Unit 2 - Business and Its Environment

A number of factors affect every business. These include both internal

and external factors. The factors that affect a business both positively and
negatively comprise its environment. These include factors such as
management quality to human resources, political climate to environmental
concerns. The range of factors that can potentially affect a business is huge. At
times, the internal and external factors may affect each other as well. They may
also affect the business together in some aspects.

-Umar Farooq, January 24, 2020

Learning Outcomes

At the end of this unit, you will be able to:

• write a report paper describing a business firm and its environment; and
• create a case analysis on a given case/situation.

Pretest

Matching Type

Directions: Match column A with column B.

A B

______ 1. economic variable A. a coping strategy

______ 2. pure competition B. making predictions, projections or
estimation of future events
______ 3. presence of new C. a category of environmental control
Competitors
______ 4. effect of environmental D. an attempt to manipulate the
Uncertainty environment
______ 5. mechanistic design E. an indirect-action element
______ 6. government F. exists when there are many
procedures or sellers of a product
______ 7. buffering G. a characteristic of dynamic
environments
______ 8. forecasting H. difficulty of predicting future state of
affairs
______ 9. creating favorable linkages I. appropriate for a task that is routine
and unchanging
______10. lobbying J. an example of organization with
mechanistic design

Thank you for answering the test. Please read the content.

Content

Introduction

Knowledge about management and organization is very useful especially in human

endeavors like operating a business firm. This will be more significant, however if such
supplemented by a basic knowledge of business and its environment. This unit attempt to provide
such requirement.

What is Business?

Under the free enterprise system, the growth of the economy lies in the ability of private
individuals to achieve economic objectives. The quest for profit is usually undertaken by
engagement in business operations. Business firms and the government are expected to provide
goods and services to the society. The major part of this task, however, is assigned to the private
business firms. Under the system, firms are free to compete with each other and competition
leads to the offering of new and improved products and services to the society. The standard of
living is raised or lowered depending to a large extent on the performance of business firms.

Business is largely responsible for bringing into the market a wide array of products, which
were not made available in the past. High technology items like colored television, video
equipment, cellular phones, and computers are sold openly in the market. This happens even as
business firms continue to provide mankind with basic necessities like food and shelter. Even
amusement centers like Disneyland and resorts like Boracay are made possible because of
business.

Business Defined

Business may be defined as all profit-seeking activities and enterprises that provide goods
and services necessary to an economic system. Profits refer to the rewards for businesspersons
who take the risk involved in producing and marketing goods and services.

Kinds of Business

According to the nature of the principal activity performed, business may be classified into
three main divisions:
 1. Commerce. Business firms, which are engaged in buying and selling of
goods and services, are classified as commerce. Also included in this
category are trading, merchandising, and marketing. Examples of
commerce as a kind of business are supermarkets, dry goods stores.
Peddlers, sari-sari stores, importers, and many others.

2. Industry. Industries are those, which are mainly engaged in production.

Goods produced, which are intended for ultimate consumption., are called
consumer goods, while goods intended for use of business and industry
are called producer’s goods.

Industry business may be further classified into:

a. Genetic industries are those involved in agriculture, forestry, and fish

culture.
b. Extractive industries are those involved in the extraction of goods
from natural resources, which include mining, lumbering, hunting,
and fishing.
c. Manufacturing industries convert raw materials into finished
products. Examples are firms engaged in manufacture of drugs,
plastics, food, liquor, footwear, motorcars, tools, office supplies, etc.
d. Construction industries are those engaged in infrastructures like
airports, seaports, dams, and highways and dwelling units.

1. Services. A service business is one; which sells service to the buyer.

Service firms may be classified as:

a. Recreation - movie houses, television and radio stations, theaters for

drama and stage presentations, resorts, and the like;
b. Personal - restaurants, barber shops, transportation, hotels,
tailoring shops, slimming salons, and the like; and

c. Finance - banks, insurance companies, investment houses,

financing institutions, credit unions, savings and loans associations,
and the like.

