How the General Environment Shapes Frm and Industry Protabiity 34 ‘On the fi side its also important tounderstand that attractive markets from a Five Forces. perspective are typically unattractive for new entrants. nan article for Harvard Business Review (see "Strategies to Crack Well Guarded Markets"), we reported that, on average, new entrants into highly proftable (attractive) markets were 30 % less profitable than new entrants ito unattractive markets (ein general itis easier for new entrants to make money in unattractive industries than attractive ones) The reason? Barriers to entry made it dificult fr the new entrant to establish itself So, on average, an attractive market rom a Five Fores perspective) is actually the least attractive market for @ new entrant. But wat. We also found that when new entrants did achieve profitability in the most attractive markets, they were four times as profitable asthe average profitable entrant elsewhere. For example, the beverage industry has historically been a high-proft industry (indeed one of the most profitable)—but one with high barrier to entry. So according tothe logic we've been discussing it should be an unattractive market for new entrants. Walmart, however, decided to enter anyway—offring consistently low prices with its Sam's Choice brand, We won't spell out exactly how Walmart did it because those barriers to entry are part of the Coca-Cola and Pepsi case that is a companion to this chapter. Sufce it to say that Walmart was able to overcome each element of the bariers to entry that Coca-Cola and Pepsi had painstakingly erected over decades. By figuring out how to circumvent the entry barriers, Walmart was able to grab almost 5 percent share in an attractive market, indeed in one of the most attractive markets from a Five Forces perspective The point is that if firms figure out how to circumvent the barsers to entry into an attractive market, it can be profitable even i hey aren't able to enter with a particularly unigue value proposition (Sam's Choice Cola isn't all that unique). Finally, we've learned that industries as we've historically defined them (eg,automobiles, medical equipment, computers, cell phones, etc—think about the NAICS codes we covered at the beginning ofthis chapter) are becoming somewhat irelevant as itrelates to finding atrac- tive markets to compete in (it isnot irrelevant to studying the dynamics ofan industry you are already in) In deciding where to compete (Le, which markets to enteritis helpful to be as pectic as possible rather than using broad generates such as industries as they have histor: jealy been defined Infact, as Harvard Business Profesor Clayton Christensen has suggested, you compete at the “job to be done" level if you truly understand the functional emotional 2rd soviet needs of your customer segment te task of offering unique value becomes much esis)" Tesla started inthe automobile industry by targeting wealthy individuals who loved but also had a desire to be green, Customers purchased a Tesla not just because it ion, rapid acceleration/speed) but also anemotional need want tobe partof the Tesla community and want *), Now Tesa has added in-home battery charg she stations and root-mounted solar panels for homes. So fram a storia perspective, Tesla resin the roofing segment ofthe home construction indus aswell as being nthe auto roe industry, One could say that Teslaisin the energy industry at avery high level—whichis re ut tha expanded into rof tiles and battry-chargin stations to doa particular job for avery specie segment of customers: provide a convenient one-stop shop fr clan energy at Fae d onthe road for indvidvals who want a green world” When the industry is defined reine job tobe done” lve, it then makes easier to dently what other companies are also trying todo at that speiicjob (competitors) and what substitutes exist for that job, fast cars solved a functional need (transportati ‘Pl want a green world") anda social need (* ‘others to know about my social consciousness How the General Environment Shapes Firm <+— and Industry Profitability itis’t enough to only understand the five rn industry. The general environment also needs to be understood, To determine the landscape thata firm competes n, forces that directly affect ar as it can affect firms ina variety of ways,” Including affecting the shape of each of the five32. CHAPTER 2. Analysis ofthe External Enviconment: pportuities and Threats smentistobreakitdown into eight ed on each ofthese categories, filustrated in Figure 2.3: industry forces. A simple waytothink about the genera env categories. Strategic manages inthe best comparies ae foc looking for trends that might lead to new opportunities or! + complement produc or services + Techolgal change + General ecnoic codons + Population deogapis + Eagan envionment + Goal compete cs + Police gad relator forces + Socata ores vin he utr sing have the potential vr gy Each eategey can alt eral atergany ral Developments in each ofthe eight categories sho to