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Chapter 1

An Overview of
Business Environment

Lecture One: Overview

1. Business: Meaning, Characteristics and Objectives

2. The Meaning of Business Environment
3. Types of Environment
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4. Environmental Analysis and Strategic Management

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Lecture One: Overview

• Business decisions in general and strategies in particular are moulded by the
business environment – those external factors like the economic, political/
regulatory, social/demographic, technological and natural factors which make
up the opportunities for and threats to business and internal factors like the
resources, capabilities and goodwill of the organisation, internal power
relationships etc. which decide the strengths and weaknesses of the firm.

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• A thorough understanding of the business environment, therefore, is a
prerequisite for making any strategic decision. Indeed, formulation of strategy
is some times defined as establishing a proper firm-environment fit.

Lecture One: Overview

• This Part starts with a general introduction to the broad nature of business
environment, and environmental analysis and forecasting.
• It also presents a broad picture of the Economic Environment, Political and
Government Environment, Natural and Technological Environment, and
Demographic Environment.
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1. Business: Meaning, and Characteristics

• A business firm does not operate in a vacuum but in a given environment, and
has to interact and transact its business within this environment.
• A business organization is a microeconomic unit influenced by its
environment—both economic and non-economic, internal and external; the
value system prevalent in the society in which it operates; the laws enacted
by the government—both federal and local; the rules governing the economy,
economic policies that include monetary, fiscal and commercial policies laid
down for its observation and follow-up; and the institutional set up within

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which it operates.
• Therefore, the business environment and the manner and the effectiveness of
the interaction of an enterprise with its environment would generally
determine its success or failure.

1. Business: Meaning, and Characteristics

• Before we proceed further, we need to have a clear understanding of the terms
business and environment.
• Put simply, business refers to the buying or selling of goods or services or the
activity of making money by producing or buying and selling goods, or
providing ser- vices.
• This definition is too vague and general and does not help to analyse the
impact of the environment on various day-to-day business activities. We need
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to define it more precisely and in concrete terms.

• Modern business, as it is practised today, spans a vast and complex field of
activity involving industry, trade and commerce as they relate to production,
distribution and exchange of goods and services. These business activities have
a two-fold purpose—to generate profit and to cater to the needs of the society.
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1. Business: Meaning, and Characteristics

• According to F. C. Hooper: “Business means the whole complex field of
commerce and industry, the basic industries, processing and manufacturing
industries and the network of ancillary services, distribution, banking,
insurance, transport and so on, which serve and inter-penetrate the world of
business as a whole.”
• Business has certain characteristics including, inter alia:

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(i) Element of enterprise: The entrepreneur anticipates and visualizes
business, organizes factors of production such as land, labour and capital,
supervises and superintends, and under- takes risks and bears
uncertainty;

1. Business: Meaning, and Characteristics

• Business has certain characteristics including, inter alia:
(ii) Dealings in exchange of goods and services: Business deals with either
producers’ goods such as plant and machinery or consumers’ goods such as
dresses, shoes and jewellery. Business also deals in such services that are
invisible and intangible, such as provision of legal, medical and software
services and the like;
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(iii) Profit motive: Profit motive is the most essential characteristic of business
that acts as an incentive to be engaged in it. All business activities are directed
towards reaping more than what has been invested. If an enterprise fails to
make profit in one line of business, it is natural that it will turn to another field
before it decides to fold up;
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1. Business: Meaning, and Characteristics

• Business has certain characteristics including, inter alia:
(iv) Element of risk and uncertainty: The inherent element of risk keeps
businessmen on their toes, vigilant and growing in astuteness to forecast correctly
the demand for their goods or services and other parameters of business. Risk
arises out of uncertainty in business. Only successful management of risks will
result in profit. Risks may arise due to change in consumer tastes and preferences,
changes in technology, mismanagement in the use of capital and other resources,

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wrong managerial decisions on the choice of technology or products, shortage of
raw materials, labour trouble, increased competition in the market place and those
risks that are insurable such as fire, theft and natural calamities;
(v) Economic activities related to production and distribution: The production and
distribution of goods and services alone can fetch businessmen good prices and
profit;
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1. Business: Meaning, and Characteristics

