OPPORTUNITIES & THREATS – ANALYZING THE EXTERNAL ENVIRONMENT

Marketing Environment
The marketing environment refers to all internal and external factors, which directly or
indirectly influence the organization’s decisions related to marketing activities. The marketing
environment consists of forces that are within or beyond the control of an organization which
influences its marketing activities. The marketing environment is dynamic in nature.
The marketing environment of a business consists of an internal and an external
environment. The internal environment is company specific and includes owners, workers,
machines, materials etc. which offers strengths and weaknesses to business while the external
environment is further divided into two components: micro & macro, which brings opportunities

MARKETING
ENVIRONMENT

Internal Environment External Environment

or or
Controllable Factors Uncontrollable Factors

Micro Environment Macro Environment

and threats to the business.

Internal Environment
The internal environment of the business includes all the forces and factors inside the
organization which affect its marketing operations. The internal factors inside an organization
can be identified using the “5M’s of Marketing” which are the following:

 Manpower (Labor)
 Money (Finance)
 Machinery (Equipment)
  Materials (Production)
 Minutes (Time)
The factors mentioned above are part of the organization and affects the marketing
decision and its relationship with the customers. The internal environment is under the control
of the marketer and can be changed with the changing external environment. Nevertheless, the
internal marketing environment is as important for the business as the external marketing
environment. This environment includes the sales department, marketing department, the
manufacturing unit, the human resource department, etc.

External Environment
The external environment has an indirect impact on business. It refers to some external
factors which are commonly uncontrollable, this factors has an indirect influence on the business.
There are two types of external environment which are the following:

 Micro Environment
The micro component of the external environment is also known as the task
environment. It is comprised of external forces and factors that are directly related to the
business. These factors are controllable to some extent. It includes the following:

1. Customers – Comprise of the target group of the organization. The main goal of
an organization is customer satisfaction. The organization undertakes the
research and development activities to analyze the needs of customers and
manufacture products according to those needs.
2. Suppliers – They provide raw materials to the company to produce goods and
services. It is crucial to identify the suppliers existing in the market and choose the
best that fulfills the company’s requirement.
3. Market Intermediaries – It includes parties involved in distributing the product or
service of the organization. An example of these are resellers, distributors, and
advertising agencies.
4. Financial Intermediaries – It provides finance for the business transactions.
Examples of financial intermediaries are banks, credit organizations, and
insurance organizations.
5. Competitors – Are the players in the same market who targets similar customers
as that of the organization. Keeping a close watch on competitors enables a
company to design its marketing strategy according to the trend prevailing in the
market.
6. Government – The government departments make several policies that do have
an influence on the marketing strategies. A company has to keep track on these
policies and make the marketing programs accordingly.
 7. Public – It is made up of any other group that has an actual or potential interest
or affects the company’s ability to serve its customers. The business has some
social responsibility towards the society in which it is operating. Thus, all the
marketing activities should be designed that result in increased welfare of the
society as a whole.

 Macro Environment
The macro component of the marketing environment is also known as the broad
environment. These are the factors that exist outside the organization and cannot be
controlled. It also influences the organizational activities to a significant extent. Macro
environment is subject to constant change. It includes the following:

1. Demographic Environment – The demographic environment is made up of the

people who constitute the market. Before marketing a product, a marketer
collects the information to find the suitable market for the product. Demographic
environment is responsible for the variation in the tastes and preferences and
buying patterns of individuals. The changes in demographic environment
persuade an organization to modify marketing strategies to address the altering
needs of customers.
2. Economic Environment – The economic environment constitutes factors which
influence customers’ purchasing power and spending patterns. These factors
include inflation, interest rates, unemployment, monetary and fiscal policy, and
customer income.
3. Physical Environment – The physical environment includes the natural
environment in which the business operates. The natural factors that affects the
marketing activities of an organization are natural resources, weather, and
pollution.
4. Technological Environment – The technological environment constitutes
innovation, research and development in technology, technological alternatives,
innovation inducements also technological barriers to smooth operation.
Technology is one of the biggest sources of threats and opportunities for the
organization and it is very dynamic. As technology is advancing day by day,
organizations have to keep themselves updated so that customers’ needs can be
met with more precision.
5. Political & Legal Environment – The political & legal environment includes laws
and government’s policies prevailing in the country. It also includes legal bodies
and government agencies that influence and limit organizations and individuals.
Every organization should take care of the fact that marketing activities should not
harm the political and legal environment prevailing in a country.
6. Socio-Cultural Environment – The social-cultural aspect of the macro
environment is made up of the lifestyle, values, culture, prejudice and beliefs of
 the people. This differs in different regions of a country. These forces help in
determining that what type of products that the customers prefer, what
influences the purchase attitude or decision, which brand they prefer, and at what
time they buy the products.

