Strategic Management Debre Markos University

CHAPTER THREE
EXTERNAL ENVIRONMENTAL ANALYSIS

3.1 THE NATURE OF AN EXTERNAL AUDIT

The purpose of an external audit is to develop a finite list of opportunities that could benefit a firm and
threats that should be avoided. As the term finite suggests, the external audit is not aimed at developing
an exhaustive list of every possible factor that could influence the business; rather, it is aimed at
identifying key variables that offer actionable responses. Firms should be able to respond either
offensively or defensively to the factors by formulating strategies that take advantage of external
opportunities or that minimize the impact of potential threats.

3.2 The Process of Performing an External Audit

The process of performing an external audit must involve as many managers and employees as
possible. As emphasized in earlier discussions, involvement in the strategic-management process can
lead to understanding and commitment from organizational members. Individuals appreciate having the
opportunity to contribute ideas and to gain a better understanding of their firm's industry, competitors,
and markets. To perform an external audit, a company first must gather competitive intelligence and
information about social, cultural, demographic, environmental, economic, political, legal,
governmental, and technological trends. Individuals can be asked to monitor various sources of
information such as key magazines, trade journals, and newspapers. These persons can submit periodic
scanning reports to a committee of managers charged with performing the external audit. This approach
provides a continuous stream of timely strategic information and involves many individuals in the
external-audit process. The Internet provides another source for gathering strategic information, as do
corporate, university, and public libraries. Suppliers, distributors, salespersons, customers, and
competitors represent other sources of vital information.

Once information is gathered, it should be assimilated and evaluated. A meeting or series of meetings
of managers is needed to collectively identify the most important opportunities and threats facing the
firm. These key external factors should be listed on flip charts or a blackboard. A prioritized list of
these factors could be obtained by requesting all managers to rank the factors identified, from 1 for the
most important opportunity/threat to 20 for the least important opportunity/threat. These key external
factors can vary over time and by industry. Relationships with suppliers or distributors are often a
critical success factor. Other variables commonly used include market share, breadth of competing
products, world economies, foreign affiliates, proprietary and key account advantages, price
competitiveness, technological advancements, population shifts, interest rates, and pollution abatement.
Freund emphasized that these key external factors should be:

Important to achieving long-term and annual objectives;

Measurable;
Applicable to all competing firms; and
Hierarchical in the sense that some will pertain to the overall company and others will be more
narrowly focused on functional or divisional areas.
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A final list of the most important key external factors should be communicated and distributed
widely in the organization. Both opportunities and threats can be key external factors.

3.3 Key External Forces

External forces can be divided into five broad categories: Economic forces; Social, cultural,
demographic, and environmental forces; Political, governmental, and legal forces; Technological
forces; and Competitive forces. External trends and events significantly affect all products, services,
markets, and organizations in the world. Changes in external forces translate into changes in consumer
demand for both industrial and consumer products and services. External forces affect the types of
products developed, the nature of positioning and market segmentation strategies, the types of services
offered, and the choice of businesses to acquire or sell. In addition, external forces directly affect both
suppliers and distributors. Identifying and evaluating external opportunities and threats enables
organizations to develop a clear mission, to design strategies to achieve long-term objectives, and to
develop policies to achieve annual objectives.
1. Economic Forces: refers to the nature and direction of the economy in which the business operates.
Because consumption patterns are affected by the relative affluence of various market segments,
each firm must understand economic trends in the segments that affect its industry. Economic
factors have a direct impact on the potential attractiveness of various strategies. For example, as
interest rates rise, then funds needed for capital expansion become more costly or unavailable.
Also, as interest rates rise, discretionary income declines, and the demand for discretionary goods
falls. As stock prices increase, the desirability of equity as a source of capital for market
development increases. Also, as the market rises, consumer and business wealth expands. A
summary of economic variables that often represent opportunities and threats for organizations is
provided in Table given below. Firms that do not mobilize and empower their managers and
employees to identify, monitor, forecast, and evaluate key external forces may fail to anticipate
emerging opportunities and threats and, consequently, may pursue ineffective strategies, miss
opportunities, and invite organizational demise. Firms not taking advantage of the Internet are
falling behind technologically.
Key Economic Variables to Be Monitored
 Availability of credit  Import/export factors
 Level of disposable income  Demand shifts for different categories
 Propensity of people to spend of goods and services
 Interest rates  Income differences by region and
 Inflation rates consumer groups
 Money market rates  Price fluctuations
 Federal government budget deficits  Exportation of labor and capital from
 Gross domestic product trend the United States
 Consumption patterns  Monetary policies
 Unemployment trends  Fiscal policies
 Worker productivity levels  Tax rates
 Value of the dollar in world markets  European Economic Community (ECC)
 Stock market trends policies
 Foreign countries' economic conditions
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 Organization of Petroleum Exporting  Coalitions of Lesser Developed

