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CHAPTER – 1
INTRODUCTION TO BUSINESS ENVIRONMENT

BUSINESS
Meaning: Business refers to an economic system in which goods & services are exchanged for one another
or money, on the basis of their perceived worth. Or
Business refers to all those economic activities which are concerned with the production or purchase of
goods & services for the purpose of sale at a profit.
Definition: Acc. to F.C. Hooper” Business means the whole of complex commerce & industry the basic
industries & the network of ancillary industry, distribution, banking, insurance, transportation and so on”.
BUSINESS ENVIRONMENT
Meaning - Business environment encompasses all those factors that affect a company’s operations, including
customers, competitors, suppliers, distributors, industry trends, substitutes, regulations, government activities,
the economy, demographics, social & cultural factors innovation & technological developments.
Definition - Acc. to William F Glucck “ Business environment as the process by which strategists monitor the
economic, governmental market, supplier, technological geographic & social settings to determine
opportunities & threats to their firms”.

Scope of the Business Environment

Economic Environment: Factors such as economic growth, inflation, interest rates, exchange rates, and fiscal
policies impact business decisions, demand for goods and services, and overall market conditions.

Social and Cultural Environment: Demographic trends, cultural norms, lifestyle changes, and societal values
influence consumer behavior, market preferences, and business strategies.

Political and Legal Environment: Government policies, regulations, political stability, taxation, trade policies,
and legal frameworks shape the operating environment for businesses, affecting market entry, competition,
and compliance requirements.

Technological Environment: Advances in technology, innovation, automation, and digitalization impact

business processes, product development, service delivery, and competitiveness in the market.

Competitive Environment: Industry structure, market dynamics, competitor actions, and bargaining power of
suppliers and customers define the competitive landscape within which businesses operate.

Natural Environment: Environmental factors such as climate change, natural disasters, resource availability,
and sustainability concerns influence business operations, supply chains, and corporate responsibility
practices.

Global Environment: Globalization, international trade, geopolitical developments, and cross-border

interactions present opportunities and challenges for businesses operating in diverse markets and regions.
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Characteristics of the Business Environment:

Dynamic: Business environment is constantly changing due to factors such as technological advancements,
market trends, and regulatory developments. This dynamism requires businesses to remain flexible and
adaptable.

Uncertain: Business environment is inherently uncertain, with factors such as economic fluctuations, political
instability, and unexpected events influencing operations and outcomes. Businesses must manage and mitigate
uncertainties to minimize risks.

Competitive: Competition is a defining characteristic of the business environment. Companies must contend
with rivals for market share, customers, and resources, driving innovation, efficiency, and strategic
positioning.

Interconnected: Various elements of the business environment are interconnected and interdependent.
Changes in one area, such as economic conditions or consumer preferences, can have ripple effects across
industries and regions.

Multi-dimensional: Business environment encompasses a wide range of dimensions, including economic,

social, political, technological, legal, and environmental factors. Businesses must consider the interactions
and impacts of these dimensions on their operations.

Global: In an increasingly interconnected world, the business environment extends beyond national
boundaries. Globalization has opened up opportunities and challenges for businesses to operate in diverse
markets and cultures.

Regulatory: Regulations and laws shape the business environment by governing aspects such as trade, labor
relations, environmental protection, and consumer rights. Compliance with regulatory requirements is
essential for business operations and sustainability.

Opportunistic: Despite challenges, the business environment also presents opportunities for growth,
innovation, and expansion. Businesses must proactively identify and capitalize on opportunities to achieve
success amidst dynamic and competitive conditions.

Types of Business Environment

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I) Internal Environment
II) External Environment

Internal environment refers to those factors within an organisation e.g Policies and programmes,
organisational structure, employees, financial and physical resources. These factors can be changed or altered
and hence are known as controllable factors.
External environment refers to those factors outside the business These factors by and large are beyond the
control of a business and hence uncontrollable .e.g economic, political and socio-cultural factors.