Importance of Analyzing the Marketing Environment

It is necessary for the management of the company to understand the importance of
marketing environment wisely as it helps in planning of the business operations because every
business, no matter how big or small, operates within the marketing environment.
The company’s present and future existence, profits, image, and positioning depend on
its internal and external environment. In order to operate and stay in the market for long, one
has to understand and analyze the marketing environment and its components properly. It helps
the company to understand the exact needs and requirements of its existing as well as
prospective customers. It is also necessary for the company to understand, use, and embrace the
new trends that are ruling the market in order to stay relevant and consistent amidst the
changing dynamics. The company will also be able to keep a thorough check on the factors that
can have a negative impact on its business operations and act as an obstacle in its trajectory of
growth and success, furthermore, it will be able to project and emphasize on opportunities.
Analyzing the marketing environment will also make a company to be able to plan its offering
and the marketing strategies that are a notch higher than that of the competition to gain the
advantage in the market. Furthermore, it helps the company to plan and build various business
strategies
In conclusion, when a company is considering putting forward a marketing plan then he
has to consider both the internal and external marketing environments and see the strengths,
weaknesses, opportunities and threats to the business.

Environmental Scanning
Marketing managers are confronted with many environmental concerns, such as those
posed by technology, customers and competitors, ethics and law, the economy, politics,
demographics, and social trends. All organizations should continuously appraise their situation
and adjust their strategy to adapt to the environment. One technique used by organizations to
monitor the environment is known as environmental scanning.
Environmental scanning is a process of monitoring the organization’s external and
internal environments. As a part of the environmental scanning process, the organization collects
information regarding its environment and analyzes it to forecast the impact of changes in the
environment. The information obtained through environmental scanning can also be used by
leaders to design new objectives and strategies or modify existing objectives and strategies. The
frequency of environmental scanning depends on the needs of the organization. An organization
operating in an industry which is highly impacted by technological innovations needs to
constantly monitor its environment and use the results to design its processes. On the other
hand, some organizations might need to conduct an environmental scan on an ad-hoc basis.

Important Factors for Environmental Scanning

Before scanning the environment, an organization must take the following factors into
consideration:
1. Events – These are specific occurrences which take place in different environmental
sectors of a business. These are important for the functioning and/or success of the
business. Events can occur either in the internal or the external environment.
Organizations can observe and track them.
2. Trends – As the name suggests, trends are general courses of action or tendencies along
which the events occur. They are groups of similar or related events which tend to move
in a specific direction. Further, trends can be positive or negative. By observing trends, an
organization can identify any change in the strength or frequency of the events suggesting
a change in the respective area.
3. Issues – In wake of the events and trends, some concerns can arise. These are Issues.
Organizations try to identify emerging issues so that they can take corrective measures to
nip them in the bud. However, identifying emerging issues is a difficult task. Usually,
emerging issues start with a shift in values or change in which the concern is viewed.
4. Expectations – Some interested groups have demands based on their concern for issues.
These demands are Expectations.
Importance of External Environmental Scanning
In order for the organization to be successful, it is important that it scans its environment
regularly to assess its developments and understand factors that can contribute to its success.
The purpose of the scan is the identification of opportunities and threats affecting the business
for making strategic business decisions. Once opportunities and threats are identified, the
organization can create a strategy which helps in maximizing the opportunities and minimizing
the threats.

 Maximizing Opportunities

o Focus on the most realistic opportunities. Determine which ones you can
realistically pursue, and create a path for taking advantage of them.
o Reflect on your business’s challenges. Your strategies for overcoming them might
be reframed as opportunities. For example, if one of your key suppliers raises
 prices, you might find a new supplier that not only offers lower pricing, but is more
innovative and provides superior customer service.
o Consider how opportunities will contribute to success. Completing a SWOT
analysis is all about gaining practical insight, so don’t stop at identifying your
opportunities. Go a step further and explain how they will benefit your business.

 Minimizing Threats

o Create a plan to counteract potential threats. Consider what you can do to

minimize or remove risks, and detail the steps you’ll take in your business plan.
Identifying threats sometimes requires speculation, but it’s important to show you
have a plan to combat existing threats and overcome potential obstacles before
they arise.

INDUSTRY LIFE CYCLE

Like every person has to go through different stages of life, every industry has to go
through its industry life cycle. The industry lifecycle traces the evolution of a given industry based
on the business characteristics commonly displayed in each phase. It depicts the various stages
where businesses operate, progress, prospect and slump within an industry. It typically consists
of five stages — startup, growth, shakeout, maturity and decline. These stages can last for
different amounts of time, some can be months or years.

STARTUP STAGE
The startup phase involves the development and early marketing of a new product or
service. At the introduction stage, the firm may be alone in the industry. It may be a small
entrepreneurial company or a proven company which used research and development funds and
expertise to develop something new. Marketing refers to new product offerings in a new industry
as "question marks" because the success of the product and the life of the industry is unproven
and unknown.
A firm will use a focused strategy at this stage to stress the uniqueness of the new product
or service to a small group of customers. These customers are typically referred to in the
marketing literature as the "innovators" and "early adopters." Marketing tactics during this stage
are intended to explain the product and its uses to consumers and thus create awareness for the
product and the industry.
Since it costs money to create a new product offering, develop and test prototypes, and
market the product, the firm's and the profits of industry are usually negative at this stage. Any
profits generated are typically reinvested into the company to solidify its position and help fund
continued growth.
Customer demand as well is limited due to unfamiliarity with the new product’s features
and performance. Distribution channels are still underdeveloped, so there are very few product
supply and promotional activities. One example, in 1980’s, personal computers were a part of
very few houses, while on the other hand, products like fans or even refrigerators were part of
almost every household.

