things which might change. • Novelty: the degree to which change creates really new

situations.• Predictability: degree to which change can be predicted.• Speed and dynamics of change.• And these interact to influence overall environmental

turbulence from low to extreme. • The hotel business faces change but to a lesser extent than

the oil sector which is less than telecoms (or is it?).


Dimensions of

• Your course notes describe a way of dividing the environment into two parts:

• the contextual environment which is the subject of PESTE analysis and

• the operating environment which is the subject of industry analysis (5 forces) and market segmentation/ competitor analysis.


From macro to micro env’t.

• PESTE analysis: things which might affect you but you can’t affect them much (macro).

• Industry/ 5 forces analysis: things which might affect industry/market level profits (such as new entry) but which to some extent you might be able to influence (meso).

• Analysis of your competitors (S/W’s, possible actions?) and your potential customers (segmentation analysis) to inform your own actions (micro).


• Note however the overlaps. The contextual environment such as technological change impacts on competition through for example the development of substitutes, and competition can impact on technology through R&D spending by firms. Technological change is part of the env. for some firms but part of the competitive process for others. Also government policy on M&A’s, collusion, foreign investment impact on firm rivalry.


PESTE• This stands for POLITICS,ECONOMICS,

SOCIETY, TECHNOLGY, AND (NB) THE (physical) ENVIRONMENT .

• Things which might affect you and to which you might need to respond or adapt. Changes in interest rates, government policies, new technologies, environmental concerns, etc. Examine some of these further (see below).

• (See also checklist in course notes). • See also your notes page 3.8 (PA model/ next slide) for a

useful way of organising your thoughts on this.


Economy (E)Politics and policies(P)

Technology (T)The Environment

Demography and lifestyles (S)

Markets

Customers/suppliers

CompetitorsOppos Threats


PESTE: some dangers • PESTE type checklists can easily become

meaningless laundry lists as people think of more and more things to add to the list. In any specific case it will not be the length of the list that counts but its usefulness in identifying meaningful opportunities and threats and considering their implications for the business. In this sense it may be seen as a prelude to scenario development.


PESTE process • Therefore to keep things in perspective PESTE should try

to focus on specifics. • What aspects of the macro economy are relevant to us,

what aspects of technology, of politics and policies, etc. • How exactly will the future differ from the past. • Think from the inside out, from a knowledge of the

specifics of the business (considered in detail earlier), to those aspects of the environment which seem likely to be most relevant.

• Don’t worry too much about what information goes into which category, some changes transcend categories.

• PESTE is not just for collecting and sorting ideas but for encouraging you to think about the implications of change.


Key factors for success• A possible focus tool is the KFS concept. The KFS are

those factors which are believed to be critical for survival in a particular industry.

• For example the KFS in cosmetics are likely to be different from the KFS in steel or oil.

• For example if the KFS in a market is control of labour costs then such things as wage trends, taxation, union strength, government policy on redundancy and pensions, demographics will matter. But if the KFS is effective logistics or quality or new product development your focus will need to be be different.


Basic questions again • Another possible focus tool is to consider how

changes might impact on:• What you do• How you do it • For whom you do it • With whom you do it • Against whom you do it • Where you do it • And on what basis you do it.


Politics and public policy• Governments play the major role in all modern economies,

although in some more than others!, in terms of overall macroeconomic management, tax policy, education and health, regulation of industry and finance, industry policies (national champions, subsidies to favoured sectors, incentives for multi-national investment), competition policies (cartels and mergers), public ownership, trade policy, technology policy, employment policy, environmental policy, welfare policy, housing policy, …

• All of which impact the general business environment although on some more than others.


• Developments in government policy can create opportunities for business and threats. In recent years in many countries governments have reduced their involvement in business through privatisation and reduced regulation. But governments have also placed more emphasis on competition and market forces which can make life harder for business (Msoft!)

• Governments also play a crucial role in establishing standards. Remember Nokia in telecoms? TV broadcast standards. Banking reserve standards.

• Government expenditure is particularly crucial in areas such as health, transport, defence, education, construction, and defence.


The economy• Major economic trends (national, regional, global?

depending on the business) to be considered in output growth,productivity growth, employment growth, labour costs, inflation, exchange rates, international trade, balance of payments, interest rates, business cycles, financial stability, government finances, government debt levels, tax policy, investment trends of public and private sector, consumer expenditure trends, overseas investment, infrastructure investment, cost trends in energy, transport, communication, …..

• 2001 world slowdown is affecting your business.


Macroeconomy and forecasting• Many organisations (OECD, World Bank, IMF,

IMEDE, Economist.com) provide macroeconomic forecasting services for the world economy, regions such as SE Asia or Europe, nations such as Malaysia or Singapore.

• Perman/ Scouller text has 2 chapters on macroeconomics and forecasting techniques if you are interested in the technical background beyond the course notes. I have recently written a new chapter for GSB Understanding the Business Environment (UBE) course specifically on understanding trends in the macroeconomy.


Society

• Trends in culture and values, lifestyle changes, education and health, demographic change, school leaving age/ retirement age trends, attitudes to work and wealth, trends in income distribution, attitudes to saving and spending, emigration and immigration, attitudes to government and politics, to the environment, sex and race equality, attitudes to and demand for product safety.