• Business has certain characteristics including, inter alia:
(vi) Element of creation of utilities: Business is engaged in creation of
utilities. Utilities are the want- satisfying capacity of commodities and
services which businessmen create. When a carpenter converts a log of
wood into furniture, he creates a form or shape utility; when a product is
transported to a place of scarcity from a place of abundance, place utility is
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created.
(vii) Element of continuity of transactions: This element is important in
business. If a transaction is single, it is just an exchange and not business.
Transactions become business only if they are regular and continuous.
Recurrence of transactions, there- fore, is a hallmark of business.
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1. Business: Meaning, and Characteristics

DIVISIONS OF BUSINESS
• Business is closely related to industry, commerce and trade. “The term industry
refers to that part of business activity which concerns itself with production,
processing or fabrication of products. The products of an industry may be used
either by the final consumers or by another industrial undertaking for further
production.”

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• Industry refers to the production of goods and services whereas commerce
relates to the distribution and exchange of these. Trade refers to mediation in
the process of exchange of goods. Business includes all of these. Commerce
refers to all those activities which help in the removal of barriers lying between
the producers and the ultimate consumers.
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1. Business: Meaning, and Characteristics

CHARACTERISTICS OF MODERN BUSINESSES

• Modern business has undergone

tremendous changes over the past two
hundred years or so.
• Over the years, business has transformed
itself to include the following
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characteristics: large size, global reach,

oligopolistic structure, technology driven,
diversity, government control and
emerging ethical consciousness
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1. Business: Meaning, and Characteristics

Business organisation and its Environment

• A model of business activity: Most business activity takes place within an

organisational context and even a cursory investigation of the business world
reveals the wide variety of organisations involved, ranging from the small local
supplier of a single good or service to the multi-billion-dollar international or
multinational corporation producing and trading on a global scale.

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• Given this rich organisational diversity, most observers of the business scene tend
to differentiate between organisations in terms of their size, type of product
and/or market, methods of finance, scale of operations, legal status, and so on.

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1. Business: Meaning, and Characteristics

Business organisation and its Environment
• While such distinctions are both legitimate and informative, they can conceal
the fact that all business organisations are ultimately involved in the same basic
activity, namely the transformation of inputs (resources) into outputs (goods or
services). This process is illustrated in Figure 1.1.
• In essence, all organisations acquire resources – including labour, premises,
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technology, finance, materials – and transform these resources into the goods
or services required by their customers. The need, here, is simply to appreciate
the idea of the firm as a transformation system and to recognise that in
producing and selling output, most organisations hope

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1. Business: Meaning, and Characteristics

Business organisation and its Environment
• While such distinctions are both legitimate and informative, they can conceal
the fact that all business organisations are ultimately involved in the same basic
activity, namely the transformation of inputs (resources) into outputs (goods or
services). This process is illustrated in Figure (on the next slide).
• In essence, all organisations acquire resources – including labour, premises,

Copyright (c) 2020 John Wiley & Sons, Inc.

technology, finance, materials – and transform these resources into the goods
or services required by their customers. The need, here, is simply to appreciate
the idea of the firm as a transformation system and to recognise that in
producing and selling output, most organisations hope to meet their objectives.

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1. Business: Meaning, and Characteristics

Business organisation and its Environment Copyright (c) 2020 John Wiley & Sons, Inc.

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2. Business Environment
Meaning of Business Environment
• Environment refers to the conditions “concerning the people and things
around you in your life, for example, the buildings you use, the people you live
or work with, and the general situation you are in.” To put it precisely,
environment could mean something external to an individual or an
organization. In the context of business, its environment may refer to all the
external factors which have bearing on its activities

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• Business Environment consists of all those factors that have a bearing on the
business, such as the strengths, weaknesses, internal power relationships and
orientations of the organisation; government policies and regulations; nature
of the economy and economic conditions; socio- cultural factors; demographic
trends; natural factors; and, global trends and cross-border developments. 17

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2. Business Environment
Meaning of Business Environment
• In the context of business, the term environment may refer to the totality of
factors that are external and beyond the control of individual enterprises and
their managements.
• The operations of a business are influenced by the environment, the value system
prevalent in the society, the laws enacted by the government, the rules and
regulations that govern the economy, the monetary policies of the central bank,
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the fiscal policies of governments, the institutional set up of the economy, the
import and exports policy, the government’s attitude and policies towards foreign
capital and enterprise, and so on.