GROWTH STAGE
As the product slowly attracts attention from a bigger market segment, the industry
moves on to the growth stage where profitability starts to rise. Improvement in product features
leads to easiness to use, thus increasing value to customers. Complementary products also start
to become available in the market so people have greater benefits purchasing the product and
its complements. As demand increases, product price goes down which further increase
customer demand.
At the this stage, revenue continues to rise and companies start generating positive cash
flows and profits as product revenue and costs break-even. Usually, profits are not a priority, as
companies spend on research and development or marketing. Business processes are improved,
and geographical expansion is common. Once the new product has demonstrated viability, larger
companies in adjacent industries tend to enter the market through acquisitions or internal
development.
Like the startup stage, the growth stage as well requires a significant amount of capital.
The goal of marketing efforts at this stage is to differentiate a firm's offerings from other
competitors within the industry. Thus the growth stage requires funds to launch a newly focused
marketing campaign as well as funds for continued investment in property, plant, and equipment
to facilitate the growth required by the market demands.
Research and development funds will be needed to make changes to the product or
services to better reflect customers' needs and suggestions. In this stage, if the firm is successful
in the market, growing demand will create sales growth. Earnings and accompanying assets will
also grow and profits will be positive for the firms.
The duration of the growth stage, as all the other stages, depends on the particular
industry or product line under study. Some items—like fashion clothing, for example—may
experience a very short growth stage and move almost immediately into the next stages of
maturity and decline. A hot toy this holiday season may be nonexistent or downgraded to the
back shelves of a deep-discounter the following year. However, for other products, the growth
stage may be longer due to frequent product upgrades and enhancements that forestall
movement into maturity. Smart phones industry today is an example of an industry with a long
growth stage due to upgrades in hardware, services, and add-on products and features.

SHAKEOUT STAGE
Shakeout usually refers to the consolidation of an industry. Some businesses are naturally
eliminated because they are unable to grow along with the industry or are still generating
negative cash flows. Some companies merged with competitors or are acquired by those which
were able to obtain bigger market shares at the growth stage. At the shakeout stage, growth of
revenue, cash flows and profit start slowing down as industry approaches maturity.

MATURITY STAGE
At the maturity stage, majority of the companies in the industry are well-established and
the industry reaches it saturation point. The industry life cycle curve becomes noticeably flatter,
indicating slowing growth.
Some competition from late entrants will be visible, and it will be harder for them to
penetrate the industry. These new entrants will try to steal market share from existing products.
Thus, the marketing effort must remain strong and must stress the unique features of the product
or the firm to continue to differentiate a firm's offerings from industry competitors.
Firms may compete on quality to separate their product from other lower-cost offerings,
or conversely the firm may try a low-cost/low-price strategy to increase the volume of sales and
make profits from inventory turnover. A firm at this stage may have excess cash to pay dividends
to shareholders. But in mature industries, there are usually fewer firms, and those that survive
will be larger and more dominant. While innovations continue they are not as drastic as before
and may be only a change in color or formulation to stress "new" or "improved" to consumers.

DECLINE STAGE
Decline stage is the last stage of an industry life cycle. It is almost inevitable in every
industry. If product innovation has not kept pace with other competing products and/or service,
or if new innovations or technological changes have caused the industry to become obsolete,
sales suffer and the life cycle experiences a decline. In this phase, sales are decreasing at an
accelerating rate. This is often accompanied by another, larger shake-out in the industry as
competitors who did not leave during the maturity stage now exit the industry. Yet some firms
will remain to compete in the smaller market. Mergers and consolidations will also be the norm
as firms try other strategies to continue to be competitive or grow through acquisition and/or
diversification.
APPLICATION:
CRT TELEVISIONS
The technology dominated for three quarters of a century - CRT TVs date back to the
1930s and it was only in 2007 that sales of the slimmer, more versatile LCD units overtook sales
of CRT sets.
STARTUP STAGE: The first working prototype saw the light of day in 1927. Philo
Farnsworth showcased the CRT technology to display an image consisting of 60 horizontal lines.
The image? A dollar sign. In 1929, Russian inventor Vladimir Zworykin improved upon existing
CRT technology and demonstrated the first television system with the features we’ve come to
expect from a CRT – or “tube” television. The patent for this technology was later acquired by
RCA, and turned into the first consumer television sets. These consumer models were rather
niche items and not available to the general public until 1933.
GROWTH STAGE: In 1939, RCA television sales exploded after President Franklin
Roosevelt delivered a televised speech at the opening ceremony of the 1939 New York World’s
Fair. This set in motion a series of events that would see television sets begin to make their way
into every household in America. The speech — while impressive use of technology at the time
— was recorded.
MATURITY STAGE: The first live national broadcast took place in 1951 when President
Harry Truman’s speech at the Japanese Peace Treaty Conference in San Francisco was
transmitted to local broadcast stations utilizing AT&T’s transcontinental cable technology.
DECLINE STAGE: While CRT technology dominated the television market mostly
unchallenged for decades, additional television technologies started to emerge in the latter half
of the twentieth century.
FLOPPY DISKS
The floppy disc is a medium storage device that brought a revolution to the computer
industry in the late 1960’s and was commercially introduced in the year 1971. It was significantly
used for Data Storage. It was introduced after the computerization of everything around us. It
was meant to store or transfer data from one computer to another.
STARTUP STAGE: It was introduced in the year 1971 and became a major success as it was
the only solution to the data transfer.
GROWTH STAGE: It was majorly used in the years 1980’s- 1990’s. As the years passed it
improved its design and also maximized its storage capacity.
 MATURITY STAGE: It was very much in the market throughout the 80’s and 90’s. Its
maximum storage space was 200 MB
DECLINE STAGE: The product faced a major decline after the advent of better innovation
in the market. The computer produced did not support floppy disk. There were better
alternatives such USB card, CD’s, external hard disks and pen drives. In 2009 Hewlett-Packard
stopped making floppy disks completely which was stopped by Dell earlier in 2003.