Five decisive social changes

• The reshaping of family life• Weakening of social ties and rising crime• Decay of social institutions • Structural unemployment especially in Europe

(&Japan?)• Mosaic society (multi-culturalism) except in

Japan. • Salmon, Scanning the global environment 1999


For example • I understand that the demographics of Singapore,

ageing population and low birth rates, are a current cause for concern.

• This will affect demand on local businesses and services and the supply of local labour. Local businesses may already be factoring in future labour shortages/ rising costs to their calculations and the government will be discussing immigration policy, retirement age, and retraining.

• NB however, since these trends are quite clear they would not figure in any scenarios you might build (discussed later).


Technology • Technological change is a pervasive fact of life for

business nowadays, not just so called hi-tec businesses. Technology impacts on product development, on production processes, on logistics, on organisation, on the supply chain, on communication with customers, on the chain of substitutes, on new entry, on the need for partnerships, on employees, training , and so on.

• Electronics, communications, new materials, new pharmaceuticals, new sources of energy, IT, …….


New technologies

• Genetics (cloning etc)• Neurosciences • New materials (ceramics)• Nano-technology (machines for making machines)• IT progress (is there a limit to microchip power?)• Salmon, Scanning the global environment 1999


Two sided coin

• There are of course two sides to consider. • Technology is a threat to some businesses (newspapers?)

but it also opens tremendous opportunities as well. The trick is to try to be on the right side of the coin.

• Thus newspapers as hard copy products may decline but the demand for content (news and information and good features) will not. So a newspaper business that wants to stay in business needs to realise that its no longer about producing hard print on expensive paper but delivering value electronically. The Financial Times in the UK is moving this way already.


Environment • An increasingly important part of the environment of many

businesses such as oil or autos is concern for the physical environment. Pollution, ozone layer, CFC’s, environmental degradation, damage to land and seas.

• This has created legislative pressures in many countries and increasing pressure on business to reduce environmental costs.

• Pressure from consumers for more environmentally friendly products has increased. Fuel efficient cars, low water use washing machines, longer life light bulbs, low pollution batteries, less harmful products in general.

• These concerns keep growing: GM foods for example where there is great consumer resistance in Europe.


General points • Some general considerations for PESTE: globalisation,

financial interdependence, rapid information flows, e-commerce, speed of adoption of new products, diminishing returns to R&D?, ageing populations, regional blocs, changing role of the state, demand for health services and financing health, the anti-globalisation-anti-capitalist movement (Seattle, Prague, London), US boom/bust and the ‘new economy’ claims, OPEC revival, Japan’s comeback?, China’s dilemma, environmentalism, global terrorism, stock market over reaction, shortening product life cycles, speeding up of information flows, increasing transparency of prices due to internet, ……….


The ‘new’ economy

• Which refers to the way in which IT continues to revolutionise the world economy.

• This will figure in many PESTE’s. I recommend in particular the following sources:

• Economist magazine, Sept. 23rd 2000, and web site, economist.com/surveys/neweconomy/ and regular new technology updates.

• and Meta-capitalism by Means and Schneider, published by Wiley.


Implications of change • The problem is working out exactly what it all means for

your business/case. First we can try to narrow our focus to consider factor markets and then the industry/ market level and consider what it all means for ‘market attractiveness’.

• How will changes impact on demand and supply.

• On demand growth, differentiability, segmentability, the development of substitutes/ complements and so on.

• On supply growth, and the elasticity of supply.

• On competition and rivalry?

• This takes us back to the P 5 forces model as a way of organising our thoughts. See below.


However

• Of course whilst existing markets will still be important (autos, banks, drugs, education), the really valuable opportunities are likely to be found in markets now evolving or barely defined yet.

• This is where the real entrepreneurial action will be found. As argued by Prahalad and Hamel in ‘Competing for the Future’. .


P&H on the future • We are standing on the verge of a revolution. It will

be the environmental r, the genetics r, the material r, the digital r, and the information r. Entirely new industries will be born. Existing industries will be transformed. Competition is for share of opportunities in the evolving markets, as opposed to market share in existing markets. Competition is to gain a deeper understanding of the drivers of change and to shape the new industry. Competition is to develop the necessary competencies and assemble the necessary resources and partners.


So • If you want the real entrepreneurial action you will

be studying the environment for the sort of opportunities that in 5/10 years will make you a Microsoft or an Nokia.

• And whilst this will still involve thinking about demand potential, segments, and the drivers of market competition it will be at a different, more speculative, level than a standard 5 forces analysis of the text book.

• For the rest of us, we can try using the 5 forces approach to structure our thoughts.


Factor markets • Capital markets: cost and availability of capital.

Stock markets, banks, venture capital. • Labour markets: cost and availability of labour.

Skilled workers, managers, engineers and scientists.

• Technology markets: cost and availability of technology.

• Energy: cost and availability of energy. • Locations: cost and availability of good locations/

sites.


Implications • S/D relations. Generally if changes increase

demand faster than supply then this will be good for profits. But if supply increases faster this is not so good.

• Differentiation. Will changes make this easier or will it encourage commoditisation.

• Segmentation. Will changes make this easier or harder. How will it change segments.


Implications of PESTE• Failure to spot and understand important changes

can create major problems. • Retailers who miss demographic/ lifestyle changes

(Marks and Spencer?), oil companies who miss environmental concerns (Shell in Europe), auto producers who over-estimate the strength of the European economies, banks who failed to see the financial meltdown coming in SE Asia a few years ago, music recording companies who weren’t prepared for Napster, insurers and the new terrorism!