Objectives of Business

A business firm is established primarily for profit. These are other reasons, however, why
anyone would want to start a business. Some of these are to do work that is enjoyable, to do
something for pleasure and pride, and to achieve financial independence.

Professional managers maintain that a business firm should achieve the following multiple
objectives:

1. Creation and distribution of a product or service;

2. Satisfaction of personal objectives like profits for owners, salaries and

other compensation for executives, wages and other compensation for
 employees, psychic income for all, including pride in work, security,
recognition, and acceptance;

3. Protection and enhancement of the human and physical resources of

society; and

4. economy and effectiveness of operation.

The Environment of Business Firms

Organizations will succeed or fail depending on the environment that confronts them. The
manager of a particular business organization is not entirely helpless. He can do something about
the environment, or make some adjustments in the organization. Managing the environment
requires a clear orientation and an understanding of factors in the environment that affect
business and the application of the right strategies to harness these factors to a business firm’s
advantage.

The environmental factors that affect the activities of the organization may be internal or
external.

The External Environment

The external environment consists of elements outside an organization that are relevant
to business operations. These elements play important roles in business operations because
these are the sources of the inputs required by business firms for conversion into outputs which,
in turn, are required by the external environment.

Figure 4

The Main Function of the Business Firm

THE BUSINESS
FIRM as transformer

OUTPUTS
as recipient - products
- services

INPUTS
- raw materials
- money as recipient
- labor
- energy

as provider EXTERNAL
ENVIRONMENT
Types of Elements in the External Environment

There are two elements that compose the external environment (Figure5)

1. Direct Action Elements. These directly influence the organization. These the
consumers, competitors, labors unions, suppliers, financial institutions, and government
agencies. They are often referred to as stakeholders of the organization.

2. Indirect Action Elements. These do not affect the organization directly. Instead,
they affect the climate in which the operations of the organization take place. These are the
technological, economic, socio-cultural, political-legal and international variables. There are
instances, however, when an indirect-action element of one industry is regarded as a direct-action
element of another.

For example, the duplication service business may be an indirect-action element pf

schools, but it may be considered as a direct-action element of publishers of books.

Figure 5

Elements in the External Environment of Business Firms

THE BUSINESS
FIRM

Direct Action Elements Indirect Action Elements

- consumers - technology variables
- competitors - economic variables
- labor unions - political-legal variables
- suppliers - socio-cultural variables
- financial institutions - international variables
- government agencies

The Direct-Action Components of the External Environment

What the organizations can achieve will depend much on the direct-action components of
the external environment. However, the organization’s strategy and tactics may modify the
influence of the elements. These elements are:

1. Customers. Customer patronage is very vital to the existence of the

business firm. The manager must continuously strive to keep old
customers and attract new ones. It is not easy to deal with many
 customers because they are different in many ways. A Customer could
be an individual, an institution like school, a government agency, a
business firm, or a social club.

The differences among customers and market situations will require varied
approaches in selling. The modern manager makes careful analysis of the market
and based on findings; the manager makes decisions on the appropriate marketing
strategy.

2. Suppliers. Business firms achieve their objectives through a combination

of activities. First and foremost is the transformation of production inputs like
raw materials, services, energy, equipment, and labor into usable products or
services. Suppliers provide these inputs. As such, business firms must
maintain good relationship with suppliers if they want on-time delivers of
inputs.

Business firms compete with each other in obtaining these inputs in the
same manner that suppliers compete with each other to get supply contracts. The
business firm, through its purchasing officer, takes advantage of the competition
among suppliers to obtain lower prices, better quality of products and services,
faster deliveries, and better after sales service.

3. Labor Supply. The services of managers and employees are

indispensable requirements of business operations. These services are in
a way procured through recruitment and hiring by the human resources
specialists of business firms. As the need for workers skills and
experiences vary, different means are used in locating qualified workers.

In companies where workers are members of unions, collective bargaining

has become a common undertaking. In this activity, management and labor
negotiate wages, benefits working conditions, working hours, grievance
procedures, and so on.