1. Internal Environment
Internal Environment Factors
i. Values system: The values of the founder/ owner of the business , percolates down to the entire organisation
and has a profound effect on the organisation. The success of an organisation depends upon the sharing of
value system by all members. External business associates like suppliers and distributors consider the value
system practised by an organisation with strong culture of ethical standards and values.

ii. Vision and objectives: The vision and objectives of a business guides its operations and strategic decisions.
Example ‘Amul the taste of India’ Gujarat Co-operative Milk Marketing Federation GCMMF

Two Indian companies TATA Steel and WIPRO have been named as the world’s most ethical companies by
American Think tank Ethisphere Institute. Infosys, Murugappa group, TVS group

Vision: Liberate our farmers from economic oppression and lead them to prosperity.

iii. Management structure : The structure of management/board and their style of functioning, the level of
professionalism of management, the composition of the board are the various factors which affects the decision
making. Since the board is the highest decision making authority, it’s composition, degree of professionalism
and style of operations plays a very critical role in the growth and development in an organisation.

iv. Internal power relations: This refers to the internal power relations that exist in an organisation. The
relations among board members , between board members and the CEO and the level of support enjoyed by
the board from its’ stakeholders namely employees and shareholders are significant factors which affects
decision making and its implementation in an organisation.

v. Human resources : The success of an enterprise is solely dependent on its manpower. Therefore the quality,
skill competency, right attitude and commitment of its human resources is essential for the success of an
organisation.

vi. Company image: The image of an organisation plays an important role in introducing new products,
selecting agents and dealers for distribution, forging alliances with suppliers, expanding and entering new
markets both domestic and international, raising finance etc.
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vii. Other factors: The firm’s ability to innovate reflected by its research and development, the strength of its
financial position and the capital structure, the efficiency in managing the marketing and distribution network
,and the physical resources like plant, building technology are the other major factors on which affects the
success of a business.

2. External environment
All factors outside the business which have a bearing on the working of a business can be termed as the
external environment. This is subdivided into micro or task environment and macro or general environment.

3. Micro Environment
Micro Environment Factors
This refers to those factors which are in the immediate environment of a business affecting its performance.
These include the following:

i) Financiers: The financiers of a business which includes the debenture holders and financial institutions
play a significant part in the running of a business. Their financial capability, policies strategies, attitude
towards risk and ability to give non–financial assistance are all important to a business.

ii) Suppliers: In any organisation the suppliers of raw materials and other inputs play a very vital role. Timely
procurement of materials from suppliers enables continuity in production and reduces the cost of maintaining
stock/inventory. Organisations generally obtain supplies from a panel of suppliers instead of relying on a single
source. Organisations have realised the importance of nurturing and maintaining good relationship with the
suppliers.

iii) Marketing Channel members: The marketing inter-mediaries serve as a connecting link between the
business and its customers .The middlemen like dealers, wholesalers and retailers ensure transfer of product
to customers .physical distribution is facilitated by transporters, and warehouses help in storing goods. Market
research agencies help the firm to understand the needs of the customers while advertising agencies help in
promoting the products and services. Insurance firm is another marketing intermediary which provides
coverage for risk in business.

iv) Public This refers to any group like media group, citizen action group and local public which has an impact
on the business. The public group has the ability to make or mar a business. Many companies had to face
closure due to actions by local public.

v) Customers: The aim of any business is to satisfy the needs of its customers. The customer is the king and
the fulcrum around which the business revolves. Hence it is essential for any business to understand the needs
of its varied customers like individuals, retailers, wholesalers, industries and government sector. Customer
relationship management aims at creating and sustaining cordial relations with customers.
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vi) Competitors: All organisations face competition at all levels local, national and global. Competitors may
be for the same product or for similar products. It is important for a business to understand its competitors and
modify their business strategies in the face of competition.

4. Macro Environment:

Macro Environment Factors

This is the general or overall environment in which the business operates. The success of a business is
dependent on its ability to adapt to the macro environment, since these are uncontrollable factors. They offer
enormous opportunities to business and also poses serious threats to business. The general or remote
environment factors are as follows;

I. Economic environment: The business is an integral part of the economic system prevalent in a nation. The
multiple variables in the macro environment system which has a bearing on a business include

1) The nature of economy based on the stage of development: The countries across the globe can be
categorised on the basis of growth and per capita income as developed nations, developing nations and under
developed nations. The USA, Japan, Germany, Canada and Australia developed economies generally have
high degree of technological advancement, very strong and robust industrial base, and high standard of living.
Many of these developed nations have successfully integrated the computer based technologies with their
existing business. Developing nations like India, China, Brazil Mexico are middle income economies are
characterised by low to moderate industrial growth, the inequality in the distribution of income, high
population, a low standard of living and slow absorption of technology. Under developed nations are low
income economies with a very low degree of technology adoption and a very poor standard of living.