An example • Usinor-Sacilor (French steel maker) in 1990:• Increasing European economic integration (single market)• Likelihood of a severe recession in the early 90’s. • Changes in steel making technology • Increasing overseas competition for European markets

especially from former communist countries.• Increasing concern about environmental impacts of

smokestack industries • Increasing European rules on national subsidies to troubled

businesses.• French government leaning towards privatisation • Difficulty in reducing workforce in France


Scanning systems • A lot of potentially useful info is ignored. Look at

how the US underestimated the terrorist threat. • Organisations need formal scanning systems to

search for, analyse, interpret, store, disseminate, and utilise what is available.

• The goal of the scanning system is to detect signals of opps and threats.

• Scanning must be organised not left to chance. • Salmon, Scanning the global environment 1999


Scanning at L’Oreal

• Societal: eg effects of ageing. • Geopolitical: eg rise of China • Technological: eg ceramic powders • Competitive: eg shifting boundaries between

health and cosmetics sectors• Markets; eg trends in distribution • Legislative: eg health care budgets • Geographical: eg emerging market opportunities

in Asia.


ABC of competitive intelligence • Understand the forces driving competition • Attempt to break traditional mind sets• Build state of the art scanning systems • Understand what is driving performance • Listen, scan, share, learn together, exploit what

you learn • Be aware of the potential for info being ignored,

misunderstood, suppressed, not reaching the right people, not acted on and so on.

• L’Oreal again


The industry life cycle• An intermediate set of factors between PESTE and

P5 forces. • Four stage cycle: introduction/emergence, growth,

maturity, stagnation/decline. A simplification and there are exceptions. And of course firms may try to influence the cycle.

• The important thing is looking for the shifts between stages. Look back at the PC industry. When did it mature? How did the internet impact on this. Is it now stagnating? What are the players doing about this? Because these shifts will have important implications for competition.


Industry/ market attractiveness

• Following a PESTE analysis the next thing to consider would be a 5 forces analysis in order to consider what might happen to o/t’s at the industry/market level.

• Recall what P calls the structural attractiveness of a market determines the average profitability of the market and this can be analysed using his 5 forces model.


• The 5 forces concern the factors which influence market demand, (customers and substitutes), and supply, (rivals, entrants, and suppliers). So looking at these forces helps us understand future developments in industry/market performance.

• Such an analysis could be done for your current market(s), or might be done for other markets where you believe diversification possibilities exist at home or abroad.


Structural attractiveness• Refers to the intensity of competition in and for a market

and the relative power of customers and suppliers.

• Intense competition, rapid and easy entry, close substitutes, powerful suppliers and customers, act to make a market ‘unattractive’. This is the PC model of the textbook.

• The absence of rivals, high barriers to entry, absence of close substitutes, weak customers and suppliers, makes a market very attractive for the incumbent. This is the text book model of monopoly. (demonstrate?)

• What happens in between, in oligopoly , we will consider in a moment. Also the ‘sixth’ force, complementors.


Porter’s 5 forces model

IndustryProfits

RIVALRY

NEW ENTRY

CUSTOMERS

SUBSTITUTES

SUPPLIERS


Rivalry (oligopoly) • On the supply side of the equation the key factor

is the behaviour of existing firms. The possibilities are varied so it is difficult to predict what might happen in general but some generalisations are possible.

• Under perfect competition, supply adjusts to demand through a combination of existing firms expanding and new firms entering.

• Under monopoly, supply adjusts simply by the monopolist choosing a new output to max profits. (so there is no supply function under monopoly).


• In oligopoly we have a more complex set of possibilities. Here existing firms must recognise their interdependence. Dell can hardy ignore Compaq for instance and vv. (why not?) What Dell does affects Compaq, and vv. So in making its supply choices Dell is likely to wonder about what Compaq will be doing and vv. Potential entrants must recognise the possibility of retaliation.

• In principle the firms involved have a choice. Co-operation (collusion) or non-co-operation.

• If the firms can’t or won’t co-operate what happens? Dell has to decide its own future capacity independently whilst recognising that Compaq’s choice of capacity will affect the profitability of its decision. We can model this sort of interaction using game theory logic and the outcome is...


• The profitability of the market will depend on the number of firms interacting (size distribution also affects result) and product differentiation.

• Thus a 2 firm industry with product homogeneity will achieve around 2/3rds of the monopoly level of profit but as numbers increase profits decline until they disappear altogether with about 8 firms. (Results based on simple math models as in Perman Scouller chap 8).

• But the same models with the firms producing a differentiated product creates a superior outcome for the rivals and a slower rate of attrition as numbers increase.

• So small numbers and product differentiation tend to be helpful for profits but not always easy to arrange!


Co-operation/ collusion • Rivals may try to avoid squeezing profits by co-

operating to manage rivalry. Devices such as cartels and price leadership.

• The incentive is to organise the independent firms to act AS IF they had a monopoly.

• But it can be difficult. It may be illegal, some firms may not want to join, some may join but cheat and so on.

• And even if you succeed you may just attract new entrants!


New entry • On the supply side the other key factor is therefore the

likelihood of new entry to the market.

• If the industry is achieving supernormal profits it will be ‘attractive’ for people to shift resources into it as new entrants. This could be via the creation of new firms or existing firms diversifying into a profitable market.

• If this happens of course supply increases and profits decline. This is a familiar story.

