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Chapter 3
External Analysis: Industry
Structure, Competitive
Forces, and Strategic
Groups

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LEARNING OBJECTIVES
1. Generate a PESTEL analysis to evaluate the impact of external factors on the
firm.
2. Differentiate the roles of firm effects and industry effects in determining firm
performance.
3. Apply Porter’s five competitive forces to explain the profit potential of different
industries.
4. Examine how competitive industry structure shapes rivalry among competitors.
5. Describe the strategic role of complements in creating positive-sum co-opetition.
6. Explain the five choices required for market entry.
7. Appraise the role of industry dynamics and industry convergence in shaping the
firm’s external environment.
8. Generate a strategic group model to reveal performance differences between
clusters of firms in the same industry.

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How External Factors Impact a Firm
General environment:
• Strategic leaders have little control.
• Macroeconomic factors are included.
• Examples: interest rates, exchange rates, etc.

Task environment:
• Strategic leaders have some influence.
• Includes the composition of strategic groups.
• Includes the structure of the industry.

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The PESTEL Framework
Groups environmental factors into six segments:
1. Political.
2. Economic.
3. Sociocultural.
4. Technological.
A straightforward way to
5. Ecological. scan, monitor, and evaluate
6. Legal. external factors.

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The Firm within Its External Environment, Industry, and
Strategic Group, Subject to PESTEL Factors

Exhibit 3.1

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Political Factors
Pressure that government bodies, nongovernmental
organizations (NGOs) and social movements (#MeToo)
can exert to influence the firm:
• Lobbying.
• Public Relations.
• Contributions.
• Litigation.

Political and legal forces are closely related:

• Political pressure often results in changes in legislation.

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Economic Factors
Largely macroeconomic. Examples include:
Affect economy-wide • Growth rates.
phenomena. • Employment level.
• Interest rates.
• Price stability (inflation
and deflation)
• Currency exchange rates.

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Sociocultural Factors
Society’s cultures, norms, and values:
• Are constantly in flux.
• Differ across groups.
• Strategic leaders should monitor these trends.

Demographic trends:
• Population characteristics.
• Age, gender, family size, ethnicity, sexual orientation, religion,
and socioeconomic class.

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Technological Factors
Application of knowledge to create:
• New processes and products.

Innovations in process technology:

• Lean manufacturing, Six Sigma quality, genetic engineering,
artificial intelligence, and quantum computing.

Innovations in product technology:

• Drones, wearable devices, high-performing electric cars.

Advances in artificial intelligence and machine learning.

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Ecological Factors
Broad environmental The relationship
issues: between organizations
• Natural environment. and the environment
can be:
• Climate change.
• Adversarial.
• Sustainable economic
growth. • Can provide business
opportunities.

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Legal Factors
Official outcomes of political
processes:
• Laws. Legal factors
• Mandates. often coexist with
or result from a
• Regulations.
political will.
• Court decisions.

Many industries have been

deregulated:
• Airlines, telecom, energy, and trucking.

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Industry vs. Firm Effects
Industry Effects: Firm Effects:
• Describe the economic • Attribute firm performance to
structure of the industry. strategic leaders’ actions.
• Elements in common to all. • More important than industry
effects.
• Entry and exit barriers,
number and size of
companies, and types of
products and services
offered.

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Firm Performance Effects

Exhibit 3.2

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Industry and Industry Analysis
Industry: Industry analysis, a
• Group of incumbent method to:
companies. • Identify an industry’s profit
• More or less the same set potential.
of suppliers and buyers.
• Derive implications for a
• Similar products and
firm’s strategic position.
services.

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Strategic Positioning
A firm’s ability to:
• Create value for customers (V).
• While containing costs (C).
Goal: To generate a large gap between:
• The value the firm’s product or service creates.
• The cost required to produce it.
• V minus C.

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The Five Forces Model
The Five Forces Model helps strategic leaders
understand:
• The profit potential of different industries.
• How they can position their firms to gain and sustain
competitive advantage.

Two key insights about this model:

1. Competition is viewed more broadly in the five forces model.
2. Profit potential is a function of the five competitive forces.

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Porter’s Five Forces Model
Exhibit 3.3

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© McGraw Hill LLC Source: M. E. Porter (2008, January). “The five competitive forces that shape strategy,” Harvard Business Review. 17
Threat of Entry
The risk that potential Entry barriers:
competitors will enter an
• Economies of scale.
industry:
• Network effects.
• Lowers industry profit
potential. • Customer switching costs.

• Increases spending • Capital requirements.

among incumbent firms. • Advantages independent of
size.
• Government policy.
• Credible threat of retaliation.