4. Competitors. In determining the appropriate marketing strategy, the

manager of a business firm will have to consider not only the target
customers, but also the competitors. The target market share can be
successfully achieved through careful analysis of competitors.

Competitors may either be direct or indirect. Nescafe and Great Taste

Coffee are direct competitors, and so are Pepsi and Coke, but Nescafe and Pepsi
are indirect competitors. Each of them will have to reckon with the competitive
abilities of each other.

The intensity of competition will differ from one situation to another. As

such, the marketing strategy of any business firm will depend on any of the
following situations:

a. Monopoly - where there is only a single producer or seller;

 b. Oligopoly - when there are only a few producers or similar
products; and
c. Pure Competition - when there are many producers or sellers of
similar products.

5. Financial Institutions. Business firms are concerned with maintaining or

expanding their operations. In either case, the company will need funds.
The expansion option could be opening a new branch, adding a new
product to its line, or purchasing a lot or new equipment. Any of these
moves will require financing through borrowing money on a short-term or
long-term basis. As such, a company planning to expand its business
must be well regarded by financial institutions. Notwithstanding goodwill,
however, financial institutions change policies without warning and
without regard to the effect of such change policies without warning and
without regard to the effect of such change in the operations of business
firms. This being the case, managers consider lending institutions as
useful only when these financial institutions are not in trouble.

6. Government Agencies. In many ways, business organizations are

affected by changes in government policies. Form the enactment of laws
to the granting of business permits, the viability of business firms could be
enhanced or limited by actions of government agencies. For instance, a
local ordinance imposing a higher sales tax could pressure business
firms to relocate their offices in more business-friendly cities.

Another example is the passage of the Senior Citizen’s Law, which placed
some burden on business firms because of the extra clerical and administrative
work involved in its implementation.

The Indirect Action Elements of the External Environment

The business organizations affected indirectly by elements in the external environment.

These elements are the following:

1. Technological Variables. Technology has become widely recognized as

an important ingredient in the success firms and manager who does not
consider the technological variable in his faces the risk of losing out to
competitors. Technology refers to the tools and ideas that may be used
by an organization to pursue its goals. A business firm, for instance, may
use a new invention or an innovation to increase its market share, or to
develop a new market for its products. Examples of innovations are those
happening in the telecommunications industry. These include advances in
communication technology such as calling and text services using cellular
phones. The service providers in the industry, namely Globe Telecom,
Smart Communications, and Sun Cellular, attempt to outdo one another
with the use of newer technologies like the transmission of photographs
and documents to other parties.

2. Economic Variables. The economy is a very important element in

business pursuits. Even if the company has the edge on technology and
 financial capability over its competitors, it may not be so successful if the
economy does not allow it.

When managers make business decisions, economic conditions must be

taken into consideration. This concern will touch on the health of the economy in
terms of inflation, income levels, gross domestic product, employment, and job
outlook. Because of the importance of the economic variable, business managers
are required to devote time and resources to forecasting the economy and to
anticipate changes in important concerns like prices.

3. Socio-Cultural Variables. Business organizations can only flourish if they

consider society’s customs and values in the planning and
implementation of their activities. For instance, employers in the
Philippines must integrate in their annual financial plan the tradition of
cash advances required by employees in times of need like enrolment in
school of children, baptism of child, marriage, etc.

4. Political-Legal Variables. These consist of laws and regulations

promulgated and implemented at the local, national, and international
levels. Also included in this element are individuals and organizations that
attempt to influence the political-legal environment. They consist of
lobbyist and a number of protest groups.

5. International Variables. This element includes changes occurring in

various parts of the world, which may affect business organizations in
various ways and degrees. For local businesses, what happens overseas
may be of little concern to them, unless they plan to operate globally.
There are some instances when this element cannot be disregarded. For
instance, a foreign government may ban the entry of products coming
from countries like the Philippines. If that is the case, some of the Filipino
exporters may be affected.

It is wise for the manager of a business organization to pay some attention to

developments around the world. In doing so, the manager have sufficient time to prepare
for whatever will affect his business.

