Environmental analysis facilitates gauging the present situation of the organization and helps in predicting the future.
Since environmental analysis uncovers relevant information with a future orientation, it enables the organizational leaders to undertake appropriate strategic action programs for ensuring the growth, profitability, and survival of the organization.
For gaining advantage from the environmental analysis, it is necessary to translate the information into a usable form to establish objectives and then to formulate a strategy for achieving the objectives.
To analyze the environment, the first thing to do is to define and determine the environmental forces that are relevant to the organization and the concerned industry as well as to the geographical area served by the organization.
For example, if a company serves only London, its geographical area would be only London city.
However, if its area of operations covers the whole of Europe, the geographical area to be brought into the purview of analysis would be the whole country.
Again, all external factors or all internal factors may not necessarily be related to the targeted analysis. In that case, relevant factors forces need to be determined first so that wastages do not occur due to the collection of unnecessary information.
Secondly, the strategists must ensure that information is available related to the predetermined forces.
This is about scanning the environment and forecasting what might occur in the future – favorable or unfavorable.
The last stage is interpreting the information collected from the environment.
Assimilating and synthesizing data are crucial, as the success in formulating appropriate strategy depends on how articulately the data/information has been interpreted for use in strategic planning.
While managers would endeavor to carry out an analysis of the environment, they need to,
- first, define the factors of the environment to be analyzed to be followed sequentially by scanning the environment,
- forecasting the future,
- interpreting the data/information and
- finally, formulate a strategy based on the objectives already established keeping ‘in view the realities depicted by information.
Internal Environment Analysis
Analysis of the internal environment of an organization is an essential pact of situation analysis. The situation of an organization, whether business or any other type of organization, is expressed in terms of its internal and external environmental factors.
When an analysis is made of both the types of the internal and external environment, managers can have a clear idea of the overall situation of the organization.
External environmental factors reside outside of the organization and, therefore, depict the external situation. The internal environmental factors reside inside the organization and, therefore, portray the internal situation.
Internal environmental analysis (some prefer to call it simply ‘internal analysis’) helps managers identify the internal strengths and weaknesses in respect of various internal environmental factors.
An analysis is made of each factor in different areas of the organization.
Major Areas Usually Covered by Internal Analysis
Internal analysis is made of various internal issues of a company. Depending on the nature of the company, the following major issues need to be covered in the analysis;
- Financial position
- Product and service positions
- Product arid service quality
- Marketing capability
- Research and development capability
- Organization structure
- Human resources
- Conditions of facilities and equipment
- Past and present objectives and strategies
- And many more
These areas are identified from the elements of the internal environment that we have discussed earlier.
In the practical analysis, either you can collect data based on each element (which might seem unwieldy), or you can identify specific areas in each element. Then you can proceed for analysis of each area for identification of specific strengths and weaknesses.
Every area of a company that has a substantial impact on the long-term survival of the company should be analyzed to determine the strengths and weaknesses of each area.
Conducting Internal Analysis: Who to Do It?
The task of assigning the responsibility for performing internal environmental analysis may not be similar in all organizations. Evidence shows that practices differ from organization to organization.
Usually, the following practices’ are’ prevalent in different organizations:
involvement of the Planning Department
Some organizations involve the planning department for analyzing the internal environment.
The staff in the planning department are expected to be proficient in such analysis. They gather information and then analyze the internal situations.
Use of Outside Consultants
Some organizations use independent consultants to conduct internal analysis. The expert consultants have experience in performing such activities.
They can also give an impartial view of the situations, which the internal staff of the planning department or other persons may not give.
Forming of Team
Some organizations form a team of fine managers with relevant experience.
Usually, such a team performs the analysis in collaboration with the planning staffs who provide technical assistance, the underlying philosophy behind using team approach is that the line managers will be better able to understand the implications of the analysis and they wilt be in a better position to guide their strategic planning decisions.
Identification of Internal Strengths and Weaknesses
An analysis v of the elements of the organization’s internal environment provides adequate data for preparing a list of the strong points (strengths) and the weak points (weaknesses).
Before proceeding for internal analysis, you need to understand clearly the meaning of strength and weakness in the context of organizations.
Strength is what the organization does well. Anything that an organization can do excellently or effectively or efficiently is a strength, and it is a distinctive competence of an organization that enables it to achieve a special advantage in the marketplace.
Any resource, skill, or other advantages relative to competitors can be called strength Anything can be a strength if it gives the organization enhanced competitiveness.
Strength can take the form of skill/expertise, valuable physical assets, valuable human assets, valuable intangible assets, fruitful alliances, etc.
Adequate physical facilities such as land and buildings or machinery, sufficient financial resources, trained and qualified marketing people, well-managed information systems, able top leadership, and good image of the organization are some examples of internal strengths.
Weakness is discerned from the analysis of internal environmental factors.
