Strategic Management

The Nature of Internal Analysis |1

Module 7 The Nature

of Internal Analysis

Course Learning Outcomes:

1. To Evaluate the Porter’s Five Forces Strategy.

2. To Fully understand the nature of Internal analysis.

Environmental Analysis and Internal Analysis

Strategic analysis of any Commercial enterprise has two stages that include
Internal and External analysis.

Environmental analysis: An environmental analysis in strategic

management has vital role in businesses by indicating current and
potential opportunities or threats outside the company in its external
environment. The external environment includes political, environmental,
technological and sociological events or trends that can affect the business
directly or indirectly. An environmental analysis is usually conducted as
part of an analysis of strengths, weaknesses, opportunities, and threats
(SWOT) when a strategic plan is being developed. Managers practicing
strategic management must conduct an environmental analysis three-
monthly, semi-annually, or annually, depending on the nature of the
industry. Managers who identify events or conditions in the external
environments can achieve competitive advantage and decrease its risk of
not being ready when faced with threats (Alok Goyal, Mridula Goyal,
2009).

In management studies, it has been shown that the intent of an

environmental analysis is to help in strategy development by keeping
decision-makers within an organization informed on the external
environment. This may include changing of political parties, increasing

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regulations to decrease pollution, technological expansions, and shifting

demographics. If a new technology is developed and is being used in a
different industry, a strategic manager would understand how this
technology could also be used to improve processes within his business. An
analysis allows businesses to gain an outline of their environment to
discover opportunities or intimidations. Environmental analysis facilitates
strategic thinking in organization. It provides input for strategic decision.
The analysis should provide an understanding of changes that occurs in
environment.

Link between environmental scanning and strategic management (Source:

Alok Goyal, Mridula Goyal, 2009).)

There are many strategic analysis mechanisms that company can use. The
most used comprehensive analysis of the environment is the PESTLE
analysis. Company managers and strategy formulators use this analysis to
find where their market currently. It also helps predict the future of the
organization. PESTLE analysis comprises of numerous factors that affect
the business environment. These factors can affect every industry directly
or indirectly.

PESTEL denote the following factors:

 Political factors
 Economic factors
 Social factors
 Technological factors
 Legal factors
 Environmental factor

PEST analysis (Source: Farhad Analoui, 2003)

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It is documented in studies that the company conduct an environmental

analysis to identify the potential influence of particular aspects of the
general and operating environments on business operations. This analysis
recognizes the opportunities and threats in a business environment in
terms of a company's strengths and flaws. Environmental analysis consists
of three-step process in which a company first categorizes environmental
factors that affect its business. In second step, the company gathers
information about the selected set of environmental factors that are most
likely to impact business operations. This information serves as input to a
forecast of the impact of each environmental factor on the business.
Studies indicated that environmental analysis give strength to
organizations to anticipate opportunities and help strategists to plan
warning system to prevent threat (Alok Goyal, Mridula Goyal, 2009).
There are some drawbacks of environmental analysis:

 Environmental analysis does not predict the future, nor does it

eliminate uncertainty for any organization.

 Environmental analysis is not a sufficient guarantor of

organizational effectiveness.

 The potential of environmental analysis is often not realized

because of how it is practiced.

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Internal analysis: Internal analysis is the methodical evaluation of the key

internal features of an organization. Internal Analysis recognizes and
assesses resources, capabilities, and core competencies. Internal analysis
has four elements such as the organization's Current vision, Mission,
Strategic objectives and Strategies. Resources are the assets that an
organization has for carrying out whatever work activities and processes
relative to its business definition, business mission, and goals and
objectives. These resources include financial resources, Physical assets,
Human resources, Intangible resources and Structural-cultural resources.
Core competencies are the organization's major value-creating skills and
abilities that are shared across multiple product lines or multiple
businesses. This internal sharing process is what differentiates core
competencies from typical capabilities. Competitive advantage is The
collection of factors that sets a company apart from its competitors and
gives it a unique position in the market.