PORTER’S FIVE FORCES

In 1979, Harvard Business School professor Michael E. Porter developed the five forces
model. It was his first article for the Harvard Business review titles “How Competitive Forces
Shape Strategy”. It was later detailed in his book on Competitive strategy. This model aimed to
provide a new way to use effective strategy to identify, analyze and manage external factors in
an organization’s environment.

Porter’s work has been recognized as extremely important in the field. Despite criticisms
regarding its applicability in a much altered world, it remains one of the most widely used
methods of industry analysis.

Through his model, Porter classifies five main competitive forces that affect any market
and all industries. It is these forces that determine how much competition will exist in a market
and consequently the profitability and attractiveness of this market for a company. Through
sound corporate strategies, a company will aim to shape these forces to its advantage to
strengthen the organizations position in the industry.

For the purpose of this model, industry attractiveness is the overall profitability potential
of the industry. An attractive industry will be one where the combined power of the competitive
forces will increase profitability potential. While an unattractive industry will be one where the
collective impact of the forces will drive down profitability potential.

These forces, termed as the micro environment by Porter, influence how a company
serves its target market and whether it is able to turn a profit. Any change in one of the forces
might mean that a company has to re-evaluate its environment and realign its business practices
and strategies.

An attractive market place does not mean that all companies will enjoy similar success
levels. Rather, the unique selling propositions, strategies and processes will put one company
over the other.

Components of Porter's Five Forces

1. Bargaining Power of Suppliers

It represents the extent to which the suppliers can influence the prices.
When there are a lot of suppliers, buyers can easily switch to competition
because no supplier can, actually, influence the prices and exercise control in
the industry. On the contrary, when the number of suppliers is relatively
small, they can push the prices up and be powerful. Thus, supplier bargaining power is high when:

 The market is conquered by a few big suppliers.

 There are no alternative products available.
 The supplier customer base is fragmented, making their bargaining power low.
 High switching costs from one to another supplier.

Possibility of supplier integration forward, to obtain higher profits and margins.

2. Bargaining Power of Customers

The bargaining power of customers looks at customers' ability to affect the

pricing and quality of products and services. When the number of consumers
of a particular product or service is low, they have much more power to affect
pricing and quality. The same holds true when a large proportion of buyers
can easily switch to a different product or service. When consumers buy products in low
quantities, the bargaining power is low. Factors affecting this force are buyer concentration, the
degree of dependency on the product, overall bargaining leverage, readily available purchasing
information, substitute products, price sensitivity, and total volume of trade. Thus, customer
bargaining power is high when:

 Customers procure large volumes.

 The supplying industry consists of several small operators.
 The supplying industry is controlled with high fixed costs.
 The product has substitutes. Switching products is easy and simple.
 Switching products does not incur high costs.
 Customers are price responsive. Customers could manufacture the product
themselves.

3. Threat of New Entrants

When the barriers to entry into an industry are high, new businesses can
hardly enter the market due to high costs and strong competition. Highly
concentrated industries, like the automobile or the health insurance, can
claim a competitive advantage because their products are not homogeneous,
and they can sustain a favorable position. On the other hand, when the barriers to entry into an
industry are low, new businesses can take advantage of the economies of scale or key
technologies. Possible barriers to entry could include:

 Economies of scale. High initial investment costs or fixed costs

 Cost advantage of existing players.
 Brand loyalty.
 Intellectual property like licenses, etc.
 Shortage of important resources.
 Access to raw materials is controlled by existing players.
 Distribution means are controlled by existing players.
 Existing players have secure customer relations. Elevated switching costs for
customers.
 Legislation and government acts.
4. Threat of Substitutes

When customers can choose between a lot of substitute products or

services, businesses are price takers, i.e. buyers determine the prices, thereby
lessening the power of businesses. On the contrary, when a business follows
a product differentiation strategy, it can determine the ability of buyers to
switch to the competition. This threat is determined by things such as:

 Brand dependability of customers.

 Secure customer relationships.
 Switching costs for customers.
 The relative price for performance of substitutes.
 Up-to-date trends.
5. Competitive Rivalry

In highly competitive industries, firms can exercise little or no control on

the prices of the goods and services. In contrast, when the industry is a
monopolistic competition or monopoly, businesses can fully control the prices
of goods and services. Rivalry between existing players is likely to be high when:

 Players are the same size.

 Players have comparable strategies.
 Little or no differentiation between players and their products leading to price
competition.
 Low market growth rates.
 Barriers for exit are high.

Step-by-Step Five Forces Analysis

Porter's Five Forces Analysis is an important tool in the project planning stage. Porter's Five
Forces Analysis makes a strong assumption that there are only five important forces that could
determine the competitive power in a business situation. Using the following three steps:
Step 1- Identify the different factors that bring about the competitive pressures for each of the
five forces:

 Who are the suppliers?