Weakness refers to the vulnerability of an organization in terms of one or more internal factors such as physical resources, human resources, etc. we can, therefore, say that if an organization lacks something or does something poorly. It is a weakness.
Even if a condition puts the organization at a disadvantage, it is also termed as a weakness. Weakness indicates a deficiency or limitation or constraint.
Any weakness affects an organization’s performance adversely.
An organization’s internal weaknesses can relate to;
- deficiencies in competitively important skills;
- a lack of competitively important physical, organizational or intangible assets, or
- weak/missing competitive capabilities in key areas.
Examples of internal weaknesses include inadequate physical and financial resources, untrained executives, strained labor-management relations, poor leadership at the top, use of old technology that hinders production, and the like.
A framework for internal environmental analysis is shown.
This framework indicates several issues that need to be addressed while making an internal analysis. These are important considerations for the identification of the strengths and weaknesses of an organization.
Sample Framework for internal analysis
|Existence of distinct competitiveness competence||Clear vision and articulated mission|
|Having adequate financial resources||Weak leadership|
|Having excellent competitive skills for achieving competitive advantage in the market||Machinery used in the production process is partially or fully of Elite|
|Reputation for Goodwill of the company||Managerial people are people in professionalism|
|Access to Economics of scale||Lack of competencies among the employees|
|The organization has its proprietary technology||Track record in strategy implementation|
|Having cost advantages in on or more of the elements in the value chain of the organization||Research and development activities are far behind the competitors and no research and development program in the organization|
|The farm is strong in product innovation||Weak market image|
|Dynamic leadership and Management||Product lines are too narrow to compete effectively in the market|
|The farm has been able to acquire a large market share||Poor marketing skill|
|Effective and efficient implementation of organizational strategies||Inadequate working capital|
External Environment Analysis
Analysis of General Environment and Identification of Opportunities and Threats
On completion of the analysis of the factors in the general environment after collection of relevant information, the managers can now identify the opportunities available in the general environment and also the potential threats that the organization might face in the future.
Thus, the output of the general environmental analysis is a list of general opportunities and threats.
However, before embarking on the identification of opportunities and threats, the managers need to develop a clear understanding of the meaning of these two terminologies.
An opportunity is a favorable condition in an organization’s external environment. The organization may grab an opportunity to improve its growth and profitability.
An opportunity arises when a firm can take advantage of conditions in its external environment to formulate and implement strategies that enable it to earn higher profits.
Opportunities offer important avenues for profitable growth and indicate the potential for competitive advantage.
Examples of opportunities include opening up new markets in other countries, deregulation policy of a government, reduction of taxes on imported raw materials, higher tax rebates on a firm’s income, government subsidy, increasing demand for products among customers, and so forth.
A threat is an unfavorable condition/event in the external environment. A threat may cause suffering in the organization’s growth” or profitability. A threat arises when conditions in the external environment endanger-the profitability of a business.
Certain factors in a firm’s external environment may pose threats to its profitability.
Examples of threats include frequent advances in technology, entry of foreign competitors in the home market, smuggling of products through the border, cheap imported products, civil war in the country, unstable political situations, frequent changes of government regulations, and uncontrolled law and order situations.
How Do Organizations Respond to External Environment?
Environmental factors influence businesses in many ways. The influences may be positive or negative. Some forces in the environment may retard the growth of a business organization.
Similarly, some forces may give a sudden boost to the growth of an organization.
It is, therefore, essential for the strategy managers to understand the importance of environmental influences on the operations of their businesses.
Based on such understanding, they can devise ways to respond to the environmental forces.
A business organization can employ several ways to respond to its environment. We discuss here some common measures.
Companies can hire strong lobbyists io bargain with regulators to change any law or- to refrain them from enacting new Jaw that may adversely affect business activities.
Organizations can influence their customers in different ways. Managers may devise new uses of a product. They may create a new set of products. They may create a new set of customers for products, or they may direct their efforts toward taking customers away from competitors
Developing a strategic partnership with suppliers
One of the ways to directly influence the environment is to establish a long-lasting relationship with suppliers. Organizations can do it by signing long-term contracts with fixed prices.
This would serve as a hedge against inflation. Organizations can also protect themselves from a supply-related crisis by establishing backward linkage (that is, producing their materials).
For example, a mineral water firm may start producing bottles by itself, or a soft- drink/fruit-processing firm might become its supplier of cans.
Toyota and Honda, for example, have successfully used strategic supplier relationships.
Similarly, Dell and EMC are strategically linked with each other. Dell is the reseller of EMC’s storage products. Both companies work together in the technical design of systems and selling to Dell’s customers.
A firm may engage itself in boundary-spanning for learning about what other organizations are doing. A person is called a boundary spanner who collects information from outside the organization while he/she is working in the field. Salespeople, purchasing agents, relationship managers are most suitable as boundary spanners.
A firm may alter its strategy to deal with environmental changes.