• Barriers to entry are factors which discourage or slow entry of new suppliers and so protects incumbents.

• (NB if the industry is not profitable then exit, and barriers to exit, becomes an important factor).


Barriers to entry • Some examples are scale barriers, absolute cost

barriers (first mover advantage), patent barriers, licences, control of the distribution network, riskiness of entry, brand proliferation by incumbents.

• If entry happens then supply increases and profits are affected. If entry is very easy then the market is said to be contestable and the outcome is zero super normal profits.

• So discouraging new entry is a major strategic objective of incumbent firms.


So • Looking at a particular market the questions should be: are

numbers rising/ falling?, is concentration rising/falling, is differentiation getting easier/harder?, is collusion getting easier or harder to maintain?, are barriers to entry rising or falling?. If it appears that competition is intensifying and supply getting ahead of demand then caution is in order unless of course you believe your special qualities will allow you to thrive even in a tough market. On other hand if competition is subdued and demand keeping ahead of supply then profits should be easier to come by.

• BUT always remember that if you can work this out so presumably can others and it then becomes a question of how long attractiveness can last.


Competitive processes• Imitation/replication: good ideas get stolen! • Commodification: innovative new products evolve into

commodity products. • Technological change: upsets industries and creates

new competition from unexpected sources. • New entry: dissipates first mover advantages. • Globalisation: competition from across borders. • Information/ communication costs: are falling. • Deregulation/liberalisation/ opening up of of markets: • Competition policy: more aggressive.


Suppliers

• The trend in market supply is also influenced by suppliers of course. If input costs are falling (chips, hard disks, steel) then this will tend to encourage supply and lower prices of final products.

• But suppliers also represent potential entrants through forward vertical integration.


Costs and market structure • A question you may well be asking is what

determines market structures? The number of firms operating in a market (1 or 21), concentration, entry barriers, differentiation. This is complex and has to do with a mix of forces such as technology, the actions of firms themselves, and public policies.

• A fundamental factor however is undoubtedly cost drivers and structures.


Costs cont. • Economies/ diseconomies of scale at the plant

level and firm level affect the scale of operations and scale of (multi plant) firms.

• Learning costs give first movers an advantage. • Transport costs give local producers an advantage.

• Development costs are vital in many cases because

you need to be able to amortise them over large volume of sales.

• Costs of entry and exit are important, particularly the role played by sunk costs.


Understanding costs • Therefore understanding the developing competitive

environment is about trying to understand where industry cost drivers are pointing and the related oppos and threats

• If cost factors (scale, development costs, transport costs) are pointing to the increasing importance of scale (autos, aircraft, accounting services, universities) then numbers must fall and concentration will increase. You either get bigger or you get out.

• If cost factors are favouring smaller, less integrated, more focused, more nimble firms then numbers will increase (US steel industry, advertising agencies?).


• Costs are also vital factors in entry and exit. • For example take the role of sunk costs. A

potential entrant faces greater risks if sunk costs are high: first because you may lose your investment, second because the incumbent will be more aggressive.

• Sunk costs also raise the cost of exit and so make for difficulties in reducing capacity in times of oversupply. If you have sunk costs in opening a new plant you will tend to keep producing as long as you can cover production costs.


• And costs also play an important role in organising and maintaining collusion.

• Collusion requires negotiation of agreements, monitoring of behaviour, and enforcement if people cheat, as they tend to do.

• Crucial here will be the costs of detecting the cheats and punishing them. If detection costs are high and effective punishment difficult then collusion will break down.


Costs and p differentiation • Product differentiation can be expensive. If based

on branding of similar products such as colas/ soap powders we get large advertising/sponsorship budgets. If based on ongoing product improvements (autos/aircraft/ software) we get large development budgets. If based on new product introductions (chips/ drugs) we get large R&D budgets. Either way size counts cause there are strong scale economies in marketing, development, and R&D. Such industries will generally become tight oligopolies therefore.


Differentiation cont.

• It is only worth making such investments if they have a pay-off (add value). That is if consumers are prepared to pay a premium for the branded products, the improved products, the new products. Sometimes they are and sometimes not. Differentiation is not always viable therefore.

• Product differentiation may also make entry more difficult which would be an added benefit to offset the costs involved.


Costs in the ‘new’ economy • Network effects: in some markets the value of a product

to new consumers depends on how many already use the product. This lowers the costs of attracting new customers. Demand can take off and grow very rapidly (mobile phones) to the advantage of early movers such as MS in software and Nokia in mobiles.

• Sunk costs and near-zero marginal costs (MC): creating software/ music is expensive and costs are sunk but the MC of production are then very small. Competition may force prices down to MC levels, ie to near zero! Investment would be too risky. How to deal with this? Differentiation/ versioning/ price discrimination….

• Liebovitz&Margolis:Winners,Losers&Microsoft,1999


Network effects in pharmaceuticals

• The effect has been identified in other sectors. • The demand for branded drugs depends on the

number of patients already taking the drug. The effect is informational in nature. Patients prefer commonly used drugs and physicians prefer them also because it reduces risks of malpractice claims.

• So first movers in a market, say for anti-ulcer drugs, can become dominant quickly and make it hard for followers even with better products.

• NBER, 1999


Customers• Now consider the demand side of the

equation. Here the key factors will be the growth of demand, which depends on ?? The opening up new markets. The development of substitutes. And the availability of complementors.

• Also relevant will be changes in consumer power or customer power in the market (one of the 5 forces).