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2. Business Environment
The Business-Environment Interrelationship
• Any meaningful organisation has certain mission, objective(s) and goal(s) and a
strategy to achieve them. Business environment has a bearing on the shaping of all
these integral and interrelated elements.
• It is, therefore, only very appropriate that formulation of strategy is sometimes
defined as establishing a proper firm-environment fit. Indeed, the
mission/objectives/goals themselves should be based on an assessment of the

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external environment and the organisational factors (i.e., the internal
environment). A SWOT analysis (strengths, weaknesses, opportunities and threats
in the environment), therefore, is one of the first steps in the strategic management
process. Business dynamics, to a large extent, is a dependent factor — it depends
on, inter alia, the environmental dynamics. Hence, the importance of
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2. Business Environment
The Business-Environment Interrelationship
• A business environment could
be split into internal and
external environment which in
turn comprises micro- and
macro-environment.
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• Apart from these, a business

also is influenced by both the
economic and the non-
economic environment.
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3. Types of Business Environment

• On the basis of the extent of intimacy with the firm. As indicated above, there are,
broadly, two types of environment, the internal environment, i.e., factors internal
to the firm and external environment, i.e., factors external to the firm which have
relevance to it.
v The internal factors are generally regarded as controllable factors because the
company has control over these factors; it can alter or modify such factors as its
personnel, physical facilities, organisation and functional means, such as

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marketing mix, to suit the environment.
v The external factors, are, by and large, beyond the control of a company. The
external or environmental factors such as the economic factors, socio-cultural
factors, government and legal factors, demographic factors, geo-physical factors
etc., are, therefore, generally regarded as uncontrollable factors.
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3. Types of Business Environment

• It may, however, be noted that a firm may not sometimes have complete control
over all the internal factors. Also, it is sometimes possible to change certain
external factors.
• Some of the external factors have a direct and intimate impact on the firm (like
the suppliers and distributors of the firm). These factors are classified as micro
environment, also known as task environment and operating environment. There
are other external factors which affect an industry very generally (such as
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industrial policy, demographic factors etc.). They constitute what is called macro
environment, general environment or remote environment.
• Although business environment consists of both the internal and external
environments, many people often confine the term to the external environment
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3. Types of Business Environment

1. The Internal Environment
• The term internal environment refers to the framework, the situation and the
factors within the business organization and their impacts on its working.
• The management structure of an organization, the relationship that exists
internally between the stakeholders such as shareholders, employees,
managers and the board of directors, the physical assets, technological

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capabilities, its human, financial and marketing resources along with the
organizational goals and objectives and the value system that influences its
functioning would all constitute the internal environment of business.

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3. Types of Business Environment

1. The Internal Environment
• For the success of an organization and the realization of its goals, the relationship
that exists between the internal stakeholders is of utmost importance. Shareholders
contribute to the capital of the company with a view to earning handsome
dividends and capital appreciation of their stocks; employees want adequate
compensation and appropriate perquisites; managers want job satisfaction and
chances of timely promotion.
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• Thus, there are clear- cut objectives which guide different internal stakeholders in
an organization and during its functioning there could arise frictions and conflicts of
interests between them, either group wise or individually, as for instance, between
a worker and the manager. The success or otherwise of an organization depends
very much on how well a cordial and conducive relationship between various
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3. Types of Business Environment

1. The Internal Environment
The important internal factors which have a bearing on the strategy and other
decisions are outlined below.
i) Value System: The value system of the founders and those at the helm of affairs
has important bearing on the choice of business, the mission and objectives of
the organisation, business policies and practices. It is a widely acknowledged fact

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that the extent to which the value system is shared by all in the organisation is an
important factor contributing to success.

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3. Types of Business Environment

1. The Internal Environment

ii) Vision, Mission and Objectives: The business domain of the company,
priorities, direction of development, business philosophy, business policy etc., are
guided by the vision, mission and objectives of the company.
Ranbaxy’s thrust into the foreign markets and development were driven by its
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mission “to become a research-based international pharmaceutical company”.

A company's mission drives its future development strategy including the
portfolio strategy, as well as the thrusts required in the functional areas to help
achieve the mission.

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3. Types of Business Environment

1. The Internal Environment
iii) Management Structure and Nature: The organisational structure, the
composition of the Board of Directors, extent of professionalisation of management
etc., are important factors influencing business decisions. Some management
structures and styles delay decision-making while some others facilitate quick
decision-making.