Countries (OPEC) policies Countries (LDC) policies
They affect the economic factors and affect the customers buying behaviors. The customers are more
conscious about the economic changes and responds according to the changes in key variable factors.
So, any change in the price affects the customer buying trend directly.

As far as the exportation of capital and labor is concerned, over the last 300 years Pakistan has seen a
tremendous exportation of labor. Capital is not only left a vacuum on organization. Monetary policies
and Fiscal policies are changed every year. The person or businesses engaged in business for profit
making or non-profit organizations always have to keep an eye on the economic structure of the
countries. As far as the tax rates are concerned, government also changes the tax rate with the passage
of time. So it affects the economic forces. ECC and OPEC policies and LDC policies have also a major
effect on the economic factors.
2. Social, Cultural, Demographic, and Environmental Forces; social forces involve the beliefs,
values, attitudes, opinions and life styles of those in firm’s external environment as developed from
ecological, demographic, religious, educational, and ethnic conditioning. Social, cultural,
demographic, and environmental changes have a major impact upon virtually all products
(Preferences change), services, markets, and customers. Small, large, for-profit and nonprofit
organizations in all industries are being staggered and challenged by the opportunities and threats
arising from changes in social, cultural, demographic, and environmental variables. In every way,
the United States is much different today than it was yesterday, and tomorrow promises even
greater changes. We may use the following analysis in understanding the Social, Cultural,
Demographic, and Environmental Forces: Consider Pakistan—
i. Population growing older
ii. Increase in younger population
iii. Ethnic balance changing
iv. Gap between rich and poor widening

Key Social, Cultural, Demographic, and Environmental Variables

 Childbearing rates  Lifestyles

 Number of special interest groups  Traffic congestion
 Number of marriages  Inner-city environments
 Number of divorces  Average disposable income
 Number of births  Trust in government
 Number of deaths  Attitudes toward government
 Immigration and emigration rates  Attitudes toward work
 Social security programs  Buying habits
 Life expectancy rates  Ethical concerns
 Per capita income  Attitudes toward saving
 Location of retailing, manufacturing,  Sex roles
and service businesses  Attitudes toward investing
 Attitudes toward business  Racial equality
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 Use of birth control  Attitudes toward authority

 Average level of education  Population changes by city, county,
 Government regulation state, region, and country
 Attitudes toward retirement  Value placed on leisure time
 Attitudes toward leisure time  Regional changes in tastes and
 Attitudes toward product quality preferences
 Attitudes toward customer service  Number of women and minority
 Pollution control workers
 Attitudes toward foreign peoples  Number of high school and college
 Energy conservation graduates by geographic area
 Social programs  Recycling
 Number of churches  Waste management
 Number of church members  Air pollution
 Social responsibility  Water pollution
 Attitudes toward careers  Ozone depletion
 Population changes by race, age, sex,  Endangered species
and level of affluence

Ethnic balance changes due to the migration of the people from different areas to different areas. This
affects the ethical behavior very much. As the traditions and norms are very much different in different
areas of Pakistan, therefore the behavior of the migrated people also have a major affect on the
behavior of the resident people. Due to the increased gap between rich and the poor, there is a
tremendous change in the social behavior of the people.
3. Political forces
The direction and stability of political factors is a major consideration for managers in formulating
company strategy. Political forces define the legal and otherwise governing parameters in which the
firm must or may wish to operate. Political considerations are placed on each company through fair-
trade decisions, antitrust laws, tax programs, minimum wage legislation, pollution and pricing policies,
administrative jawboning, and many other actions aimed at protecting the consumer and the
environment. These laws, practices, and regulations are most commonly restrictive, and as a result,
they tend to reduce a firm’s potential profits. However, other political actions are designed to benefit
and protect a company. Examples include patent laws, government subsidies, and product research
grants. Thus, political forces are both a limitation and a benefit to the firm they influence.
The Key variables of Political forces to be monitored include;