2) The nature of economic system: The economic systems can be classified as Capitalistic, Socialistic and
Mixed economy. Capitalistic economy is a free enterprise market where individual ownership of wealth is
predominant. Socialistic economy is a state controlled with a lot of restrictions on private sector. Mixed
economy is a combination of both state owned and private sector ownership.

3) The economic policies of a nation: Monetary policy, fiscal policy, Export-import policy, Industrial policy
Trade policy, Foreign exchange policy etc are part of the economic environment.

4) Economic indices: The Economic indices like GDP, GNP national income, per-capita income, balance of
payments, rate of savings and investments etc. form an important part of economic environment.

5) Development of financial market: The organisation and development of money market, capital market
securities market and, the banking system has a greater impact.

6) Economic structure: The Economic structure includes capital formation, investment pattern, composition
of trade balance, occupational distribution of workforce, and the structure of national output.
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II. Socio-Cultural environment - Business is a part of the society .Social environment refers to the sum total
of factors of the society in which the business is located. Social and cultural environment of society affects
the business. It is dynamic and includes the behaviour of individuals, the role and importance of family,
customs, traditions, beliefs and values, religion and languages, the ethical values. The literacy level, and the
social attitudes of the people of the society. The socio-cultural environment also includes the following;

1) The social institutions and groups

2) Family structure prevalent in the society

3) Role of marriage as an institution

4) Caste system in the society

5) Customs , beliefs and values

6) Demographic factors which includes the size, composition, literacy level, distribution and mobility of the
population

7) The lifestyle of people and their tastes, likes and preferences.

III. Political and Legal environment – The framework for running a business is given by the political and
legal environment. The success of a business lies in its ability to adapt and sustain to political and legal
changes. The legislative, executive and judiciary are the three political institutions which directs and
influences a business.The major elements of the legal and political environment are

1) Political stability is reflected by the following parameters like the election system, the law and order
situation, the role and structure of Military and Police force, the declaration of President’s rule, civil war etc

2) Political organisation refers to the ideology and philosophy of the political parties, the government, the role
and degree of authority of bureaucracy, the level of political consciousness among citizens and the funding of
political parties by business houses and the clout wielded by them.

3) The image of the leader and the country in the inter-national arena.

4) Legal framework of business and their degree of flexibility.

5) The constitution of the nation.

6) The Foreign policy of the country with special reference to tariffs and free trade.
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IV. Geo-physical environment – The natural, geographical and ecological factors have a bearing on the
business. These are as follows;

1) the availability of natural resources like minerals oil .etc, since setting up of industries requires availability
of raw materials

2) the weather and climatic conditions and availability of water and other natural resources is essential for the
agricultural sector .

3) topographical factors like the terrain impacts type of business since the demand and consumption pattern
may vary in these regions. E.g in the the hilly region mode of transport will have to be modified to tackle the
terrain.

4) ecological factors are now gaining momentum, since the governments across the globe are framing stringent
policies for ecological conservation and prevention of pollution. The ban on use of plastic bags imposed by
the Ooty corporation is an example.

5) location of certain industries is influenced by the geographical conditions For e.g In Tamilnadu the
concentration of cotton textile industry in Coimbatore is due to conducive weather conditions. .

6) availability of natural harbours and port facilities for transporting goods .