Substitutes • The development of substitutes shifts the industry demand

curve inwards and makes it more elastic. So any signs of substitutes being developed or getting closer than before is a threat. But it might also be an opportunity. If one product comes to be seen as a closer substitute for another the reverse is also true. So if bottles are threatened by cans, cans are threatened by bottles. If plastics threaten steel in some uses steel may come to be seen as a substitute for plastic in other uses. Generally however the development of substitutes is likely to be seen as bad news.


Consumer power? • Are the customers gaining or losing power relative to

suppliers.

• For example in the ‘new economy’ customers in many cases are gaining power because of the increasing availability and transparency of price and quality information. This makes comparison shopping very easy and saves a lot of time and effort. This is happening in the auto market, at least in UK, and in book selling (Amazon effect), and in banking (easier to compare rates and easier to swap accounts).

• Think of how easy it is to compare the price and configurations of different pc’s these days compared to the days when IBM ruled the world.


Consumers • Another important element of customer power has

to do with switching costs. • If consumers get ‘locked in’ to products, ie find it

expensive to switch to another product, this is good news for sellers.

• Most of us find it easy to switch our soap powders, but harder to switch banks, and much harder to switch operating systems. So Microsoft has considerable power over us but Proctor and Gamble hasn’t.


Customers • Of course for many businesses the customer will be

another business and not the final consumer. If Ford or IBM is your main customer then you face a tougher life. They can exercise a lot of power over suppliers, often in fact dictating prices and monitoring quality. Also it will be in their interest to encourage competition and development of substitutes. The pressures they are under in the market are rapidly transmitted to the supply chain and suppliers can either get on or get out.

• Switching costs may help suppliers a bit because Ford or IBM may face some costs of switching in some areas.


Customer’s customer • In such cases suppliers need to understand

not only their customer’s needs (Ford, IBM, Dell, Nokia) but the needs of the customer’s customers. The final consumers. And how these needs are developing.

• Ford, Dell etc are really just intermediaries between you and the consumer where the opportunities and threats are likely to be.


Government as customer• For some businesses the government may be the

biggest customer. The US government must buy a lot of PC’s and photocopiers, and of course tanks and missiles as well. For things such as prescription drugs the government may not be the customer but might be the bill payer.

• The government is likely to be a powerful/ demanding customer pushed by tax payers to seek value for money. It has the resources to negotiate its needs carefully and monitor business performance and quality.


Complementors• As we have seen, products/services the availability

of which make your product/service more valuable to consumers. Cars/ roads. PC’s/ printers.Lap-tops/batteries.Recorded music/ hi-fi.

• Hence can influence the potential profitability of a market. Without good software there would be smaller PC industry and a lower demand for chips. Without faster chips the demand for software upgrades would slow. Without improved hi-fi formats the demand for recorded music slows. The significance of all this varies.

• See Nalebuff, Co-opetition, 1996


Comp’s cont. • First, may require deliberate efforts to manage the

co-development of products. Msoft and Intel are closely involved, Boeing and Rolls-Royce.

• Second, there may be opportunities for product development. TV makers produce video players, universities build and rent accommodation, banks offer business borrowers advisory/tax services.

• Third, there may be opportunities for/ threats to one of the parties from the other seeking to go it alone. Ford into auto finance and insurance, Boeing into engine making, Coke into fast foods? Sony into producing music? Others?


• Need to consider therefore the possibility of changes and how this would affect you. Becoming more dependent on complements or less as the world changes. The changing availability or quality of complements. The speed of development of complements. The possibility of a producer of complementary products becoming a challenger. Boeing into aero engines. The opportunity to influence the development of complements. The possibility of collaboration or merger.

• Think what decent roads would do for the demand for cars in Africa?


The nature of competition • Firms compete in different ways, or different

combinations of ways, and this will change over time and has to be watched.

• Price competition • Marketing/ advertising/ differentiation • Product development investments • Innovation investments • Litigation; as in the case against MS or the way in

which Intel is said to behave towards challengers.


Industry recipes • Ingrained industry routines called ‘recipes’ by

Spender (OUP, 1989). • Recognised patterns of competitive interaction

such as for clothing retailers the introduction of new lines and annual sales.

• Actions that do not change the ‘rules’ and are understood by competitors. Not challenging an accepted leader. Avoiding TV advertising.

• Signals the tacit acceptance that without some rules competition can harm all the players.


The ‘new’economy environment • Authors such as D’Aveni (hypercompetition book)

who identify a changing competitive environment ‘beyond’ our previous understanding of the term.

• Where things are speeded up, industry boundaries less clear, opps&threats appear from unexpected directions, competition is more aggressive, attackers have the advantage, change relentless, technology unpredictable, risks are great, the biggest risk is waiting to see how things work out.

• How radical has this shift been? How different is ‘hypercompetition’? See evidence slide.


Hypercompetition/D’Aveni• The Hypercompetitive environment characterised

by rapid change, frequent shifts of strategies, fast-aggressive competitive moves, temporary advantages only, constant disruption of the status quo, need to dominate, create and destroy approach to business, speed, unpredictability, surprise, stretch not fit.

• Hypercom is spreading, it is not just in hi tec industries but in traditional areas like financial services.