Internal Analysis is performed because it is the only way to identify an

organization's strengths and weaknesses it's needed for making good
strategic decisions. In order to start the strategic management process,
managers are required to conduct an internal analysis. This involves
ascertaining the business' strengths and weaknesses, by analyzing its
competencies. It also involves managers emphasizing competitive
advantage of the business. For effective strategies, the organization must
exploit and expand on its strengths, as well as reduce its weaknesses; thus
promoting its competitive advantage to gain cost-effectiveness.

There are four major areas which needs to be considered for internal
analysis:

1. The organization's resources, capabilities.

2. The way in which the organization configures and co-ordinates its
key value-adding activities.
3. The structure of the organization and the features of its culture.
4. The performance of the organization as measured by the strength
of its products.

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Internal analysis

To summarize, environmental analysis is strategic device to distinguish

external and internal elements, which can affect the performance of firms.
The analysis include appraising threat level or opportunity the factors
might present. These assessments are translated into the decision-making
process. The analysis helps align strategies with the firm's environment.
Internal analysis is the process of identifying and assessing an
organization's particular features that include Resources, Capabilities, and
Core competencies.

Porter's 5 Forces: Find Your Strategy Focus

Porter's Five Forces is a model that identifies and analyzes five competitive
forces that shape every industry and helps determine an industry's
weaknesses and strengths. Five Forces analysis is frequently used to
identify an industry's structure to determine corporate strategy. Porter's
model can be applied to any segment of the economy to understand the
level of competition within the industry and enhance a company's long-

term profitability. The Five Forces model is named after Harvard Business
School professor, Michael E. Porter.

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Porter's Five Forces is a business analysis model that helps to explain why
various industries are able to sustain different levels of profitability. The
model was published in Michael E. Porter's book, "Competitive Strategy:
Techniques for Analyzing Industries and Competitors" in 1980. The Five
Forces model is widely used to analyze the industry structure of a company
as well as its corporate strategy. Porter identified five undeniable forces
that play a part in shaping every market and industry in the world, with
some caveats. The five forces are frequently used to measure competition
intensity, attractiveness, and profitability of an industry or market.

Competition in the Industry

The first of the five forces refers to the number of competitors and their
ability to undercut a company. The larger the number of competitors,
along with the number of equivalent products and services they offer, the
lesser the power of a company. Suppliers and buyers seek out a company's
competition if they are able to offer a better deal or lower prices.
Conversely, when competitive rivalry is low, a company has greater power
to charge higher prices and set the terms of deals to achieve higher sales
and profits.

Questions:

 How many competitors are in your industry?

 What makes your product/service different from your rivals?
 Are there any barriers that would prevent your customers from switching
providers? If so, what are they?
 Is your industry shrinking or growing?

Potential of New Entrants Into an Industry

A company's power is also affected by the force of new entrants into its
market. The less time and money it costs for a competitor to enter a
company's market and be an effective competitor, the more an established
company's position could be significantly weakened. An industry with
strong barriers to entry is ideal for existing companies within that industry
since the company would be able to charge higher prices and negotiate
better terms.

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Questions:

 How expensive would it be and how long would it take to achieve the
economies of scale necessary to compete in your industry?
 Is there strong customer loyalty in your industry? Would it be difficult for
a new entrant to woo customers away from your products or services?
 Are there any additional barriers to entry a new entrant could encounter
(e.g. regulation, intellectual property, access to distribution channels, etc.)?

Power of Suppliers

The next factor in the five forces model addresses how easily suppliers can
drive up the cost of inputs. It is affected by the number of suppliers of key
inputs of a good or service, how unique these inputs are, and how much it
would cost a company to switch to another supplier. The fewer suppliers to
an industry, the more a company would depend on a supplier. As a result, the
supplier has more power and can drive up input costs and push for other
advantages in trade. On the other hand, when there are many suppliers or
low switching costs between rival suppliers, a company can keep its input
costs lower and enhance its profits.

