The External
Assessment
Chapter Three

Chapter Objectives
1. Describe how to conduct an external strategic-
management audit.
2. Discuss 10 major external forces that affect
organizations: economic, social, cultural, demographic,
environmental, political, governmental, legal,
technological, and competitive.
3. Describe key sources of external information, including
the Internet.
4. Discuss important forecasting tools used in strategic
management.
5. Discuss the importance of monitoring external trends
and events.
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Chapter Objectives (cont.)
6. Explain how to develop an EFE Matrix.
7. Explain how to develop a Competitive Profile
Matrix.
8. Discuss the importance of gathering
competitive intelligence.
9. Describe the trend toward cooperation among
competitors.
10.Discuss market commonality and resource
similarity in relation to competitive analysis.
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External Audit
External audit
 focuses on identifying and evaluating trends
and events beyond the control of a single
firm
 reveals key opportunities and threats
confronting an organization so that managers
can formulate strategies to take advantage of
the opportunities and avoid or reduce the
impact of threats
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The Nature of an External Audit
The external audit is aimed at identifying
key variables that offer actionable
responses
 Firms should be able to respond either
offensively or defensively to the factors by
formulating strategies that take advantage of
external opportunities or that minimize the
impact of potential threats.
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A Comprehensive Strategic-
Management Model
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Key External Forces
External forces can be divided into five
broad categories:
1. Economic forces
2. Social, cultural, demographic, and natural
environment forces
3. Political, governmental, and legal forces
4. Technological forces
5. Competitive forces
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Key External Forces
 Changes in external forces translate into
changes in consumer demand for both
industrial and consumer products and services.
 External forces affect:
 the types of products developed,
 the nature of positioning and market
segmentation strategies,
 the type of services offered, and
 the choice of businesses to acquire or sell.
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Key External Forces
External forces:
 Directly affect both suppliers and distributors.
 Identifying and evaluating external
opportunities and threats
 enables organizations to develop a clear
mission,
 Help to design strategies to achieve long-term
objectives, and
 Help to develop policies to achieve annual
objectives.
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Relationships Between Key External
Forces and an Organization
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The Process of Performing an
External Audit
 The process of performing an external audit
must involve as many managers and
employees as possible. To ensure the
understanding and commitment from
organizational members.
 1- First, gather competitive intelligence and
information about economic, social, cultural,
demographic, environmental, political,
governmental, legal, and technological trends.
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The Process of Performing an
External Audit
 2- Information should be assimilated and
evaluated
 3- A prioritized list of these factors could be
obtained by requesting that all managers rank
the factors identified, from 1 for the most
important opportunity/threat to 20 for the least
important opportunity/threat
 4- A final list of the most important key external
factors should be communicated
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Characteristics of key external
factors
Key external factors should be:
1. important to achieving long-term and annual
objectives
2. measurable
3. applicable to all competing firms, and
4. hierarchical in the sense that some will pertain
to the overall company and others will be more
narrowly focused on functional or divisional
areas
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The Industrial Organization
(I/O) View
The Industrial Organization (I/O)
approach to competitive advantage
advocates that external (industry) factors
are more important than internal factors in
a firm for achieving competitive
advantage.
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The Industrial Organization
(I/O) View
 Proponents of the I/O view, contend that
organizational performance will be primarily
determined by industry forces. They focus on
analyzing external forces and industry variables
as a basis for getting and keeping competitive
advantage.
 Firm performance, they contend, is primarily
based more on industry properties
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The Industrial Organization
(I/O) View
Firm performance
is based more on
industry properties
Economies of scale
Barriers to market entry
Product differentiation
The economy
Level of competitiveness
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The Industrial Organization
(I/O) View
However, Effective integration and
understanding of both external and
internal factors is the key to securing and
keeping a competitive advantage. In fact,
matching key external
opportunities/threats with key internal
strengths/weaknesses provides the basis
for successful strategy formulation.
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Economic Forces
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Advantages and Disadvantages
of a Weak Dollar
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Key Social, Cultural, Demographic, and
Natural Environment Variables
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Political, Governmental, and
Legal Forces
The increasing global interdependence
among economies, markets,
governments, and organizations makes it
imperative that firms consider the
possible impact of political variables on
the formulation and implementation of
competitive strategies.
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Political, Government, and
Legal Variables
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Technological Forces
The Internet has changed the very nature of
opportunities and threats by:
altering the life cycles of products,
increasing the speed of distribution,
creating new products and services,
erasing limitations of traditional geographic
markets,
changing the historical trade-off between
production standardization and flexibility.
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Technological Forces
The Internet is altering economies of
scale, changing entry barriers, and
redefining the relationship between
industries and various suppliers,
creditors, customers, and competitors
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Technological Forces
Many firms now have a Chief
Information Officer (CIO) and a Chief
Technology Officer (CTO) who work
together to ensure that information
needed to formulate, implement, and
evaluate strategies is available where and
when it is needed
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Technological Forces
Technological advancements can:
Create new markets,
Result in a proliferation of new and improved
products,
Change the relative competitive cost positions in
an industry,
Render existing products and services obsolete.
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Competitive Forces
An important part of an external audit is
identifying rival firms and determining
their strengths, weaknesses, capabilities,
opportunities, threats, objectives, and
strategies
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Competitive Forces
Characteristics of the most competitive
companies:
1.Market share matters
2.Understand and remember precisely what business
you are in
3.Whether it’s broke or not, fix it–make it better
4.Innovate or evaporate
5.Acquisition is essential to growth
6.People make a difference
7.There is no substitute for quality
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Key Questions About Competitors
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Competitive Intelligence
Programs
 Competitive intelligence (CI)
 a systematic and ethical process for gathering and
analyzing information about the competition’s
activities and general business trends to further a
business’s own goals
 The more information and knowledge a firm can
obtain about its competitors, the more likely it is that
it can formulate and implement effective strategies.