 Who are the customers?
 What are the substitute products?
 Is it difficult to enter this industry?
 Who are the major competitors in this industry?

Step 2- Based on the factors identified, determine if the pressures are:

 Strong
 Moderate
 Weak

Step 3- Determine whether the strength of the five forces is favorable to earning attractive profits
in the industry. Using the Five Forces model can help answer the following questions:

 Is the state of competition in the industry stronger than "normal"?

 Can companies in this industry expect to earn decent profits in light of the competitive
forces?
 Are the competitive forces sufficiently powerful enough to undermine industry
profitability?

COMPETITIVE ADVANTAGE
A competitive advantage is the unique ability of a firm to utilize its resources effectively,
managing to improve customer value and position itself ahead of the competition. In other
words, it’s something that a company does better than its competitors because of some
proprietary process, service, or brand.
What Does Competitive Advantage Mean?

What is the definition of competitive advantage? A firm gains a competitive advantage either
through lower cost offerings (cost advantage) or through product differentiation
(differentiation advantage).The firm exploits its resources, such as brand equity, brand
recognition, distribution network or patents and trademarks, to create a cost advantage.
The effective utilization of its resources develops the firm’s distinctive competencies, which
facilitate innovation, efficiency, and product quality, thus improving customer responsiveness
and customer satisfaction. In the same way, a firm that seeks to achieve a competitive
advantage targets larger markets, aiming to differentiate its offerings, increase its market
share, and strengthen its brand recognition.

Example: There are several great examples of differentiation comparative advantage, such as
Nike, Google, and Honda. All these brands achieve important economies of scale by their strong
brand name that increases customer loyalty and customer satisfaction.

Nike offers a great variety of sports goods that can satisfy any consumer, and in turn,
consumers are willing to pay a premium for the Nike products because they trust the company,
and they like its offerings. Thus, through differentiation, Nike gains a competitive edge against
other sports goods brands.

Google is the number one search engine and the best website for optimization searches that
returns the most accurate results in no time. Google has achieved a competitive advantage by
offering innovative services, such as Google Search, Gmail, Google Finance, Google Docs, and
more, maintains an incredibly powerful infrastructure and occupies 70% of the Internet market.

Honda capitalizes on its strong brand reputation to offer reliable vehicles, which consistently
rank very high in terms of fuel efficiency, value for money, and quality. In addition, Honda is
one of the first car companies to release a hybrid vehicle and continues to be a leader in the
field.

Therefore, in the real business world, firms gain a competitive edge by capitalizing on their
know-how, technological infrastructure, the cost of production, and overall resources to be
able to offer customer value and high-quality products.

Summary Definition
Define Competitive Advantage: A competitive advantage is when a company is able to
outperform its competitors by running its operations more efficiently, making better, less
expensive products, and becoming more appealing to consumers.

PORTER’S VALUE CHAIN

Understanding How Value Is Created Within Organizations
How does your organization create value?
How do you change business inputs into business outputs in such a way that they have a greater
value than the original cost of creating those outputs?
This is not just a dry question: it is a matter of fundamental importance to companies, because it
addresses the economic logic of why the organization exists in the first place.
Manufacturing companies create value by acquiring raw materials and using them to produce
something useful. Retailers bring together a range of products and present them in a way that is
convenient to customers, sometimes supported by services such as fitting rooms or personal
shopper advice. And insurance companies offer policies to customers that are underwritten by
larger re-insurance policies. Here, they are packaging these larger policies in a customer-friendly
way, and distributing them to a mass audience.
The value that has created and captured by a company is the profit margin:

Value Created and Captured – Cost of Creating that Value = Margin

The more value an organization creates, the more profitable it is likely to be. And when you
provide more value to your customers, you build competitive advantage.
Understanding how your company creates value, and looking for ways to add more value, are
critical elements in developing a competitive strategy. Michael Porter discussed this in his
influential 1985 book "Competitive Advantage," in which he first introduced the concept of the
value chain.
A value chain is a set of activities that an organization carries out to create value for its customers.
Porter proposed a general-purpose value chain that companies can use to examine all of their
activities, and see how they are connected. The way in which value chain activities are performed
determines costs and affects profits, so this tool can help you understand the sources of value
for your organization.

Elements in Porter's Value Chain

Rather than looking at departments or accounting cost types, Porter's Value Chain focuses on
systems, and how inputs are changed into the outputs purchased by consumers. Using this
viewpoint, Porter described a chain of activities common to all businesses, and he divided them
into primary and support activities, as shown below.

Primary Activities:
Primary activities relate directly to the physical creation, sale, maintenance and support of a
product or service. They consist of the following:

 Inbound Logistics – These are all the processes related to receiving, storing, and
distributing inputs internally. Your supplier relationships are a key factor in creating value
here.
 Operations – These are the transformation activities that change inputs into outputs that
are sold to customers. Here, your operational systems create value.
 Outbound Logistics – These activities deliver your product or service to your customer.
These are things like collection, storage, and distribution systems, and they may be
internal or external to your organization.
 Marketing and Sales – These are the processes you use to persuade clients to purchase
from you instead of your competitors. The benefits you offer, and how well you
communicate them, are sources of value here.
 Service – These are the activities related to maintaining the value of your product or
service to your customers, once it's been purchased.