V. Technological environment

The development in the IT and telecommunications has created a global market. Technology is widely used
in conducting market research for understanding the special needs of the customer. Digital and social media
are used as a platform for advertising and promoting the products/services. Data-mining and data analytics are
used to know the customer better. Technology is used in managing inventory, storing goods in warehouses, in
distributing goods and in receiving payment. This dynamic environment also includes the following ;

1) the level of technology available within the country

2) rate of change in technology

3) technology adopted by competitors

4) technological obsolescence

VI. Global environment

With the rapid growth of technology the physical boundaries are fast disappearing and the new global market
is emerging. The international environmental factors which affects a business are as follows;

1) Differences in language and culture

2) Differences in currencies
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3) Differences in norms and practices

4) Differences in tastes and preferences of people

5) The tax structure relating to import and export.

6) Differences in the degree of adoption of technology.

Competitive Analysis

A competitive analysis in a business environment is a critical process that involves identifying and evaluating
the strengths and weaknesses of current and potential competitors. This analysis helps businesses understand
the competitive landscape, which is essential for strategic planning and decision-making.

competitive analysis typically involves:

1. Identify Competitors

• Direct Competitors: Companies offering similar products or services to the same target market.

• Indirect Competitors: Businesses offering alternative solutions that meet the same customer needs.

• Potential Competitors: New entrants or companies planning to enter your market.

2. Analyze Competitors' Offerings

• Products and Services: Evaluate the quality, features, pricing, and variety of products or services
offered by competitors.

• Unique Selling Proposition (USP): Identify what makes each competitor unique and how they
differentiate themselves in the market.

3. Market Positioning

• Branding: Assess competitors' branding strategies, including logos, taglines, and overall brand image.

• Target Audience: Identify the demographics and psychographics of the customers they are targeting.

• Marketing Strategies: Analyze their marketing channels (e.g., social media, SEO, content marketing)
and promotional tactics.

4. Financial Performance

• Revenue and Profitability: Compare the financial health of competitors, including revenue, profit
margins, and growth rates.

• Pricing Strategies: Evaluate their pricing models and how they impact market share.

5. Operational Capabilities
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• Supply Chain and Logistics: Assess how efficiently competitors manage their supply chain,

production, and distribution.

• Technology and Innovation: Evaluate their use of technology, R&D capabilities, and innovation in
product development.

6. Customer Experience

• Customer Service: Analyze the quality of customer service provided by competitors, including
response times, support channels, and customer satisfaction.

• Customer Reviews and Feedback: Examine online reviews, testimonials, and feedback to gauge
customer perception of competitors.

7. SWOT Analysis

• Strengths: Identify the key strengths of each competitor, such as brand loyalty, market share, or unique
products.

• Weaknesses: Recognize their weaknesses, such as high prices, poor customer service, or limited
product range.

• Opportunities: Spot potential opportunities for growth that competitors might be overlooking.

• Threats: Identify external threats that could impact your business or the competitors, such as new
regulations or economic downturns.

8. Benchmarking

• Compare your company's performance, strategies, and offerings with those of your competitors to
identify areas for improvement and competitive advantage.

9. Strategic Implications

• Identify Gaps: Find gaps in the market that your business can exploit.

• Develop Strategies: Use insights from the analysis to inform your business strategy, such as entering
new markets, adjusting pricing, or enhancing product offerings.

• Monitor Competitors: Establish a system for ongoing competitive intelligence to stay ahead in the
market.

10. Implementation and Review

• Action Plan: Develop an actionable plan based on the competitive analysis.

• Review and Update: Regularly review and update the competitive analysis to reflect changes in the
market and competitor behavior.
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Conducting a thorough competitive analysis helps businesses make informed decisions, stay competitive, and
better understand their market position.

Environment analysis Process

1. Scanning

Environmental scanning is the first step of the environmental analysis process. Scanning is the process by
which organizations monitor their relevant environments to identify opportunities and threats affecting their
business for the purpose of taking strategic decisions. It involves information gathering for assessing the nature
of the environment in terms of uncertainty, complexity, and dynamism.

* Scanning identifies early signals of environmental changes and detects

* Scanning detects changes already underway.