Major competitors’ weaknesses can represent
external opportunities; major competitors’ strengths
may represent key threats.
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Competitive Intelligence
Programs
The three basic objectives of a CI program
are:
1. to provide a general understanding of an
industry and its competitors
2. to identify areas in which competitors are
vulnerable and to assess the impact strategic
actions would have on competitors
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Competitive Intelligence
Programs
3. to identify potential moves that a
competitor might make that would
endanger a firm’s position in the market
 Competitive information is equally applicable
for strategy formulation, implementation, and
evaluation decisions.
 An effective CI program allows all areas of a
firm to access consistent and verifiable
information in making decisions. 3-32
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Market Commonality and
Resource Similarity
Market
commonality
 the number and
significance of
markets that a firm
competes in with
rivals
Resource
similarity
 the extent to which
the type and
amount of a firm’s
internal resources
are comparable to
a rival
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The Five-Forces Model of
Competition
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The Five-Forces Model of
Competition
1. Identify key aspects or elements of each
competitive force that impact the firm.
2. Evaluate how strong and important each
element is for the firm.
3. Decide whether the collective strength of
the elements is worth the firm entering or
staying in the industry.
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The Five-Forces Model
 Rivalry among competing firms
 Most powerful of the five forces
 Focus on competitive advantage of strategies over other
firms
 The strategies pursued by one firm can be successful
only to the extent that they provide competitive advantage
over the strategies pursued by rival firms.
 Changes in strategy by one firm may be met with
retaliatory countermoves
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The Five-Forces Model
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The Five-Forces Model
Potential Entry of New Competitors
 Barriers to entry are important
 Quality, pricing, and marketing can overcome
barriers
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Barriers to Entry
 Need to gain economies of scale quickly
 Need to gain technology and specialized know-
how
 Lack of experience
 Strong customer loyalty
 Strong brand preferences
 Large capital requirements
 Lack of adequate distribution channels
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Barriers to Entry
 the need to gain economies of scale quickly,
 the need to gain technology and specialized
know-how,
 the lack of experience,
 strong customer loyalty,
 strong brand preferences,
 large capital requirements,
 lack of adequate distribution channels,
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Barriers to Entry
 government regulatory policies,
 tariffs,
 lack of access to raw materials,
 possession of patents,
 undesirable locations,
 counterattack by entrenched firms,
 potential saturation of the market.
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The Five-Forces Model
Potential development of substitute
products
 Pressure increases when:
• Prices of substitutes decrease
• Consumers’ switching costs decrease
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The Five-Forces Model
The presence of substitute products puts
a ceiling on the price that can be charged
before consumers will switch to the
substitute product.
Ex:Newspapers and magazines face
substitute-product competitive pressures
from the Internet
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The Five-Forces Model
Bargaining Power of Suppliers is
increased when there are:
 Large numbers of suppliers
 Few substitutes
 Costs of switching raw materials is high
Backward integration is gaining control or
ownership of suppliers
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The Five-Forces Model
 In more and more industries, sellers are forging
strategic partnerships with selected suppliers in efforts
to:
 (1) reduce inventory and logistics costs (e.g., through
just-in-time deliveries);
 (2) speed the availability of next-generation
components;
 (3) enhance the quality of the parts and components
being supplied and reduce defect rates; and
 (4) squeeze out important cost savings for both
themselves and their suppliers.
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The Five-Forces Model
Bargaining power of consumers
 Customers being concentrated or buying in
volume affects intensity of competition
 Consumer power is higher where products
are standard or undifferentiated
 Rival firms may offer extended warranties or
special services to gain customer loyalty
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Conditions Where Consumers Gain
Bargaining Power
1. If buyers can inexpensively switch
2. If buyers are particularly important
3. If sellers are struggling in the face of falling
consumer demand
4. If buyers are informed about sellers’ products,
prices, and costs
5. If buyers have discretion in whether and when
they purchase the product
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Sources of External Information
 Unpublished sources include customer
surveys, market research, speeches at
professional and shareholders’ meetings,
television programs, interviews, and
conversations with stakeholders.
 Published sources of strategic information
include periodicals, journals, reports,
government documents, abstracts, books,
directories, newspapers, and manuals.
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Forecasting Tools and
Techniques
 Forecasts
 educated assumptions about future trends and
events
 quantitative, qualitative techniques
 Forecasting is a complex activity because of factors
such as technological innovation, cultural changes,
new products, improved services, stronger
competitors, shifts in government priorities, changing
social values, unstable economic conditions, and
unforeseen events.
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Making Assumptions
Assumptions
 Best present estimates of the impact of major
external factors, over which the manager has
little if any control, but which may exert a
significant impact on performance or the
ability to achieve desired results.
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Industry Analysis: The External
Factor Evaluation (EFE) Matrix
Economic
Social
Cultural
Demographic
Environmental
Political
Governmental
Technological
Competitive
Legal
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EFE Matrix Steps
THE EFE Matrix can be developed in five
steps:
1. List key external factors as identified in
the external-audit process. Include a total
of 15 to 20 factors, including both
opportunities and threats, that affect the
firm and its industry. List the opportunities
first and then the threats.
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EFE Matrix for a Local Ten-
Theater Cinema Complex
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Industry Analysis: Competitive
Profile Matrix (CPM)
Identifies firm’s major competitors and
their strengths & weaknesses in relation
to a sample firm’s strategic positions
Critical success factors include internal
and external issues
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An Example Competitive
Profile Matrix
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