shape and change the general landscape for any se anindstey' dynamics, which ae shown bythe area within the canter circ aE Ot ofthe fv ores. You shoul lays kep in mind that an indus’ toe “The iveforces are subject to change andimay change even eda, felemarte ot Pe ea environment change. When you ae examining the general environment inpatient tonotjust gta picture of what tings look tke today but to analyze trends 200 CD ‘ach category Is headed toward tomorrow Remember, aswel, that ths ana is nusry speci. You want to know how each ofthe eight categories is going to affect te Paty Yo axestudying, rather than owt might fect single fim Both evel of analysis car bes But at this stage you want to kraw how the genera erironment might afectthe ive forces, potentially gvingyou advanced notice of whats gong changein your industry and 2 chance to plan aczordngl “THE GENERAL ENVIRONMENT complimentary ProdueaServces Soclal/Cutural Forces Technology Change Pottical Legal siarcincont General "Regulatory 7 Economie Forces, ia Conditions ‘tobe! Forces biaiea EcolosealNatural rwronment [EXETER trends in opportunities and threatsn the GeneratfnvironmentHow the General Environment Shapes Firm and industry Profitability 33 ‘The relative importance ofeach of the general environmental factors differs fom industry toindustr. Inthe fastfood industry, social forces, such asa shift toward healthier eating, are likely to significantly alter the threat of substitutes, but technological change doesnt play asa large a role, n the motorcycle manufacturing industry, demographics play a key role, as many Industrialized nations experience an upward trend in the average age ofthe population, but ‘changes in societal perceptions of motorcycles don't appear tobe shiting quickly, resulting in fewer people riding because oftheir age rather than a societal shit inthe perception of motor cycles. Managers need to develop a deep sense of which environmental factors are strategically relevant to their own industries Managers need to understand not only which factors have the largest impact on their industry right now, but also which factors are likely to changein the future, so that they can adapt their firms’ strategies to changing conditions. Complementary Products or Services complementary product oF complementary products or services are those tat can be vein tandem wth those in Shotherindustry Forerample video gominghardvareandsofware,orsmarphone operating Sees Feder res Syrems and pps re complementary sets of rods. When two complements ae used ray tty the ae woth mre than when they areused par Complementary paso 0095 [also called ecosystems) of products can be found in many places, not just inthe technology | ‘Seton Gastavons ad roads arecomplerent to automobiles, ae pngisacompleme- tary product natural as. Trendsin complementary industries ave the potential toed Stee or beter or worse—telanéscapein which fens comets ‘Take the rise of application software (apps), for instance. In the 1990s, Microsoft ‘created too for cottre sles By ding so Mroso ered the barrister nthe spi= ‘Stn stare nasty. a complementary ns t operating systems. Apple made iteven eset eter te app dst by reaing segment oft operating system code, eating saeeyrenew entrants and spring hese of single prpoe, inexpensive apps or mobile semhuting cece Now, customers at pal app store can choose from hundeds of hou Senesof app orth Phones ‘Tae nomber fnew entarsin the app nuts scully ses the bait ety inthe smartphone operating system nd. Rwoulbe dat for ane mabe operating ain vacome onthe sere and empee with Apple or doi Eten power rosa has arsconceecllenges entering the mobile operating stem business eventhough it had 2 eee Saou sont and Googe" For many Indust, changes in eampleetry prod aaaeee ttn most mpornt trends to keep ane on. Some cone them significant see pot ihe even referte tem a sith ce amangtne five industry forces.” Technological Change echnological change within an industry has the potential scope and sometimes society witht Technological changes can include new product, se emortphones; new processes, such as hydra fracturing (racking), which has dramati- daly increased the output ofthe natural gas industry; or new material, such as ithium batter ‘hich make electric automobiles possible. In many industries, the pace of technological Change has accelerated over the lst couple of decades.” Managers find it increasingly impor- cert consistently scan the environment to locate potential new technologies that might Mect their industifes.” Early adopters are often able to gain greater marketshare and earn Figher profit margins than thase who are ate to adopt, suggesting the importance af incorpo- rating new technologies ary Nt only can technology change the nature of vary in an industry by giving some firms an upper hand in gaining marketshare, butt can sometimes lower barriers to entry. For i Stance flexible manufacturing processes have allowed Shanzhai handset makers to nearly Thatch Wokdas cost of manufacturing cll phones. Even