2. Monitoring:

Monitoring is the second step of the environmental analysis process. It is the process of measuring and
assessing workplace conditions to evaluate health risks to workers. In other words, it is the process and activity
that needs to take place to monitor the quality of the environment. It involves tracking environmental trends
and events. It is the auditing of the environment. The likely impacts of environmental influences on business
performance are identified. Environmental monitoring includes periodic health examinations of workers and
environmental impact tests. The advantages of environmental monitoring include:

* prevents occupational diseases,

* improves the company's public image, and

* reduces environmental pollution

3. Forecasting-

Another step of the environmental analysis process is forecasting. Environmental forecasting is estimating the
intensity, nature, and timing of the external forces that may affect the performance Of a firm, disrupt its plans,
or force a change in its strategies. It is a technique whereby managers attempt to predict the future
characteristics of the organizational environment and hence make decisions today that will help the firm deal
with the environment of tomorrow. Forecasting involves the use of statistical and non- statistical, or qualitative
techniques. Techniques such as time series analysis, judgmental forecasting, multiple scenarios, and the Delphi
technique are very useful in environmental forecasting. This step forecast what is likely to happen. It lays out
the path for anticipated changes. This step provides:
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* key forces at work in the environment, they can be political-legal, economic, socio- cultural, or
technological,

* understanding of the nature of key influences and drivers of change, and

* projection of future alternative paths available.

4. Assessing

Assessing is the final step of the environmental analysis process. Assessing determines the timing and
importance of environmental changes and trends for firms' strategies and their management. It is the formal
process used to predict environmental consequences. The consequences may be positive or negative of a plan,
policy, program, or project prior to the decision to move forward with the proposed action. The competitive
position of the business is analyzed in terms of how the organization stands in relation to other organizations.
It offers the following benefits:

* It minimizes adverse environmental effects,

* It increases the protection of human health,

* It reduces project costs and delays, and

* It reduces risks of environmental harm or disasters.

Limitations of Environmental Analysis:

Data Overload:

The vast amount of data available for environmental analysis can sometimes be overwhelming. Businesses
may struggle to filter out irrelevant information and focus on what truly matters. This data overload can lead
to analysis paralysis, where decision-making is slowed or compromised due to the excessive quantity of
information to be processed.

Predictive Limitations:

Environmental analysis involves a degree of forecasting, attempting to predict future trends based on current
data. However, the future is inherently uncertain, and unexpected events can drastically change the landscape.
For instance, political upheavals, natural disasters, or sudden economic downturns can render prior analyses
obsolete. This unpredictability makes it difficult to rely entirely on environmental analysis for long-term
strategic planning.
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Bias and Subjectivity:

The process of gathering and interpreting environmental data can be biased. Personal perceptions and the
subjective nature of analyzing qualitative data can influence the conclusions drawn. Analysts may give undue
weight to certain information based on their experiences or may overlook critical data points that do not align
with their expectations or existing beliefs.

Cost and Time-Consuming:

Conducting a thorough environmental analysis can be resource-intensive. It requires significant time and
financial investment to collect data, analyze trends, and monitor changes continuously, For smaller businesses
or those with limited resources, this can be a significant constraint, limiting their ability to conduct as extensive
an analysis as larger competitors.

Dynamic and Complex Environment:

The business environment is dynamic and complex, with interdependent factors influencing each other in
unpredictable ways. Changes in one aspect of the environment, like regulatory changes, can have cascading
effects on other aspects, like market dynamics or competitive strategies. Keeping up with these continuous
changes and understanding their broader implications can be challenging for businesses, particularly when
they operate across multiple geographical regions or industries.

Static Snapshot Issues:

Environmental analysis often provides a snapshot of an environment at a specific time. This static view can
be misleading because it fails to capture the continuous and often rapid changes in the external environment.
As a result, the analysis might not reflect the latest developments, especially in highly volatile industries or
global markets, making the insights less applicable over time.