Support Activities:
These activities support the primary functions above. In our diagram, the dotted lines show that
each support, or secondary, activity can play a role in each primary activity. For example,
procurement supports operations with certain activities, but it also supports marketing and sales
with other activities.

 Procurement (Purchasing) – This is what the organization does to get the resources it
needs to operate. This includes finding vendors and negotiating best prices.
 Human Resource Management – This is how well a company recruits, hires, trains,
motivates, rewards, and retains its workers. People are a significant source of value, so
businesses can create a clear advantage with good HR practices.
 Technological Development – These activities relate to managing and processing
information, as well as protecting a company's knowledge base. Minimizing information
technology costs, staying current with technological advances, and maintaining technical
excellence are sources of value creation.
 Infrastructure – These are a company's support systems, and the functions that allow it
to maintain daily operations. Accounting, legal, administrative, and general management
are examples of necessary infrastructure that businesses can use to their advantage.
Companies use these primary and support activities as "building blocks" to create a valuable
product or service.
Using Porter’s Value Chain
To identify and understand your company's value chain, follow these steps.
Step 1: Identify sub activities for each primary activity.
For each primary activity, determine which specific sub activities create value. There are three
different types of sub activities:

 Direct activities create value by themselves. For example, in a book publisher's marketing
and sales activity, direct sub activities include making sales calls to bookstores,
advertising, and selling online.
 Indirect activities allow direct activities to run smoothly. For the book publisher's sales
and marketing activity, indirect sub activities include managing the sales force and
keeping customer records.
 Quality assurance activities ensure that direct and indirect activities meet the necessary
standards. For the book publisher's sales and marketing activity, this might include
proofreading and editing advertisements.
Step 2: Identify sub activities for each support activity.
For each of the Human Resource Management, Technology Development and Procurement
support activities, determine the sub activities that create value within each primary activity. For
example, consider how human resource management adds value to inbound logistics,
operations, outbound logistics, and so on. As in Step 1, look for direct, indirect, and quality
assurance sub activities.
Then identify the various value-creating sub activities in your company's infrastructure. These
will generally be cross-functional in nature, rather than specific to each primary activity. Again,
look for direct, indirect, and quality assurance activities.
Step 3: Identify links.
Find the connections between all of the value activities you have identified. This will take time,
but the links are key to increasing competitive advantage from the value chain framework. For
example, there is a link between developing the sales force (an HR investment) and sales
volumes. There is another link between order turnaround times, and service phone calls from
frustrated customers waiting for deliveries.
Step 4: Look for opportunities to increase value.
Review each of the sub activities and links that you've identified, and think about how you can
change or enhance it to maximize the value you offer to customers (customers of support
activities can be internal as well as external).
Tip 1
Your organization's value chain should reflect its overall generic business strategies. So, when
deciding how to improve your value chain, be clear about whether you are trying to set yourself
apart from your competitors or simply have a lower cost base.
Tip 2
You will inevitably end up with a huge list of changes. Given that, know what to prioritize.
Tip 3
This looks at the idea of a value chain from a broad, organizational viewpoint.

Key Points:
Porter's Value Chain is a useful strategic management tool.
It works by breaking an organization's activities down into strategically relevant pieces, so that
you can see a fuller picture of the cost drivers and sources of differentiation, and then make
changes appropriately.
FOUR BUILDING BLOCKS OF COMPETITIVE ADVANTAGES

Competitive advantage consists of four generic building blocks: quality, innovation, efficiency
and customer responsiveness.
- Quality means better design, durability and reliability of the product. People think of
products in these terms only.
- Efficiency refers to cost to the target market via production, overheads and logistics.
- Customer responsiveness is the degree to which a product satisfies the needs of the
customers.
- Innovation means remaining a step ahead of time. Adding value to the products and
services ahead of the competitors.
1. Efficiency: To determine how efficiently they are using organizational resources, managers
must be able to measure accurately how many units of inputs (raw materials, human resources,
and so on) are being used to produce a unit of output. They must also be able to measure the
number of units of outputs (goods and services) they produce.

2. Quality: Today, competition often revolves around increasing the quality of goods and
services. In the car industry, for example, with each price range, car competes against one
another in terms of their features, designs and reliability.

3. Responsiveness to customers: Finally, strategic managers can help to make their

organizations more responsive to customers if they develop a control system that allows them
to evaluate how well employees with customer contact and performing their jobs. Monitoring
employees’ behavior can help managers to find the ways to increase employees’ performance
level, perhaps by revealing areas in which skills training can help employees or by finding new
procedures that allow employees to perform their job better.

4. Innovation: strategic can help to raise the level of innovations in an organization. Successful
innovation takes place when managers create an organizational setting in which employees feel
empowered to be creative and authority is decentralized to employees so that they feel free to
experiment and take risks.
Internal Analysis: A Three-Step Process
1. Understand the process by which companies create value for customers and profit for
themselves.
a. Resources
b. Capabilities
c. Distinctive Competencies
2. Understand the importance of superiority in creating value and generating high
profitability.
a. Efficiency
b. Quality
c. Innovation
d. Responsiveness to Customers
3. Analyze the sources of the company’s competitive advantage.
a. Strengths – that are driving profitability
b. Weaknesses – opportunities for improvements
Competitive Advantage
- Competitive Advantage
 o A firm’s profitability is greater than the average profitability for all firms in its
industry.
- Sustained Competitive Advantage
o A firm maintains above average and superior profitability and profit growth
for a number of years
The Primary Objective of Strategy is to achieve a Sustained Competitive Advantage Which in
turn results in Superior Profit and Profit Growth.