Matching the Organization with the Environment

Why do some organizations thrive in certain environments where others fail? The answer
may be derived from determining whether the organization in question is fitted to the environment
where it operates. Not all environments are similar in terms of business considerations. One
environment may be friendly to one particular type of business, while another may be hostile to
that business type.

Types of Business Environment

The environment of business may be classified as either static or dynamic.

1. Static. Few forces in the environment are changing to affect business.

Among the notable features of static environments are no new
 competitors, no new technological breakthroughs by current
competitors, and little activity by public pressure groups to influence
the organization.

2. Dynamic. When significant number of environmental forces that affect

business are changing. Among the features of a dynamic environment
are rapidly changing government regulations affecting business, new
competitors, difficulties in acquiring raw materials, and continuously
changing socio-cultural aspects of the population.

Environmental Uncertainty

This may be defined as a lack of complete information regarding what exists and what
developments may occur in the environment. This uncertainty, makes it difficult for managers to
perform the following:

1. analyze constituencies and their needs;

2. predict future state of affairs; and

3. understand their potential implications for the organization.

Dimensions of Environmental Uncertainty

There are two important dimensions of environmental uncertainty:

1. Complexity. This refers to the number of different factors in the

environment such as information, capital, material, people, and other
organizations. For example, consider a university situated in a city about
a hundred kilometers from Manila. Some environmental factors to
consider would be the availability of qualified teachers in the area and the
income of the people in the area. Environmental uncertainty rises as the
number of factors increases.
2. Rate of Change in these Factors. These are the factors in the external
environment change from time to time. For instance, income levels and
the number of qualified teachers may increase or decrease after a few
years. Environmental uncertainty rises as the the rate of change increases.

Design of Business Organizations

Uncertainties in the environment make it necessary for managers to consider the

appropriate organization design for each type of environment.
Figure 6

Environments and Organizations

STATIC DYNAMIC
ENVIRONMENT ENVIRONMENT

few forces are changing significant number of forces

are changing

MECHANISTIC
ORGANIZATION ORGANIC
ORGANIZATION

the appropriate
organization the appropriate
organization

1. Mechanistic Design. An organization with a mechanistic design is

deemed appropriate for a task that is routine and unchanging. This design
is characterized by a vertical structure that typically operates with:

a. More centralized authority;

b. Many rules and procedures;

c. A precise division of labor;

d. Narrow spans of control; and

e. Formal means of coordination.

The best example of an organization with a mechanistic design is the

government, which is largely bureaucratic. Such a design is more or less
appropriate for static environments. Since decision making is centralized,
communication flows from top to bottom levels and vice versa.

2. Organic Design. An organization with organic design is appropriate for a

task that is non-routine and changing. It is characterized by the following:

a. Decentralized authority;

b. Fewer rules and procedures;

c. Less precise division of labor;

 d. Wider span of control; and

e. More personal means of coordination.

Tasks in organic organizations are completed through group efforts and

are adjusted and redefined to cope with demands made by the changing
environment. Those close to the task are vested with authority to make decisions
since they have a more immediate understanding of problems. Organization
members exchange information about adjustments in tasks and changes that have
occurred in the environment making communication as primarily horizontal.

Survival Strategies in uncertain Environments

To survive and grow in uncertain environments, two general options are available to
business organization. These are the following:

1. Application of Coping Strategies. Coping strategies refer to the transformation of

a part or all of the organization to make its activities more compatible with existing environmental
conditions.

2. Adaptation of Environmental Control Measure. Environmental control refers to

management actions to identify and influence environmental factors to obtain more positive
effects on organizational activities.
Figure 7

Survival Strategies in Uncertain Environments

SURVIVAL STRATEGIES

COPING CONTROLLINGS

buffering

smoothing Creating favorable Manipulating the

forecasting linkages environment

rationing

boundary spanning merger

changing
structural complexity joint ventures elements
executive succession Interlocking
directorates
lobbying
executive recruitment

institutional
advertising forming trade
associations
resource flows

Coping Strategies

Coping strategies are those used to protect internal operations from the harmful effects of
changes in the environment. These strategies are as follows:

1. Buffering. This refers to setting up buffers for both input and output sides
of organizational activities in order to absorb and cope with environmental
uncertainty. Programs or practices are instituted to prevent environmental
factors from upsetting the production process. An example input buffer is
the stock file of fuel by a shipping company to provide some assurance of
unhampered operation for a certain period.