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The Board of Directors being the highest decision-making body which sets the
direction for the development of the organisation and which oversees the
performance of the organisation, the quality of the Board is a very critical factor for
the development and performance of company. At one end, there are companies
with highly qualified and responsible Board and at the other end there are
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3. Types of Business Environment

1. The Internal Environment
iv) Internal Power Relationship: Factors like the amount of support the top
management enjoys from different levels of employees, shareholders and Board of
Directors have important influence on the decisions and their implementation. The
relationship between the members of Board of Directors and between the chief
executive and the Board are also a critical factors.
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v) Human Resources: The characteristics of the human resources like skill, quality,
morale, commitment, attitude etc., could contribute to the strength and weakness of
an organisation. Some organisations find it difficult to carry out restructuring or
modernisation because of resistance by employees whereas they are smoothly done
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3. Types of Business Environment

1. The Internal Environment
vi) Company Image and Brand Equity: The image of the company matters while
raising finance, forming joint ventures or other alliances, soliciting marketing
intermediaries, entering purchase or sale contracts, launching new products etc.
Brand equity is also relevant in several of these cases.
vii) Miscellaneous Factors: There are a number of other internal factors which

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contribute to the business success/failures or influence the decision-making. They
include the following.
a. Physical Assets and Facilities like the production capacity, technology and
efficiency of the productive apparatus, distribution logistics etc., are among
the factors which influence the competitiveness of a firm.
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1. The Internal Environment
vii) Miscellaneous Factors:
b. R&D and Technological Capabilities, among other things, determine a
company’s ability to innovate and compete.
c. Marketing Resources like the organisation for marketing, quality of the
marketing men, brand equity and distribution network have direct bearing on
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marketing efficiency. They are important also for brand extension, new product
introduction etc.
d. Financial Factors like financial policies, financial position and capital
structure are also important internal environment affecting business
performances, strategies and decisions.
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3. Types of Business Environment

2. The External Environment
As illustrated earlier, the external business environment consists of a micro
environment and a macro environment.
The Micro Environment
• “The micro environment consists of the actors in the company’s immediate
environment that affect the performance of the company. These include the

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suppliers, marketing intermediaries, competitors, customers and the publics.”
• The macro environment consists larger societal forces that affect all the actors
in the company’s micro environment — namely, the demographic, economic,
natural, technical, political and cultural forces.”
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3. Types of Business Environment

2. The External Environment
Micro Environment…..
• It is quite obvious that the micro environmental factors are more intimately linked
with the company than the macro factors. The micro forces need not necessarily
affect all the firms in a particular industry in the same way. Some of the micro
factors may be particular to a firm.
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• For example, a firm which depends on a supplier may have a supplier environment
which is entirely different from that of a firm whose supply source is different.
When competing firms in an industry have the same micro elements, the relative
success of the firms depends, inter alia, on their relative effectiveness in dealing
with these elements.
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3. Types of Business Environment

2. The External Environment
Micro Environment…..
i) Suppliers: An important force in the micro environment of a company is the
suppliers, i.e., those who supply the inputs like raw materials and components to the
company. The importance of reliable source/sources of supply to the smooth
functioning of the business is obvious. Uncertainty regarding the supply or other

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supply constraints often compel companies to maintain high inventories causing cost
increases.
Because of the sensitivity of the supply, many companies give high importance to
supply chains. The supply management assumes more importance in a scarcity
environment. As such, the purchasing department might have to “market” itself to
suppliers.” 33

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3. Types of Business Environment

2. The External Environment
Micro Environment…..
ii) Customers: As it is often exhorted, the major task of a business is to create and
sustain customers. A business exists only because of its customers. Monitoring the
customer sensitivity is, therefore, a prerequisite for the business success.
A company may have different categories of consumers like individuals, households,
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industries and other commercial establishments, and government and other

institutions.
For example, the customers of a tyre company may include individual automobile
owners, automobile manufacturers, public sector transport undertakings and other
transport operators.
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3. Types of Business Environment

2. The External Environment
Micro Environment…..
ii) Customers: …
Depending on a single customer is often too risky because it may place the
company in a poor bargaining position, apart from the risks of losing business
consequent to the winding up of business by the customer or due to the