Competitive Advantage, Value Creation, and Profitability

How profitable a company becomes depends on three basic factors:
1. VALUE or UTILITY the customer gets from owning the product
2. PRICE that a company charges for its products
3. COSTS of creating those products
o Consumer surplus is the excess utility a consumer captures beyond the price paid.
Basic Principle: the more utility that consumers get from a company’s products or services,
the more pricing options the company has.

DISTINCTIVE COMPETENCIES
Firm - specific strengths that allow a company to gain competitive advantage by
differentiating its product and/or achieving lower costs than its rivals.

The Role of Resources

■ Resources
– Capital or financial, physical, social or human, technological, and organizational
factors endowments
– Tangible and Intangible
■ A firm - specific and difficult to imitate resources is likely to lead to distinctive
competency
■ A Valuable resources that creates strong demand for a firm’s products may lead to
distinctive competency.
The Role of Capabilities
■ Capabilities
– A company’s skills at coordinating and using its resources
■ Capabilities are the product of organizational structure, processes, and control systems
■ We must add people, particularly leadership in building the structure, etc.

Strategy, Resources, Capabilities, and Competencies

The Value Chain
■ A company is a chain of activities for transforming inputs into outputs that customer’s
value
■ The transformation process is composed of primary and support activities that add
value to the product
The Value Chain: Primary and Support Activities

Building Blocks of Competitive Advantage

The Generic Distinctive Competencies Allow a company to:
- Differentiate product offering
- Offer more utility to customer
- Lower the cost structure regardless of the industry, its products, or its services
EFFICIENCY
■ The quantity of inputs it takes to produce a given output. Usually measured as outputs
over inputs.
Example:
- No. of Employees
- Capital Investment
■ Productivity leads to greater efficiency and lower costs:
Example:
- Employee Productivity
- Capital Productivity
- Measured by the quantity of inputs it takes to produce a given output:
Efficiency = Outputs / Inputs
- Productivity leads to greater efficiency and lower costs:
o Employee productivity
o Capital productivity
Superior efficiency helps a company attain a competitive advantage through a lower cost
structure.
QUALITY
■ Superior Quality = customer perception of greater value in a specific products attributes.
Examples:
- Form, Features, Performance, Durability, Reliability, Style, Design
■ Quality Products – goods and services that are reliable and that are differentiated by
attributes that customers perceive to have higher value.
Examples:
■ The impact of quality on competitive advantage
 – High-quality products increase the value of (differentiated) the products in
customer’s eyes
– Greater Efficiency and lower unit costs are associated with reliable products
Quality Products are goods and services that are:
- Reliable and
- Differentiated by attributes that customers perceiver to have higher value
The impact of quality on competitive advantage:
- High – quality products differentiate and increase the value of the products in
customers’ eyes.
- Greater efficiency and lower unit costs are associated with reliable products.
Superior quality = customer perception of greater value in a product’s attributes
INNOVATION
■ The act of creating new, commercially viable products or processes.
– Product Innovation
– Creates products that customers perceive as more valuable, increasing the
company’s pricing option.
– Process Innovation
– Creates value by lowering production costs.
Innovation is the act of creating new products or new processes
- Product Innovation
o Creates products that customers perceive as more valuable and
o Increases the company’s pricing options
- Process Innovation
o Creates value by lowering production costs
Successful innovation can be a major source of competitive advantage
- By giving a company something unique, something its competitors lack.
Responsiveness to Customers
■ Doing a better job than competitors of identifying and satisfying customers need
– Superior quality and innovation are integral to superior responsiveness to
customers
– Customizing goods and services to the unique demands of individual customers
or customers group
■ Sources of enhanced customer responsiveness
– Customer response time, design, service, after-sales service and support
Identifying and satisfying customers’ needs – better than the competitors
 Superior quality and innovation are integral to superior responsiveness to customers.
 Customizing goods and services to the unique demands of individual customers or
customer groups.
Enhanced customer responsiveness
Customer response time, design, service, after-sales service and support
Superior responsiveness to customers differentiates a company’s products and services and
leads to brand loyalty and premium pricing.