Questions:

 Who are your key suppliers?

 How many competent suppliers does your company have to choose
from?
 How difficult or expensive would it be to change suppliers?

Power of Customers

The ability that customers have to drive prices lower or their level of power
is one of the five forces. It is affected by how many buyers or customers a
company has, how significant each customer is, and how much it would
cost a company to find new customers or markets for its output. A smaller
and more powerful client base means that each customer has more power
to negotiate for lower prices and better deals. A company that has many,
smaller, independent customers will have an easier time charging higher
prices to increase profitability.

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Questions:

 How many potential buyers are in your industry compared to the number
of sellers?
 Does a handful of buyers make up the majority of your revenue?
 How easy would it be for your buyer to switch from one seller to
another?

Threat of Substitutes

The last of the five forces focuses on substitutes. Substitute goods or

services that can be used in place of a company's products or services pose
a threat. Companies that produce goods or services for which there are no
close substitutes will have more power to increase prices and lock in
favorable terms. When close substitutes are available, customers will have
the option to forgo buying a company's product, and a company's power
can be weakened.

Questions:

 How many substitutes products/services are there your industry?

 How similar are those products/services from a functional standpoint?
 Are those products/services affordable?
 What differentiates your products/services from those substitutes?

What overall strategy should you pursue?

Using Porter's 5 Forces, you should start to understand the forces that
shape your industry, the next step is to identify how your company is going
to compete. Ideally, we want to sit in a position where we can defend
against the 5 Forces thereby maximizing our profit. The 3 generic
strategies - Cost Leadership, Differentiation, and Focus, in combination
with an internal analysis will help us find a defendable position.

Cost leadership is a strategy which focuses on reducing the costs involved

in providing a product or service. By running a lean operation, you’ll
maintain healthy margins and profits.

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A differentiation strategy focuses on providing a product or service that is

perceived as being unique and hard to replicate. Buyers won’t find
anything like your product or service in the market allowing you to charge
a premium.

A focus strategy looks at serving a specific target market better than

anyone else in this industry. By acquiring a deep understanding of your
specific customer, you’ll be able to serve your customers more effectively
and efficiently than the competitors who are working across the entire
industry.

Advantages of Environmental Analysis

The internal insights provided by the environmental analysis are used to

assess employee’s performance, customer satisfaction, maintenance cost,
etc. to take corrective action wherever required. Further, the external
metrics help in responding to the environment in a positive manner and
also aligning the strategies according to the objectives of the organization.

Environmental analysis helps in the detection of threats at an early stage,

that assist the organization in developing strategies for its survival. Add to
that, it identifies opportunities, such as prospective customers, new
product, segment and technology, to occupy a maximum share of the
market than its competitors.

Steps Involved in Environmental Analysis

Identifying: First of all, the factors which influence the business entity are
to be identified, to improve its position in the market. The identification is
performed at various levels, i.e. company level, market level, national level
and global level.

Scanning: Scanning implies the process of critically examining the factors

that highly influence the business, as all the factors identified in the
previous step effects the entity with the same intensity. Once the

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important factors are identified, strategies can be made for its

improvement.

Analyzing: In this step, a careful analysis of all the environmental factors is

made to determine their effect on different business levels and on the
business as a whole. Different tools available for the analysis include
benchmarking, Delphi technique and scenario building.

Forecasting: After identification, examination and analysis, lastly the

impact of the variables is to be forecasted.

Environmental analysis is an ongoing process and follows a holistic

approach, that continuously scans the forces effecting the business
environment and covers 360 degrees of the horizon, rather than a specific
segment

References

https://www.civilserviceindia.com/subject/Management/notes/environmental-analysis-internal-
analysis.html

https://businessjargons.com/environmental-analysis.html

https://www.investopedia.com/terms/p/porter.asp

https://www.executestrategy.net/blog/porters-5-forces

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