PESTEL Analysis (Political ,Economic, Social, Technology , Environmental & Legal)

A PESTEL analysis is a strategic tool used to analyze the external macro-environmental factors that could
impact an organization. It helps in understanding the broader forces shaping the business environment and is
often used in strategic planning, risk management, and market research. The acronym PESTEL stands for:

1. Political Factors

These refer to how government policies, regulations, and political stability affect a business. Factors include:

• Government stability and policies

• Trade tariffs and tax policies

• Labor laws and environmental regulations

• Political conflicts and government support for specific industries

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2. Economic Factors

These encompass the overall economic conditions and trends that influence a business:

• Economic growth rates

• Inflation, interest rates, and currency exchange rates

• Unemployment rates and labor market conditions

• Consumer spending and disposable income

3. Social Factors

These relate to the cultural, demographic, and social trends in the market:

• Population growth and age distribution

• Cultural attitudes and social norms

• Education levels

• Lifestyle changes and consumer behaviors

• Health consciousness and work-life balance

4. Technological Factors

These cover innovations and technological advancements that could influence how businesses operate:

• Automation, AI, and robotics

• Research and development (R&D) activity

• Internet connectivity and digital infrastructure

• Technology transfer and adoption rates

• Cybersecurity and data privacy concerns

5. Environmental Factors

These refer to ecological and environmental issues that could affect industries, particularly with the growing
focus on sustainability:

• Climate change and environmental sustainability

• Waste management and recycling practices

• Energy consumption and availability of renewable resources

• Environmental regulations and impact on industries

6. Legal Factors

Legal factors involve regulations and laws that affect business operations and compliance:

• Employment laws and worker safety standards

• Consumer protection and product safety laws

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• Intellectual property rights and patent laws

• Antitrust laws and competition regulations

By analyzing these factors, businesses can gain insights into the external conditions that might affect their
strategies and operations, helping them to prepare for future challenges and opportunities.

Porter’s Five Forces Analysis

Porter’s Five Forces Analysis is a strategic framework developed by Michael E. Porter to evaluate the
competitive forces that shape every industry and help determine its strengths and weaknesses. This analysis
helps businesses understand the intensity of competition and profitability potential within their industry. The
five forces are:

Competitive Rivalry

In industries with cutthroat competition, companies often lower prices and invest in expensive marketing
campaigns to increase market share. That means suppliers and buyers can quickly move towards your
competitors. Conversely, businesses in less competitive sectors enjoy more comfortable profit margins.

Several factors contribute to the intensity of competitive rivalry in an industry:

• The number of competitors: The more competitors in an industry, the more fierce the rivalry, each
fighting for scraps of market share.

• Industry growth: In an expanding industry, competition is usually less dramatic because the market
is growing so fast that competitors have little need to fight for customers—think of the automobile
industry of the early 20th century and the dot-com boom of the late 1990s. However, in a stagnant or
declining industry, competition can be ferocious as firms fight for a larger piece of a shrinking pie,
such as in the global coal mining or print media industries of today.

• Similarities in what's offered: When the products or services in a market are awfully similar (think
of the lower page of results in any Amazon product search), competition tends to be intense because
customers can easily switch. However, if a company offers a unique product or service or has earned
brand loyalty, this can reduce competitive rivalry. Apple, Inc. (AAPL) comes to mind in tech goods,
just as Rao's Italian sauces or King Arthur flour do in your supermarket aisles, each charging a higher
price given its style, taste, or whatever makes it unique.

• Exit barriers: When it's difficult or costly for companies to leave the industry due to specialized
assets, contractual obligations, or emotional attachment, they may choose to stay and compete, even if
the market's prospects grow dimmer by the day. The airline industry is a classic example.

• Fixed costs: Porter notes that if an industry has high fixed costs, companies have a "strong
temptation" to cut prices rather than slow production when demand slackens. Paper and aluminum
manufacturing are two good examples that Porter gives.
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2. Potential for New Entrants in an Industry

Industries where new firms can enter more easily almost always have lower profit margins, and the firms
involved each have less market share.

The sector for local restaurants has relatively low entry requirements: there aren't significant investments
or regulatory hurdles to surmount before opening to the public. Thus, it's also the case that your favorite
restaurant may not stay open for long, given the hypercompetitive environment and constant entrance of
new restaurants opening.

Here are factors in measuring how much new entrants threaten an industry:

• Economies of scale: Industries where large-scale production leads to lower costs face less of a threat
from new entrants. New firms would need to achieve a similar size to compete on price, which might
be difficult or costly.

• Product differentiation: When existing firms have strong brand identities or customer loyalty, it's
harder for new entrants to gain market share, reducing the threat of entry.