in low-technology industries such as ‘feel, new technology can sometimes pave the way for new entrants. In the 1970s, anew tech- ology for smelting steel called the electric arc oven allowed neweiams, such as Nucor, toenter to radically reshape a firm's land: such34 CHAPTER 2. Anayiof the Extra nvionment: Opportunites nd Tests wre been needed to nt that would ha ston theindusty wth nlyone tenth the capital vestment fected the treat of ney ‘traditional stet firm. Perhaps the technological char isthe Internet. Some have sup. Maid peel os est the last 20 yearsisth * G envomsinte geste umber finden ee dal of xperniy ested thatthe next giant wave of technology cHanges OMe Me cnet to and an, cm ‘rts commune, te arproe so nih omer ceased oaeesty stb one on ot aay allow those connections to occur at speeds that t ais being transmitted, aod anyone, at te and oman no mater own data sng te, mud General Economic Conditions Impact on industries: The state ofan atl, te ality ofthe average frm nan ament typically Involves measuring rates, and the rate of inflation or find information on these eco. ‘Changing macroeconomic forces canals have 2 I ‘economy can affect a region or nation and subsequent! Industry tobe profitable, Analyzing the economic en the economic growth rat, intrest rates, currency excharBe deflation. The append provides alist of sources where you can ‘nomic ineicators, Economic Growth How quik orsionlyan economy isgrowinghasa direst impacton ross bottom ine Economic jxpanson ends toimrovecustore balance sheets ower orice senstvty, an nerease the growth tein anindusry a custome’ purchase more es. Ing val. For cramp, a numberof Afcan nations, such as Nigeria and Kenya, have expe- rienced sold levels of economic growth inthe last few years As a consequence, a growing Percentage of the population has sufficient disposable income to afford products like automo. biles ane eel phones, Companies providing products ike these in Aice have experienced boom in customer demane.® The reverses also true. When an economy slows down, industry growth rates slow, customers are more pic sensitive, and suppliers are also likely to be strug- sling and pursuing ways of increasing profits—at the expense of firms in your industry if they have the power todos. Currency Exchange Rates currencyexhane aes ett the valu fone counts arene nln tothe cree om stthr cunt, chon ae Impact on the prices that customers pay for products from firms in other countries dk ety afeingprftabliy orthoses For stone, fommigadlovw ae oe ee appreciated 65 percent against the US, dolar, making Swiss products 5 percent ner eat firm, was particularly hard hit. Ielther had to decreases proftmantn ys nee oak rns sss. cans Nace Inflation‘ significant, consistent rise in Drices, known a problems for firms Inflation, oF the opposite, ation, can eee ma deflation, mean: omen H ' thatthe value ofthe dollar $1 inflation is at 2 percent a year (OW doesn’t stay constant. Today, a praduct may coHow the General Environment Shapes Fiem and Industry Proftabilty, 35 inflation), then next year that product wil cost $1.02 itis higher, though, say 30 percent, |which is not unheard of around the world, the product would cost $1.30 next year and $1.63 the year ater that, doubling the cos in three years. Inflation or deflation, if they are high {enough can make it hard for fms to plan investments. Inflation tends to decrease overall economic growth, increasing rivalry and possibly buyer and supplier power and the threat of ‘substitutes. When firms can't predict what price they will be able to get for a particular prod: ‘uct, investments in new product development become riskier. When inflation i high, many industries experience increases in price competition, rather than development, as a means of gaining market share. Demographic Forces Demographic force involve changes in the basic characteristics of a population, including ‘changes inthe overall number of people, the average age, the number ofeach gender or et nici, oF the income distribution ofthe population Because demographic changes involve basic shits inthe product and geographic markets that frms target, demographie changes are always accompanied by opportunities and threats. Even though demographics often change slowly, they fundamentally reshape the landscape, so good strategic managers have @ firm Understanding of demographic trends. The appendhc contains alist of really available sources for demographic information. Some sources, such as the World Bank, contain hundreds fai ferent demographic indicators. ‘Over the last 50 years, the size the world's population has more than doubled, from around: billion to more than 7 billion people. Projections suggest thatthe Earth's population could reach 9 billion by 2040." Each new individual isa potential new consumer, suagesting ses of many industries wil inerease overtime. However, increases in consump- plies of raw materials (such as the lyst) ae ely to ‘that growth rat tion resulting from population growth also mean that sup rare-earth metas terbium and europium current used in flat-panel dsp Gecrease, Furthermore, the world population int spread evenly over al nations, The en count, toa large degree, forthe numberof firms that ‘mous populations of China and India ac have set up operations in those countries “The average age of the population wit ‘some industries. In Japen, for instance, mor inthe United States, this won't occur unt around 204 this sift. Japanese companies like Honda have invested tens of milion of dol for home use, including walk-assist robots that help seniors with weakened muscles remain ambulatory when they would otherwise need touse a wheelchair.” hin & nation can also havea tremendous effect on han 20 percent ofthe population is overage 65. 