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customers switching over to the competitors of the company.
With the growing globalisation, the customer environment is increasingly
becoming global. Not only that the markets of other countries are becoming more
open, the Ugandan market is becoming more exposed to the global competition
and the Ugandan customer are becoming more “global” in shopping. 35

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3. Types of Business Environment

2. The External Environment
Micro Environment…..
ii) Competitors: A firm’s competitors include not only the other firms which
market the same or similar products but also all those who compete for the
discretionary income of the consumers.
For example, the competition for banking services in Uganda is more stiff and has
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several banks operating in the same business environment. This competition

among their products may be described as desire competition. Such desire
competition is generally very high in countries characterised by limited disposable
incomes and many unsatisfied desires.
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3. Types of Business Environment

2. The External Environment
Micro Environment…..
ii) Competitors:…
• If the consumer decides to spend his income, he will still be confronted with a
number of alternatives to choose. The competition among such alternatives which
satisfy a particular category of desire is called generic competition.

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• If the consumer decides to go in for a bank., the next question is which banking
product? In other words, there is a product form competition.
• Finally, the consumer encounters the brand competition, i.e., the competition
between the different brands of the same product form.
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3. Types of Business Environment

2. The External Environment
Micro Environment…..
iii) Marketing Intermediaries: The immediate environment of a company may consist of
a number of marketing intermediaries which are “firms that aid the company in
promoting, selling and distributing its goods to final buyers”.
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• Marketing intermediaries are vital links between the company and the final
consumers. A disturbance of the link, may cost the company very heavily.
• The marketing intermediaries include middlemen (agents and merchants who help
the company find customers), physical distribution firms (warehouses and
transportation firms, marketing service agencies (advertising agencies, marketing
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3. Types of Business Environment

2. The External Environment
Micro Environment…..
iv) Financiers: Another important micro environmental factor is the financiers of the
company. Besides the financing capabilities, their policies and strategies, attitudes
(including attitude towards risk), ability to provide non-financial assistance etc. are
very important.

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v) Publics: A company may encounter certain publics in its environment. “A public is
any group that has an actual or potential interest in or impact on an organisation’s
ability to achieve its interests.” Media publics, citizens action publics and local publics
are some examples.
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2. The External Environment
Micro Business Environment Analysis

- Most commonly used

1. SWOT Analysis- Strengths, Weaknesses, Opportunities and
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Threats
2. Competitor Analysis (Porter’s Five Forces)

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Copyright (c) 2020 John Wiley & Sons, Inc.

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3. Types of Business Environment

2. The External Environment
The Macro Environment
A company and its micro environment operate in a larger macro environment that
shape opportunities and pose threats to the company. The macro forces are,
generally, more uncontrollable than the micro forces. The success of a company
depends on its adaptability to the environment.
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Important macro environment factors include economic and non-economic factors

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3. Types of Business Environment

2. The External Environment
The Macro Environment (Economic)

It also comprises of:

v Trends In Gross Domestic
Product (GDP),

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v Inflation,
v Employment,
v Spending, and
v Monetary And Fiscal Policies
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3. Types of Business Environment

2. The External Environment
The Macro Environment (Economic Factors)

The survival and success of each and every business enterprise is wholly dependent
on the economic environment in which it operates. It can be further classified into:
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• Economic Conditions
• Economic Policies
• Economic Systems

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3. Types of Business Environment

2. The External Environment
The Macro Environment (Economic Factors)

Economic Conditions: The economic conditions of a nation refer to a set of economic

factors that have great influence on business entities and their operations and

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comprise of the gross domestic product, per capita income, markets for goods and
services, availability of capital, foreign exchange reserve, growth of foreign trade,
strength of capital market etc.

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3. Types of Business Environment

2. The External Environment
The Macro Environment (Economic Factors)

Economic Policies: All business activities and operations are directly influenced by the
economic policies framed by the government from time to time. Some of the
important economic policies are- Industrial policy, Fiscal policy, Monetary policy,
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Foreign investment policy, Export –Import policy (Exim policy),

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3. Types of Business Environment

2. The External Environment
The Macro Environment (Economic Factors)

Economic System: The world economy is primarily governed by three types of

economic systems:,
(i) Capitalist economy;

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(ii) Socialist economy; and
(iii) Mixed economy.

Which economic system does Uganda have?

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3. Types of Business Environment

2. The External Environment

The Macro Environment.