When the production outputs of finished goods are not disposed as fast as
they are produced, it may cause disruption in the production activities of the firm.
If such disruption will jeopardize operations, management may choose to sell their
 products at low prices, sometimes even lower than production costs. This action is
referred to as buffering on the output side.

2. Smoothing. Irregular demand is always a problem for many business

firms. This is do because of the difficulty in making adjustments
concerning manpower and equipment. This is remedied by smoothing
which refers to efforts involved in reducing changes in the environment.
An example of smoothing is the offering of discounts during slack
seasons like selling raincoats at big discounts during summer.

3. Forecasting. This refers to making predictions, projections, or estimates

of future events or conditions in the environment in which the
organization operates. If forecasting is effective, the business firm will be
able to make the necessary adjustments in its operation to meet changes
in the environment. For instance, a newspaper publisher who was able to
forecast and determine a steady decline in newspaper readership, will
have the advantage of considering other options before the event actually
happens.

4. Rationing. This happens when the organization ignores some operations

and emphasizes others in order to preserve the most critical functions of
the technical core. An example is the university, which temporarily
deploys its research personnel to assist in enrolment activities. After the
enrolment period, the reassigned employees go back to their permanent
units.

5. Boundary Spanning. This is the process of creating jobs or roles in which

individual employees are required to “have strong communication links
within their department, with people in other units, and often with the
external community.” The individuals, called boundary spanners, gather
and collect critical information, which can be used for planning in the
technical core. The information gathered can also be used to reduce
uncertainty in some areas of operations.

6. Structural Complexity. This is when the business adapts to the

environment by setting up departments or subsystems that will respond to
specific groupings of environmental factors. For example, the production
of a book publishing company may create another unit that will deal with
authors’ concerns. Another example is the creation of senior citizens
lanes in various government offices and large retail establishments.

7. Executive Succession. One way of adapting to uncertainty in the

environment is the adoption of an effective executive succession. The
replacement of a top manager by another manager is referred to as
executive succession. The following advantages may be derived from an
effective executive succession:

a. enables the organization to hire executives with new energy and

vitality;
b. provides organization with a way to bring in specific skills needed
to analyze and respond to the environment; and
 c. provides a coordinated means of replacing retiring executives.

Environmental Controlling

So far, the discussions have focused on how business firms can apply specific strategies
to cope with changes in the environment. The business firm has another option, however. It may
make some moves to control the environment. Controlling the environment consist of two
categories. They are as follows:

1. Creating Favorable Linkages. The objective of creating favorable linkages

is to reduce environmental uncertainty. This can be achieved by using
any of the following methods:

a. Mergers. There are times when the activities of one business firm
cause uncertainty to another. For instance, a certain manufacturer
of grocery products failed several times in its commitment to
deliver items that were purchased earlier by a big retailing firm. To
reduce or eliminate this uncertainty, the big retailer decided to
acquire the supplier company. Such move is called merger, and it
constitutes a method for controlling the environment.

b. Joint Ventures. There are also times when a company finds it

difficult to operate in a particular market, especially those located
overseas. A car manufacturer, for instance, may create a
favorable linkage by forming a temporary business partnership
with a local distributor. Such method of reducing environmental
uncertainty is called joint venture.

c. Interlocking Directorates. When some members of the board of

directors of one company are also members of the board of
another company, such arrangement is called interlocking
directorates. This happens when the expert needed by the
company is a current member of the board of another corporation.
A retired bank executive, for instance, may be recruited to sit on
the board of directors of a company even if the retired bank
executive is currently a member of the board of another company.