10 "The rboties industry has already felt ars in robots Ecological/Natural Environment “The natural environment cn also be a source of change for many industries, In some cases, Te poles changes tothe physical environment such asincreasing shortages of ke inputs tc rovecorth metals or fluctuations inthe amount and cost of energy (oll and gas) More ‘ten though, curent rend inthe natural environment involve changes inthe publi’ per certnot tow businessafecstheenvronment.From gobalwarmingto clean at and water, ‘republic in many countries—inluding developing economies tke China—are demanding pe riems be more proactive in protecting the environment. Many firms have responded by srevtrenting eee natives. Although some of thse maybe fo public relations purposes rij onony fms hove established serious goals. For Instance, Procter & Gamble has goals aennrsp percent renewable energy to powers plants by 202. By 2014, 7.5 percent ofits crerey needs were already met by renewable energy They have aso promised to reduce srcreergy consumption, water usage, greenhouse gas emissions and wast by 20 percent ty 2020, They hve already reduced them by 8 percent by 2014: consumers truly care ea the enronment, then actions lke these increase rivalry as competitors are forced to respond in kind.36 CHAPTER 2. Analysis ofthe External Environment: Opportunities and Thrests Global Forces tries, over the lst 5025, 38 com mone # evolution trade Barer any counties emarkable €cONOMIC TOW and China and india, to Brat and South Arica, have enioved 120 Ty countries to expand 2 sng standard of ving These changes have caused EOP A amin loa, ]perations and begin producing and seling across nations! DOTTE forces ad strategies or capitalizing on them in greater det Global forces aso playa large roe in shaping many ind ‘munications and transportation technolo among nations have fallen dramatically. Mi Political, Legal, and Regulatory Forces 1 use of government. When Pot gl an etary cs arts tat se om te ra ‘new laws are passed, they may ater the shape ofan indsty and MATT eae actions that rms might take.” For example, the federal ordble Heath = aces in 2008, mandated that heath insurance companies insure everyone: HALE TE Te it preexisting conditions, Ths changed the cost structure ofthe insurance ane Hed est tres, resulting in consolidation and es eval, as inefficient fms ether went OV Of Dusness were acquire by ore vial rm. nthe United States, ftiowing te Great Recession of 2008-2009, the Federal Reserve required banks to Kep larger amounts of cash on hand io cover potetal mortgage-related losses. One consequence of this regulation was less lend. ing to smal businesses, erecting entry bares in many industries and changing the nature of rvalyinindusteies with many sal fms. ecase pla proce nv and regulations have the potential 0 shape ad con strain industries, managers should analyze and understand the impact of new Laws and regu lations and éeide how to espond. The Afordable HealthCare Act, fr example required fms with over0 emplayeesto provide heath insurance for ther workers, or face ne. Because the tow aso provided fr health insurance exchanges through which uninsured people could buy their own insurance, some firms dropped employee health insurance asa benefit. Their man- agers have determined that the fine thee companies face would be cheaper than the curent premiums for health insurance (f course, laws ean provide opportunities as wal 5 threats. For instance, laws in many countries andstatesinthe United States thatrequireelectrctyprovderstoobtainapercentage ‘oftheir electricity from renewable sources have resulted ina boom in demand for wind tu. bines and solar panels. Because ofthe potential far-ranging efectof laws and regulations, ‘many fms and industries strategically lobby government in an attempt to influence the la makers to enact legislation favorable other Indusees, Social/Cultural Forces {im happens tobe amongthefistto act onchangesinvaluesand attitudes terinetane ace ‘mous profs for being among thes t capitalize onthe change n social necvenang serve. For example, the collectivist orientation of many eee ae nox of open information sharing Ths open sharing nvm ay eee product knockotts and software pirating than many p io, Denes serapeatce c ell