Competing for the future/ Prahalad and Hamel

• Competing for tomorrow is about:• Share of opportunities not market share• Creating required competencies not fit• Competition between complex corporations and their

‘competence portfolios’ not products or even businesses• Integrated systems (partnerships) not stand alones• Perseverence&commitment not just speed• Unstructured arenas where the rules are unwritten,

industry boundaries undefined• Multistage competition (competition for foresight,

intellectual leadership, accumulation of competencies, shaping the industry, market position).


Competing on the edge • Unpredictable, it is all about surprise, moving and

learning• Uncontrolled, cannot be planned or orchestrated,

initiative has to be decentralised• Inefficient, it is about trial and error so must

expect waste, using change to learn • Proactive, don’t wait anticipate • Continuous, repeated relentless change not one off

transformations • Diverse, making lots of moves in search of the

right one.


McKinsey• In the new environment the advantage is in attacking

not defending. You must be prepared to destroy as well as create. Success is harder to find and harder to sustain.

• New environment is driven by falling costs of information, communication, capital, transactions.

• Increasing efficiency/power of capital markets. • Reduced corporate taxes. • Accelerating technological change• Globalisation and marketisation• More educated/ knowledgeable consumers with

higher expectations and growing incomes.


Implications • Not all bad news. • Speeding up of change makes life harder but on

other hand it creates opportunities at a faster rate. • Societies may differ in their ability to deal with

this. Compare US and Japan in the 1990’s. US boomed as its entrepreneurial culture grabbed at new opportunities. Japan has stagnated by comparison as its corporate system proved less adaptable. Can Japan come back again?


Evidence?

• Recent empirical work however has questioned the claims made about the new competitive environment. Statistical work in the US for years 1979-1998 found little evidence of a big change in the stability of business performance. In fact after a period of increasing instability in the 1980’s things appear to have returned to normal in the 1990’s. Hard to believe?

• McNamara, US Academy of Management, conference paper, 2001.


Firm specific factors?

• Now to narrow it down even more from the industry level to the firm specific level.

• To look more closely at customers and competitors for signs of oppos and threats which you can prepare for.

• Here you might consider (a) market segmentation and (b) competitor analysis.


Segmentation analysis • We have been talking about markets/ industries

very generally. In practice markets are more complex. The market for PC’s, for paper, for perfume, for MBA courses, for hotel rooms in Singapore. There is not in fact a single market but various more or less distinctive segments. Luxury hotels, mid price, cheap, and hostels. These may be substitutes to some extent but patently not perfect substitutes. Competitive conditions/ intensity will vary by segment. Some sectors will be more price sensitive than others. Cost structures may vary.


Note on semantics • Strictly speaking we really should call it customer

segmentation. A market is an interaction between consumer needs (demand) and producers meeting those needs (supply). Therefore,

• Talking about a ‘market’ for hotel rooms or autos or books is misguided. It may be sensible to talk of a hotel ‘industry’, an auto industry, and a publishing industry, but not of a hotel market, an auto market, a book market. Customers needs are simply too distinctive and this creates distinctive suppliers and hence distinctive markets. So it is the customers you segment and seek to serve which then define the distinctive markets.

• Luxury hotels, executive autos, university textbooks, accounting software, mid-market hi-fi, classical CD’s, fast-food restaurants, art-house movies, adventure holidays,


Levels of refinement • Segmenting customers may not be a simple one

stage process. • Mobile phone segments may include business

users, teenagers, trades-people etc. • But within the teenage segment there are perhaps

distinctive males and female segments. Perhaps students and those in employment. Perhaps those with cars and those without. And so on.

• What you are trying to determine is who are the best customers to aim at. People who use the mobile a lot and who change it regularly.


Segmentation cont. • Segmentation analysis could aim to: • Identify the segments of the market which have the

best customers and prospects. • Identify new segments your resources/ capabilities

are best suited to exploit.• Identify how segments are changing. • Identify possible opportunities for moving

segments, moving ‘up market’ or ‘down market’ or whatever.

• Identifying possible threats to existing segments. • Evaluating your current segment strategy.


• Marketing texts will provide a full analysis of segmentation techniques and examples so bus pol notes tend not to duplicate this but we do expect some efforts at defining the nature and significance of segmentation in a case examination.

• Thus if the case was about a local hotel business we would expect an outline of the different segments of the market in Singapore and how competition differed in them and trends in segmentation and the implications of all this for the case business (oppos and threats).


Diagnostics • How do we define a segment? • Are there significant competitors in X not also in Y? • Are relative market shares in X different from Y? • Are cost structures different in X and Y? • Are the KFS different between the segments? • Are there barriers to mobility between the two

segments? • Are prices different? • Is there an economic advantage to specialising in a

particular segment (cost advantage/price advantage)


Price discrimination • An important function of segmentation will be

efforts to apply price discrimination. • This is about identifying particular groups of

customers whose are willing to pay a higher price than others for more or less the same product/service.

• If producers can effectively segment a market according to the willingness to pay they can improve profits. See example next.

• However there are costs involved and other difficulties which mean it isn’t always feasible.


Segmentation in the air

• A passenger jet could have 240 passengers all paying the same price.

• But will be more profitable if the passengers are segmented according to maximum willingness to pay: luxury, business, tourist. So that you can use price discrimination.

• Of course you must find a way of identifying the segments, tailoring the product to ‘justify’ the differences, and preventing arbitrage. Such that overall benefit of your efforts exceed costs.


Segment attractivenessAre you looking to identify the ‘best’

segments in general or the best segments for you to serve given your particular capabilities etc?