d. Executive Recruitment. Companies hire executives who have prior

experience in the industry. For instance, it is not hard to determine
the benefits that may be derived by a local university which
recruits a president a recently retired regional director of a
government agency which oversees the operation of local
colleges and universities.

e. Institutional Advertising. This type of advertising is designed to

build goodwill for a company among stockholders, employees,
distributors, the public, and the government. An example is the
advertisement of Our Lady of Fatima University congratulating its
graduates who were declared topnotchers in the board exam for
 physicians, nurses, physical therapists, and medical laboratory
science (Philippine Star, March 4, 2012, p. 17)

f. Resource Flows. This term refers to the pattern of resource

exchanges between the organization and other organizations in
the environment. In the attempt to control the environment, the
manager can make important decisions on the pattern of
exchanges. The options of the manager fall under any of the
following:

i. Frequency of Exchanges. For instance, a university may

decide to set relationships with many book distributors or
to rely only on one distributor. Once the relationship is
established, the university may choose to buy books more
often or occasionally.

ii. Quantity Involved in the Exchanges. A decision may also

be adapted on the quantity of books that will be purchased.
All of the above will be done in the interest of better
performance in the organization.

2. Manipulating the Environment. Organization may attempt to manipulate

the environment by using any or all of the following:

a. Changing Elements. A business organization may seek to manipulate its

environment by changing one or more environmental elements in which it operates.
For example, a large distributor of motorcycles signed an exclusive distribution
contract with the manufacturer of Suzuki brands. The benefit offered to the distributor
is substantial financing support provided by the manufacturer. After more than
ten years of successful operations, the manufacturer of Yamaha, Kawasaki, and Honda
motorcycles made a successful penetration of the various market segments including
those served by the Suzuki distributor. The viability of the distributor’s operations
was placed in jeopardy. To avoid the consequence of declining sales, the distributor
changed its competitive element of a single brand dealership to a multi-brand
dealership. This change brought the distributor back to its former
competitive strength.

b. Lobbying. This term refers to the act of attempting to influence

business and government to create legislation or conduct an activity that
will help a particular organization. Lobbying usually involves paying an
individual to represent the interests of the organization to decision makers
in the government. The lobbyist may be employees of the organization or may be
hired by the organization on a full0time or part-time basis. An example of lobbyist in
the Philippines is PROGUN which “became heavily involved in political lobbying and
advocacy…to protect firearm rights for Filipinos.
c. Forming Trade Associations. One way of manipulating the
environment is through trade associations, which are composed of
member organizations that share a common interest.
 Members of trade association pool their resource to influence government
policies affecting their business. There are many trade associations existing in the
Philippines . Some of them are as follows:

i. Philippine Petroleum Sea Transport Association, Inc.

ii. Association of Petrochemical Manufacturers of the

Philippines

iii. Cement Manufacturers Association of the Philippines

iv. Association of Flexible Packaging Manufacturers of the

Philippines

v. Philippine Appliance Industry Association

Summary

The environment plays an important role in the success or failure of any business firm. If
management is serious in achieving the objectives of the firm, some steps to manage environment
must be undertake.

The environment of business consists of two parts: the internal and the external. These
elements constitute the areas of concern for the managers.

The external environment consists of the direct-action elements and the indirect action
elements. The direct-action elements are customers, suppliers, labor supply, competitors,
financial institutions, and government agencies. The indirect elements are technological variable,
economic variable, socio-cultural variable, political-legal variable, and international variables.

Environment is very crucial to the success or failure of a business; the right environment
must be matched with the right business.

Business environment may either be static or dynamic. Mechanistic organizations are

appropriate for static environments, while organic organizations are appropriate for dynamic
environments.

To survive and grow in uncertain environments, business organizations may adapt either
or both of the following: the application of coping strategies and the application of environmental
control measure.

Thank you for reading the content. Now that you had learned
about business and its environment, do the succeeding learning
activities. If you have questions regarding the activity, you may contact
me to the number indicated in the course guide.