(Non-economic)
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Important macro environment

factors include as those indicated.

Several of these are dealt with in

some detail in subsequent chapters.
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3. Types of Business Environment

2. The External Environment
The Macro Environment…..

v Global Environment: The global environment refers to those global factors which
are relevant to business, such as the WTO principles and agreements; other
international conventions/treaties/agreements/ declarations/protocols etc.;

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economic and business conditions/sentiments in other countries etc. Similarly,
there are certain developments, like a hike in the crude oil price, which have global
impact.

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3. Types of Business Environment

The Macro
Environment
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3. Types of Business Environment

2. The External Environment
The Macro Business Environment Analysis

• The most common evaluation model for Macro Business evaluation is PESTLE.
PESTLE stands for the variables that exist in the environment namely Political,
Economic, Socio-Cultural, Technological, Legal/Political (PESTLE).

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• These variables, consider both economic and noneconomic factors like social
concerns, government policies, family structure, population size, inflation,
GDP aspects, income distribution, ethnic mix, political stability, taxes, and
duties.
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4. Competitive Structure of Industries

The competitive structure of industries is a very important business environment.
Identification of forces affecting the competitive dynamics of an industry will be very
useful in formulating strategies.
According to Michael Porter’s well-known model of structural analysis of industries,
the state of competition in an industry depends on five basic competitive forces, viz.,
1. Rivalry among existing firms
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2. Threat of new entrants

3. Threat of substitutes
4. Bargaining power of suppliers
5. Bargaining power of buyers.
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4. Competitive Structure of Industries

The figure depicts the five forces
competitive structure of industry.
The diagram is a slightly modified
presentation of the one provided by
Porter.

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The arrows in the diverse directions
indicate opposing forces. For
example, just as the buyers has
bargaining power over the firm, the
firm also has some bargaining
power over the buyers Fig. Forces Driving Industry Competition 53

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4. Competitive Structure of Industries

Threat of Entry
A growing industry often faces threat of new entrants that can alter the competitive
environment. There may, however, be a number of barriers to entry. Potential
competition tends to be high if the industry is profitable or critical, entry barriers
are low and expected retaliation from the existing firms is not serious.
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The following are some of the important common entry barriers:

1. Government Policy: In many cases, government policy and regulation are
important entry barriers. For example, prior to the economic liberalisation,
government- dictated entry barriers, industrial licensing, import restrictions,
restrictions on foreign capital and technology etc.
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4. Competitive Structure of Industries

Threat of Entry
The following are some of the important common entry barriers:
2. Economies of Scale: Economies of scale can deter entry in two ways: it keeps
out small players and discourages even potentially large players because of the
risk of large stakes.
3. Cost Disadvantages Independent of Scale: Entry barrier may also arise from the

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cost advantages, besides that of economies of scale, enjoyed by the established
firms which cannot be replicated by new firms, such as proprietary product
technology, learning or experience curve, favourable access to raw materials,
favourable location, government subsidies etc.

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4. Competitive Structure of Industries

Threat of Entry
The following are some of the important common entry barriers:
4. Product Differentiation: Product differentiation characterised by brand image,
customer loyalty, product attributes etc. may form an entry barrier forcing new
entrants to spend heavily to overcome this barrier.
5. Monopoly Elements: Proprietary product/technology, monopolisation/effective
Copyright (c) 2020 John Wiley & Sons, Inc.

control over raw material supplies, distribution channels etc. are entry barriers
which are insurmountable or difficult to overcome.
6. Capital Requirements: High capital-intensive nature of the industry is an entry
barrier to small firms. Further, the risk of huge investment could be a
discouraging factor even for other firms.
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4. Competitive Structure of Industries

Rivalry among Existing Competitors
Rivalry among existing competitors is often the most conspicuous of the
competitions. Firms in an industry are “mutually dependent” – competitive moves
of a firm usually affect others and may be retaliated. Common competitive actions
include price changes, promotional measures, customer service, warranties,
product improvements, new product introductions, channel promotion etc.

Copyright (c) 2020 John Wiley & Sons, Inc.