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Power of Suppliers
Pressures that industry suppliers can exert on an
industry’s profit potential.
Lowers industry profit potential if:
• Suppliers demand higher prices for their inputs.
• Suppliers capture part of the economic value created.

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Power of Buyers (Industry Customers)
Lowers industry profit potential if:
• Buyers get price discounts, reducing revenue.

• Buyers demand higher quality / service, raising production costs.

When buyers are price-sensitive:

• The buyer’s purchase represents a significant portion of its procurement
budget.

• Buyers earn low profits or are short of cash.

• Buyers’ product/service quality (cost) is not much affected by quality

(cost) of inputs.

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Threat of Substitutes
Meet the same basic Examples:
customer need:
• Software vs. professional
• In a different way. services.
• Available from outside the • Gasoline vs. biofuel.
given industry.
• Energy drinks vs. coffee.
• Videoconferencing vs.
business travel.
• Wireless phone services
vs. internet-based
services (Skype).

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Rivalry Among Competitors
The intensity with which companies in the same
industry jockey for market share and profitability:
• Can range from genteel to cut-throat.
• The other forces in the model pressure this rivalry.
• The stronger the forces, the stronger the competitive
intensity.

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Competitive Industry Structure Is Defined By

Number and size of competitors.

Firm’s degree of pricing power.

Type of product or service

(commodity or differentiated product).

Height of entry barriers.

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Industry Competitive Structures
Exhibit 3.4

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Industry Growth
Directly affects intensity of rivalry among competitors.
During periods of high growth:
• Consumer demand rises.
• Price competition among firms frequently decreases.

During periods of negative growth:

• Rivalry is fierce.
• Rivals can only gain at the expense of one another.
• Price discounts, frequent new product releases with minor
modifications, promotional campaigns, and retaliation abound.

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Strategic Commitments
Firm decisions that are:
• Costly, long-term oriented and difficult to reverse.

Can stem from:

• Large, fixed cost requirements.
• Non-economic considerations.

Affects intensity of rivalry among competitors.

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Exit Barriers
Obstacles that determine how easily a firm can
leave an industry.
Mainly economic and social factors.
Include fixed costs that must be paid.
Examples: employee health care and retirement
benefits.

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A Sixth Force: Complements
A product, service, or competency that adds value
when used with the original product.
• Complements increase demand for the primary product.
• Enhances the profit potential for the industry and the firm.

Co-opetition:
• Cooperation among competitors to achieve a strategic
objective.

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Entry Choices
Exhibit 3.6

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Source: Author’s adaptation from M.A., Zachary, P.T. Gianiodis, G. Tyge Payne, and G.D. Markman (2014), “Entry timing: enduring lessons and future directions,” Journal of
Management 41: 1409; and Bryce, D.J., and J.H. Dyer (2007, May), “Strategies to crack well-guarded markets,” Harvard Business Review: 84–92.

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Industry Dynamics
A weakness of other models is that they are static
(point-in-time snapshot).
Industry dynamics provides insight about:
• Changing speed of an industry.
• Rate of innovation.
• Help capture structural changes in the industry.

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Industry Convergence
When unrelated Example:
industries begin to satisfy
the same customer need. Media Industries:
• Content going online.
Caused by technological
advances. • Newspapers,
magazines, TV, movies,
radio, music.
• Will print media become
obsolete?

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Strategic Groups
Strategic groups:
• A set of companies.
• Pursue a similar strategy.
• In the same industry.

The strategic group model (framework):

• Clusters different firms into groups.
• Is based on key strategic dimensions.

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How to Create a Strategic Group Model
Identify the important strategic dimensions (e.g.,
technology).
Choose two key dimensions:
• For horizontal and vertical axes.
• Ensure they are not highly correlated.

Graph the firms in the strategic group:

• Each firm’s market share indicated by the size of the
bubble.

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Strategic Groups in U.S. Domestic Airline Industry
Exhibit 3.8

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Insights from Strategic Group Mapping

Competitive rivalry is strongest between firms in the

same strategic group.

External environment affects strategic groups

differently.

Five competitive forces affect strategic groups

differently.

Some strategic groups are more profitable than

others.
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Mobility Barriers
Restrict movement between strategic groups.
Industry-specific factors that separate one group
from another.
Based on hard-to-reverse investments (strategic
commitments).

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Strategic Group Dynamics
Firm positioning, strategy, and strategic groups can
change over time.
One strategic group can split into two subgroups.
Ultra low-cost airlines (Frontier, Allegiant, and Spirit)
split from low-cost airlines (JetBlue, Southwest,
Alaska Airlines).
In 2022 Frontier bid to acquire Spirit Airlines.
In sum, strategic groups are dynamic.

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