The Durability of Competitive Advantage

■ Barriers to Imitation
- Imitating Resources
- Imitating Capabilities
■ Capability of Competitors
- Strategic Commitment
- Absorptive Capability
■ Industry Dynamism
Analyzing Competitive Advantage and Profitability
 Competitive Advantage
o When a company’s profitability is greater than the average of all other companies in
the same industry that compete for the same customers
Benchmarking
 Comparing company performance against that of competitors and the company’s
historic performance
Measures of Profitability
 Return on Invested Capital (ROIC)
𝑁𝑒𝑡 𝑝𝑟𝑜𝑓𝑖𝑡 𝑁𝑒𝑡 𝑖𝑛𝑐𝑜𝑚𝑒 𝑎𝑓𝑡𝑒𝑟 𝑡𝑎𝑥
ROIC = 𝐶𝑎𝑝𝑖𝑡𝑎𝑙 𝐼𝑛𝑣𝑒𝑠𝑡𝑒𝑑 = 𝐸𝑞𝑢𝑖𝑡𝑦+𝐷𝑒𝑏𝑡 𝑡𝑜 𝑐𝑟𝑒𝑑𝑖𝑡𝑜𝑟𝑠
 Net Profit
Net Profit = Total revenues – Total costs
The DURABILITY of a company’s competitive advantage over its competitors depends on:
1. Barriers to Imitation
Making it difficult to copy a company’s distinctive competencies
 Imitating Resources
 Imitating Capabilities
2. Capability of Competitors
 Strategic commitment
Commitment to a particular way of doing business
 Absorptive capacity
Ability to identity, value, assimilate, and use knowledge
3. Industry Dynamism
Ability of an industry to change rapidly
Competitors are also seeking to develop distinctive competencies that will give them a
competitive edge.

Why Companies Fail

 Inertia
o Companies find it difficult to change their strategies and structures
 Prior Strategic Commitments
o Limit a company’s ability to imitate and cause a competitive disadvantage
 The Icarus Paradox
o A company can become so specialized and inner directed based on past success that if
loses sight of market realities
o Categories of rising and falling companies:
- Craftsmen - Builders - Pioneers - Salespeople

When a company loses its competitive advantage, its profitability fails below that of the
industry
- It loses the ability to attract and generate resources
- Profit margins and invested capital shrink rapidly
Avoiding Failure: Sustaining Competitive Advantage
1. Focus on the Building Blocks of Competitive Advantage
Develop distinctive competencies and superior performance in:
 Efficiency
 Innovation
 Quality
 Responsive to Customers
2. Institute Continuous Improvement and Learning
Recognize the importance of continuous learning within the organization
3. Track Best Practices and Use Benchmarking
Measure against the products and practices of the most efficient global competitors
4. Overcome Inertia
Overcome the internal forces that are barriers to change

Luck may play role in success, so always exploit a lucky break – but remember:
“The harder I work, the luckier I seem to get.”
 ACHIEVING SUPERIOR EFFICIENCY, QUALITY, INNOVATION AND RESPONSIVENESS TO
CUSTOMER
THE BUILDING BLOCKS OF COMPETITIVE ADVANTAGE
These four factors help the companies build and sustain a competitive advantage.
a. Superior efficiency
b. Superior quality
c. Innovation
d. Superior customer responsiveness

A. Achieving Superior Efficiency

 The more efficient a company is, the fewer inputs are required to produce a particular
output.
 The most common measure of efficiency for many companies is employee efficiency.
 Employee productivity refers to the output produced per employee.
 Employee productivity helps a company attain a competitive advantage through a
lower cost structure.
B. Achieving Superior Quality
 A product is said to have superior quality when customers perceive that its attributes
provide them with higher utility than the attributes of products sold by rivals.
 When customers evaluate the quality of a product, they commonly measure two
attributes.
a. Quality as excellence: Product design and styling, aesthetic appeal, features, and
so on.
b. Quality as reliability: The product consistently performs, its function well, and
rarely, if ever, breaks down.

ACHIEVING SUPERIOR INNOVATION

Innovation refers to the act of creating new products or processes. There are two main
types of innovation: Product innovation and Process innovation. Product Innovation is the
development of products that are new to the world or have attributes superior to those existing
products. Process Innovation is the development of new process for producing products and
delivering them to customers.
•Most important source of competitive advantage
•Innovative products or processes gives a company competitive advantage that allows it to:
Differentiate its products and charge a premium price
Lower its cost structure below that of its rivals
•Successful new-product launches are catalysts of superior profitability
A. INNOVATION AND ITS FAILURE HIGH FAILURE RATES
 Uncertain Market Demand, Lack of Pain points
 Poor Design or Commercial Readiness
 Wrong Positioning/ Segmentation
 New Technology but less takers
 Slow or Poor Go-to-Market Plan

B. INNOVATION AND ITS FAILURE HIGH FAILURE RATES

 Create Need or Pain point for Customer

 Ease of Manufacturing

 Cost of Development to be Optimized

 Coordination between Market Sensing and R&D

 Quick Efficient GTM Plan

ACHIEVING SUPERIOR RESPONSIVENESS TO CUSTOMER

 Developing a customer focus:
o Top leadership commitment to customers.
o Employee attitudes toward customers.
o Bringing customers into the company.
 Satisfying customer needs:
o Customization of the features of products and services to meet the unique need
of groups and individual customers.
o Reducing customer response times:
 Marketing that communicates with production.
 Flexible production and materials management.
 Information systems that support the process.

The primary Role of Different Functions in Achieving Superior Customer Responsiveness
Value Creation Function Primary Roles
 Through leadership by example, build a company-wide
Infrastructure (Leadership)
commitment to customer responsiveness.
 Achieve customization by implementing flexible
Production
manufacturing.
  Achieve rapid response through flexible manufacturing.
 Know the customer.
Marketing
 Communicate customer feedback to appropriate functions.
 Develop logistics systems capable of responding quickly to
Materials Management
unanticipated demands.
Research and Development  Bring customers into the product development process.
 Use Web-based information systems to increase customer
Information Systems
responsiveness.
Human Resources  Develop programs to get employees to think like customers.