The strategy-alteration may take any of the forms a slight change in the strategy-adopting an entirely new strategy; or maintain the status quo, which one would better meet the demands of its competitive environment depends on situations that prevail.
To enter into new markets or uphold prominence in the current market or for some other strategic reasons, a firm may resort to merger, acquisition, takeover, or alliance.
Two or more firms may combine (merge) to create a new firm.
A firm may buy another firm to acquire its assets. In the case of acquisition (or takeover), the acquired firm may continue to operate as a subsidiary of the acquiring firm, or the acquired (taken-over) firm may cease to exist and become part of the acquiring company.
When two or more firms undertake a new venture, it becomes a strategic alliance.
Industry Environment Analysis
The industry is the ‘container’ of competition.
The strategy-makers must understand the competitive intensity in the industry. The competitive intensity influences a company’s business operations tremendously.
Thus, a company needs to review the competitive intensity and fit its strategy to its industry environment.
No organizations can expect good strategy-making without a detailed analysis of, industry environment.
That is why it is widely recognized that good strategy-making should be preceded by good industry and competitive analysis. Industry analysis provides necessary information about the industry’s situations.
From this analysis, managers can obtain information regarding many industry-related issues such as the following:
- Economic features of the industry like market size, number of customers and sellers, technology, nature of. Standardization of product, market growth potential, the prospect of making a profit, etc.
- Strength of competition and competitive pressures.
- Major driving forces in the industry that cause pressures for change.
- Financial and competitive positions of the competitors in the marketplace.
- Strategies undertook by competitors.
- Industry’s key success factors such as the design in the garments industry.
- The attractiveness of the industry in terms of growth prospects, degree of uncertainty in the future.
With this data, managers can achieve several purposes;
- Identifying and selecting the company’s arena by defining its industry and served markets.
- Identifying business opportunities and uncovering niche markets,
- Providing a benchmark for evaluating the company relative to the competitors and, based on it, developing skills and capabilities necessary for success.
- Shortening the company’s response-time to competitors’ moves.
- Restricting or preempting competitors’ moves.
- Encouraging organizational development through frequent interactions among the executives during the analysis.
- Helping the company to gain a competitive advantage by identifying an area where the company holds a significant advantage over its rivals.
- Enhancing organizational learning by exposing managers to the ideas and actions of their competitors.
- Providing invaluable insights into the industry and competition, which help managers Identify the appropriate strategy.
Analysis of Competition in Industry
Managers in a firm can use various models for analyzing the industry environment.
However, the most widely used model for an industry’s competition analysis is Michael Porter’s Five Forces Model Managers can use this model to analyze the competitive environment in the industry in which their company is operating its business.
The Five Forces Model provides a framework to identify industry-related opportunities and threats.
Who are Responsible for Conducting Internal Analysis?
The task of assigning the responsibility for performing internal environmental analysis may not be similar in all organizations. Evidence shows that practices differ from organization to organization.
Usually, the following practices are prevalent in different organizations:
- Involvement of the Planning Department: Some organizations involve the Planning Department for analyzing the internal environment. The staff in the planning department are expected to be proficient in such analysis. They gather information and then analyze the internal situations.
- Use of Outside Consultants: Some organizations use independent consultants for conducting an internal analysis. The expert consultants have experience in performing such activities. They can also give an impartial view of the situations, which the internal staff of the planning department or other persons may not give.
- Forming of Team: Some organizations form a team of line managers with relevant experience. Usually, such a team performs the analysis in collaboration with the planning staff who provide technical assistance. The underlying philosophy behind using a team approach is that the line managers will be better able to understand the implications of the analysis, and they will be in a better position to guide their strategic planning decisions.
Managers can develop a comprehensive list of Internal strengths and weaknesses from the data generated through internal analysis.
When this list is combined with the list of opportunities and threats discerned from the analysis of the external environment, a SWOT framework emerges.
The external analysis is an important part of the strategic management process.
Assessment of the opportunities and the threats enables the managers to make informed decisions about those aspects that have a bearing on the organization’s long term sustainability and continued profitability.
Managers conduct an industry analysis or focus on strategic groups to understand and improve the organization’s competitive position.
Managers also analyze and interpret the implications of changes that take place in the social, politico-legal, economic, technological, and international areas to assess the emergence of opportunities and threats.
The implications of the development that takes place will be most clear if it is organized in matrices that depict the cause and the effect relationship among select variables. The appraisal must be able to answer the following questions:
- What is the factor that is external to our boundaries and critical to the long term survival of the organization?
- What is the relationship of the factor with other environmental factors, and how can the organization influence the factor?
To be proficient at the analysis, managers need to develop the skill set to be proficient at studying, assimilating, and measuring the impact of different factors. The environment must be studied but not be regarded as an intimidating factor. The manager must foremost remember that a well- developed strategy shapes the environment as well.