• Capital requirements: High startup costs for equipment, facilities, etc., can deter new entrants. For
example, starting a car manufacturing business requires significant investment, so until Tesla Inc.'s
(TSLA) growth in the early 2010s, Americans from the 1950s could have named the major U.S. car
brands of the early 2000s.

• Access to distribution channels: If existing firms control the distribution channels—retail stores,
online platforms, cable infrastructure, etc.—then new entrants would need to find a way to replicate
that structure while competing with the established firms on price, a tricky proposition.

• Regulations: Licenses, safety standards, and other regulatory standards can create barriers, making it
too ungainly or costly for new firms to enter the market. Examples would include those looking to
build new hotels in downtown areas or supply power to a region.

• Switching costs: If it's costly or difficult for customers to switch from existing firms to new entrants,
the threat of entry is lower.
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3. Supplier Power

Suppliers are powerful when they are the only source of something important that a firm needs, can
differentiate their product, or have strong brands.1

When the power of suppliers in an industry is high, this raises costs or otherwise limits the resources a
firm needs. Here are some factors used to measure the supplier power of an industry:

• The number of suppliers: When few firms can give a company something it needs to stay in
business, each has greater negotiating power. They can raise prices or reduce quality without fear of
losing business.

• Uniqueness: If a supplier provides a unique product or it's not easy to find a substitute, it is more
dominant. Businesses can't easily switch to another supplier.

• Switching costs: If it's costly or time-consuming to switch suppliers, then they have more power.
Businesses are less likely to switch, even if prices increase.

• Forward integration: If suppliers can move into the buyer's industry, they have more power. They
already have access to the necessary supplies, making it difficult for their former buyers to compete
once they decide to enter the market themselves.

• Industry importance: Some sectors are tightly intertwined, such as automotive suppliers and the
major auto companies or the semiconductor and tech industries, which can balance the power between
the suppliers and those in the sector. This is because the supplier needs these buyers to do well so that
it can, too. When a supplier can just as easily sell its products elsewhere, that gives it a great deal
more power.

4. Customer Power

When customers have more strength, they can exert pressure on businesses to provide better products or
services at lower prices. This force intensifies under certain conditions:

• The number of buyers: The fewer the buyers, the more they have power. In sectors like aerospace
manufacturing, each major airline, the industry's customers, has significant leverage in negotiations
and can demand favorable terms because the sellers depend on their business.

• Purchase size: Just like you head off to the big box stores to buy in bulk for a cheaper per-unit cost
on whatever now fills up your garage, major retail chains like Walmart Inc. (WMT) buy in large
volumes and can negotiate better terms and discounts.

• Switching costs: In industries like telecommunications, where it's easy for consumers to switch
providers, companies such as Verizon Communications, Inc. (VZ) and AT&T Inc. (T) have to offer
competitive terms.

• Price sensitivity: In the fast-fashion industry, where customers are highly price-sensitive, brands must
keep their prices low to attract cost-conscious consumers.
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• Informed buyers: In many sectors, the customers are savvy, know the competitive terrain well, and
thus can negotiate better prices.

Porter chose the metaphor of forces because they aren't static, so business must constantly adjust their
strategies as forces in an industry change.

5. Threat of Substitutes

When customers can find substitutes for a sector's services, that's a major threat to the companies in that
industry.

Here are some ways that this threat can be magnified:

• Relative price performance: If the cost of a substitute is lower and its performance is comparable or
better, customers are likely to switch to the substitute. For instance, streaming services like Netflix
became a substitute for traditional cable TV, providing a lower price that soon threatened the cable
industry.

• Customer willingness to go elsewhere: The threat is high if buyers find it easy to switch to a
substitute. For example, in the early 2010s, customers found switching from taxis to ride-sharing apps
like Uber or Lyft cheaper and easier.

• The sense that products are similar: If buyers perceive that there are few differences between your
product and a substitute, even if there are, they may be more likely to switch.

• Availability of close substitutes: Though this sounds the same as the last bullet point, you have to
strategize differently around it. There are times when potential substitutes are very different from a
company's products but consumers still treat them as the same. But in other cases, there are genuinely
similar products in the market and the threat of substitutes is high, such as between brand-name and
generic medications.