If simply the former then it is a matter of looking for: breadth, homogeneity, accessibility, non-price sensitive custmers,

If the latter it is more complex, because then it is a question of fit.


Methods

• Geography: where you live • Demography: who you are, age, gender,

race, education, employment, family size,…• Psychographic: your lifestyle, social class,

personality type, …… • Behavioural: how you behave, habits,

tastes, openness to new ideas, risk lover/avoider, saver/spender, ….


Business customers

• Industry, location, business type

• Technologies, markets served, fast-moving or slow,

• Purchasing criteria, price, quality, service, relationships, speed,

• Buying characteristics, size and frequency of orders, service requirements, arms length or involved, loyal or fickle,


Examples• Grant ‘Contemporary Strategy Analysis’ has

some examples of how to proceed

• Lynch ‘Corporate Strategy’ also has some finer detail about the procedure for segmentation.

• One US company is often mentioned as being particularly good at identifying attractive segments as they emerge and that company is…..?


Warning signs of transformation

• 5 key threats to your core.

• Erosion of low-end product segments.

• Erosion of customer segments.

• Erosion of micro-segments.

• Erosion of traditional business boundaries.

• New intermediaries and new control points.

• Profitfromthecore.com


Competitor analysis • The purpose here is to identify and understand your

competitors in order to predict their behaviour. This is crucial in oligopoly as I said. In household detergents P&G, Unilever, and C-P. Each needs to know what the others are up to and how they might react to one another’s moves. Same in soft drinks. Or jet airlines. Just as in chess or soccer it pays to know your opponent well.

• Firms are interdependent in many areas. If each builds ‘too much’ capacity this will affect prices and profits. If each tries to win market share by raising advertising spend they may all end up ‘ wasting money’. If each spends its R&D budget looking for the same breakthrough then waste is likely again.


Identifying the competition• Need to be clear about who they are. • Just because they are in the same ‘industry’ doesn’t

make them competitors. And vv. Your competitors may not make a technologically similar product! TV news v newspapers v internet.

• Competition is about specific markets and market specifics.

• You may operate in several different markets where the competition varies. And your competition may change over time.

• I have known businesses that had difficulty in identifying their competitors adequately.


Competitor intelligence • Identify current policies/strategies in key areas such as

product development and marketing. Look for signals of changing approaches.

• Identify objectives. Is the company signalling a change in its goals. For example becoming more/less market share oriented or more/less acquisitive or more/less bottom line oriented or more/less focussed.

• Identify competitor’s assumptions about the industry/ market. What are their ‘recipes’ for success, their business ideas, how are they changing?

• Identify competitor’s sources of superior/ inferior performance. People, positions, policies etc. Can you catch up on them? Could they catch up on you?


Evaluating the competition

• How committed to the market? • How good are their products relative to ours? • How good is their overall customer service?• Do customers value anything in particular about

them? (design, innovation, quality, location, service, follow-up, safety).

• Are the differences between us reflected in price differences or market share differences?


Predictions • What are your competitors likely to do in the future? What

changes might they initiate? Might they see you as a candidate for a squeeze? For a take-over?

• How are your competitors likely to respond to changes initiated by you? A price cut for example.

• Are you able to influence their behaviour in any way by sending out signals or influencing their beliefs? For ex the pre-emptive use of product announcements.

• Several companies are well known to fight hard for market share if threatened: P&G, Gillette, Msoft,Anheuser-Bosch.

• On other hand you might want to signal friendly intentions to avoid a price war or encourage price leadership and a desire for stability.


Segmenting competitors/ strategic groups

• Again the point is that not all the firms in a given ‘industry’ are necessarily head on competitors. Markets are where firms compete. And firms in the same ‘industry’ may focus on different markets. But of course this can/does change over time and thus creates opps and threats.

• IBM and Dell are both in computer equipment but direct competition is limited to certain segments.

• But look at banking. At one time banks had fairly secure national markets, UK or US or Japan, but now they compete more across borders.


Strategic groups • Businesses define themselves by what, how, for

whom etc. Businesses in the same ‘industry’ may therefore define themselves quite differently and so may not compete directly.

• Glaxo-Welcome, Merck, Lilley, Astra Zeneca are big R&D spenders looking for new patentable drugs, often in fact for different illnesses. They pursue a high risk high reward strategy.

• Others such as Hoechst, J*J, C-G, are much less R&D oriented, produce out of patent drugs, compete on price and brand name, use different distribution channels.


European truck makers

• Defined by fullness of line offered and market breadth.

• Daimler-Benz is full line world market producer. • Fiat/Iveco has a narrower line and focuses on

Europe. • MAN has a limited line and operates in a single

country (Germany). • But things are changing as alliances form, vertical

integration changes, and M&A’s occur.


Scenarios • This is a sophisticated and powerful technique for

developing and using different views about the future as a way of testing strategic ideas. Your notes give a good outline of this written by Kees who was himself part of the team at Shell in Holland which developed this approach. I only attempt a short overview.

• Kees has a book called Scenarios with even more detail. See also Woods book on managing complexity which uses Kees’s ideas as well. See also ‘Exploring the business environment’, part 2, Strathclyde GSB 2001.


Nature and purpose • Scenarios structure information and views about the future

into multiple stories to represent our uncertainty about how things might develop. It seeks to encourage the development of different views about the future, a discussion of these views within the organisation, and the use of these views as a test bed for strategic choices.