• There are a number of factors, which influence the intensity of rivalry. These
include:
1. Number of Firms and their Relative Market Share, Strengths etc.: Rivalry is
likely to be affected by the number firms, their relative market shares,
competitive strengths, etc.
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Rivalry among Existing Competitors
There are a number of factors, which influence the intensity of rivalry include:
2. State of Growth of Industry: In stagnant, declining and, to some extent, slow
growth industries, a firm is able to increase its sales only by increasing its
market share, i.e., at the expense of others.
3. Fixed or Storage Costs: When the fixed or storage costs are very high, firms
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are provoked to take measures to increase sales for improving capacity

utilisation or reducing storage costs.
4. Indivisibility of Capacity Augmentation: Where there are economies of
scale, capacity increases would be in large blocks necessitating, in many
cases, efforts to increase sales to achieve capacity utilisation norms.
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4. Competitive Structure of Industries

Rivalry among Existing Competitors
5. Product Standardisation and Switching Costs: When the product of
different firms are standardised, price, distribution, after-sales service,
credit etc. become important strategic variables of competition. Absence of
switching costs makes firms more vulnerable.
6. Strategic Stake: Rivalry in an industry becomes more volatile if a number of

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firms have high stakes in achieving success there. For example, a firm which
regards a particular industry as its core business will give great importance
to success in that industry.
7. Exit Barrier: High exist barriers (for example, compensation for labour,
emotional attachment to the industry etc.) tend to keep firms competing in
an industry even though the industry is not very attractive. 59

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4. Competitive Structure of Industries

Rivalry among Existing Competitors
8. Diverse Competitors: Rivalry becomes more complex and unpredictable
when competitors are very diverse in their strategies, origins,
personalities, relationships to their parents etc.
9. Switching Costs: In some cases, a barrier to entry is created by switching
costs (i.e., one- time costs facing the buyer of switching from one
Copyright (c) 2020 John Wiley & Sons, Inc.

supplier’s product to another’s) such as cost of retraining the employees,

cost of new ancillary equipment etc.
10. Expected Retaliation: The potential entrants’ expectations about the
reactions of the existing competitors may also sometimes deter entry.

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4. Competitive Structure of Industries

Threat of Substitutes
An important force of competition is the power of substitutes. “Substitutes limit the
potential returns in an industry by placing a ceiling on the price firms in the industry
can profitability charge. The more attractive the price performance alternative
offered by substitutes, the firmer the lid on industry profits.”

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Porter points out that substitute products that deserve the most attention are those
that are:
(1) subject to trends improving their price-performance trade-off with the
industry’s product, or
(2) produced by industries earning high profits. 61

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4. Competitive Structure of Industries

Bargaining Power of Buyers
For several industries, buyers are potential competitors – they may integrate
backward. Besides, they have different degrees of bargaining power. “Buyers
compete with the industry by forcing down prices, bargaining for higher quality or
more services, and playing competitors against each other – all at the expense of
industry profitability”.
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Important determinants of the buyer power, explained by Porter, are the following:
1. The volume of purchase relative to the total sale of the seller.
2. The importance of the product to the buyer in terms of the total cost.
3. The extent of standardisation or differentiation of the product.
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4. Competitive Structure of Industries

Bargaining Power of Buyers
Important determinants of the buyer power, explained by Porter, are the following:

4. Switching costs.
5. Profitability of the buyer (low profitability tends to pressure costs down).

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6. Potential for backward integration by buyer.
7. Importance of the industry’s product with respect to the quality of the
buyer’s product or services.
8. Extent of buyers’ information.
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4. Competitive Structure of Industries

Bargaining Power of Suppliers
The important determinants of supplier power are the following:

1. Extent of concentration and domination in the supplier industry.

2. Importance of the product to the buyer.
3. Importance of the buyer to the supplier.
Copyright (c) 2020 John Wiley & Sons, Inc.

4. Extent of substitutability of the product.

5. Switching costs.
6. Extent of differentiation or standardisation of the product.
7. Potential for forward integration by suppliers.

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4. Competitive Structure of Industries

Porter’s analysis, thus, shows that “Knowledge of these underlying sources of
competitive pressure highlights the critical strengths and weaknesses of the
company, reflects its positioning in its industry, clarifies the areas where strategic
changes may yield the greatest payoff, and highlights the areas where industry
trends promise to hold the greatest significance as either opportunities or threats.

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Understanding these sources will also prove to be useful in considering areas for
diversification, though the primary focus here is on strategy in individual industries.
Structural analysis is the fundamental underpinning for formulating competitive
strategy.

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