• The focus is on fundamental uncertainties for a particular business or economy. The scenario approach is that there is no one right strategy for the future that we can discover by rational analysis. It depends on how the fundamental uncertainties work out. So the best we can do before committing ourselves is to consider our options in the light of some different scenarios.


• Scenarios help us prepare for the future. It helps us understand the uncertainties before us and what they might mean. It helps us to rehearse our responses to these possibilities. And it helps us spot them as they are unfolding.

• Defined by Kees as tools for enhancing organisation perception and avoiding the corporate ‘one-track mind’ by introducing elements of novelty and surprise into the way the future is perceived .


Wind tunnelling • The metaphor used is that of a wind tunnel.

• Particular ideas about future policies are put in the wind tunnel and alternative scenarios are used to pinpoint strengths and weaknesses. Policies can then be refined in the light of this process in order to make them more robust for future eventualities.

• Scenarios may also be the source of some ideas about future policies for testing.

• The important point is to make uncertainties explicit and to help the organisation understand their implications. The idea is by confronting our concerns and studying their implications we may be able to get them in perspective.


Strategic conversation • The overall aim is an organisation which is more

flexible and adaptable and prepared to take risks. • Conversation is the crux of the process. The idea

is to change/ broaden people’s perceptions about the opportunities and threats facing the business.

• The essential elements of the process are described by Kees in your notes (p.3.36). The scenario process is about building a capability for understanding and coping with environmental uncertainty.


Scenarios

• Are: • A good image of a

plausible future.• An internally

consistent story about the path from the present to the future

• Are not: Stories about strategies of the organisation

• Predictions. • Extrapolations. • ‘Science fiction’• Good/ bad (ie we

aren’t being judgmental)


Successful scenarios • Lead to actions that improve the fitness of the organisation

to survive the future

• Identify those possibilities which subsequently prove to be important.

• Help us to know what we don’t know.

• Creates a shared understanding of future possibilities as the basis for action.

• Become a bridge between existing mental models and new views and interpretations of the outside world.

• Fully understand the needs and concerns of the business.


Effective scenarios

• Plausible outcomes of current trends

• Neither ‘good’ nor ‘bad’ for the organisation. There are opps as well as threats

• Relevant: it is a customised activity

• Challenging: take people ‘outside the box’

• Memorable/ imaginative


Scenario design • Your notes gives some details of the various

stages of the process used by Shell and others. Note that it is a lengthy process involving many people in the organisation, not a one person show.

• Eliciting information• Analysis of information • The scenario agenda (broad themes)• Developing new knowledge & insights • Creating the individual scenarios


Rationale • Scenarios are an example of using action research as

a basis for knowledge creation as opposed to the strict scientific method based on theory, hypothesis, and testing.

• Scenarios are about constructing knowledge through conversation aimed at making sense of what is being perceived. Interpretative research it is called.

• There is no intention to discover immutable scientific laws but to develop ‘shared understandings’ of the world as a prelude to action.


Singapore 2005 + ?• Warning:this is absolutely how not to do it but…..: • First we already know some of the things which matter,

demographics etc, so these are not ‘key uncertainties’. • Ask ‘what are the key uncertainties’ which would really

have a big effect on Singapore’s prospects??• Political unrest in the region (Indonesia?). • Slowdown/ or greater competition for mobile foreign

investment (already a reality?)• Financial crisis growing from the problems of the Chinese/

Japanese economy or structural adjustment in the US?• Environmental crisis (global warming?) • Middle East war/ energy prices?


• We might then consider combinations of such uncertainties to build scenarios.

• A combination of a financial crisis and political unrest for example could be a scenario as could greater competition for mobile investment from ‘new Singapores’ combined with a slowdown in technological change.


• The point therefore is to develop some interesting and conceivable futures that might emerge but are impossible to forecast in any precise way. If I could forecast the next financial collapse I would be able to get very rich!

• The issue is then to have the organisation consider (discuss) the implications of these possible futures for the development of the business in question. This would suggest looking for options which are robust in the face of such scenarios.


Jensen’s dream society • Jensen contends that we live increasingly in a ‘dream

society’ where the stories/images attributed to goods/ services have become important. Themes used include:

• Adventure: 4 wheel drives for city dwellers

• Networking: communication/ accessibility

• Self-projection: branded clothes, cars etc

• Peace of mind: safety/ security

• Convictions: ethical/ environmental concerns.

• *Belonging: membership of a ‘tribe’ (MUFC)

• *Longevity: drugs, cosmetics, exercise, food.

• Jensen, Dream society, 1999


Scanning capabilities • The ability to understand the complexity of the

business environment is potentially a distinctive capability, capable of giving you an important edge. What Andersen calls information orientation.

• The notes discuss how this depends on managerial attitudes, people, organisational processes and practices, and information systems.

• It is emphasised that this is not something just for planners at head office. It is about the organisation as a whole.


Information systems

• These concern all the different stages of the process.

• Search, Storage, Processing, Analysis, Evaluation, Utilisation, Dissemination, Discussion, Hypothesising, Decision making and implementation.

• See Andersen Consulting Research


Concluding thoughts

• To sum up then, environmental analysis in general is about reaching an understanding about the development of both opportunities and threats into the future. There are various techniques suggested for this such as PESTE, Competitive forces, and Scenario analysis of which the latter in undoubtedly the most promising although also the most expensive in time and effort.

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