 Government regulations or deregulations  Changes in patent laws

 Changes in tax laws  Environmental protection laws
 Special tariffs  Level of defense expenditures
 Political action committees  Legislation on equal employment
 Voter participation rates  Level of government subsidies
 Number, severity, and location of  Antitrust legislation
government protests  Sino-American relationships
 Number of patents  Russian-American relationships
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 European-American relationships  Special local, state, and federal laws

 African-American relationships  Lobbying activities
 Import-export regulations  Size of government budgets
 Government fiscal and monetary policy  World oil, currency, and labor markets
changes  Location and severity of terrorist activities
 Political conditions in foreign countries

 Local, state, and national elections World oil situation makes a difference to us. So, either the
issues is related to currency, oil or labor they should be monitored as key external variables.
4. Technological forces
Technology can be simply defined as the application of knowledge to practical solutions or tasks. To
avoid obsolescence and promote innovation, a firm must be aware of technological changes that might
influence its industry. Creative technological adaptations can affect planning in that new products may
be suggested or existing ones improved; manufacturing and marketing techniques may also improved.

5. Competitive forces
By assessing its competitive position a firm can improve its chances of designing strategies that
optimize environmental opportunities. Development of competitive profiles enables a firm to more
accurately forecast its short and long-term growth and profit potentials. Although, the exact criteria
used in constructing a competitor’s profile are largely determined by situational factors in the
environment, the following are often included: market share; breadth of product line; effectiveness of
sales distribution; proprietary and key-account advantages; price competitiveness; advertising and
promotion effectiveness; location and age of facility; capacity and productivity; experience; raw
material costs; financial position; relative product quality R&D advantages/position; caliber of
personnel; and general images.
Good competitive intelligence in business is one of the key’s to success. The more information and
knowledge a firm can obtain about its competitors, the more likely it can formulate and implement
effective strategies because major competitor’s strength may represent key threats and major
competitor’s weakness can represent external opportunities.
Key Questions about Competitors
 What are the major competitors' strengths?
 What are the major competitors' weaknesses?

 What are the major competitors' objectives and strategies?

 How will the major competitors most likely respond to current economic, social, cultural,
demographic, environmental, political, governmental, legal, technological, and competitive
trends affecting our industry?

 How vulnerable are the major competitors to our alternative company strategies?

 How vulnerable are our alternative strategies to successful counterattack by our major
competitors?

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 How are our products or services positioned relative to major competitors?

 To what extent are new firms entering and old firms leaving this industry?

 What key factors have resulted in our present competitive position in this Industry?

 How have the sales and profit rankings of major competitors in the industry changed over
recent years? Why have these rankings changed that way?

 What is the nature of supplier and distributor relationships in this industry?

 To what extent could substitute products or services be a threat to competitors in this industry?

3.4 PORTER’S FIVE FORCES’ MODEL OF INDUSTRY ANALYSIS

Michael E. Porter of the Harvard School of Business Administration has developed a framework that
helps managers for analyzing the nature and extent of competition within an industry. He says that
there are five competitive forces, which determine the degree of competition within an industry. And
the framework is known as the Porter’s five forces model. This model focuses on five forces that shape
competition within an industry.

The Porter’s “Five-Force” competition Model: - A key Analytical Tool

Porter argues that

 The stronger each of these forces, the more limited is the ability of established organizations to
raise prices and earn greater profits.
 Within porter’s framework, a strong competitive force can be regarded as a threat since it
depresses success.
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 A weak competitive force can be viewed as an opportunity, for it allows an organization to get
better success. Because of factors beyond an organization direct control, such as industry
evolution, the strength of the five forces may change through time. In such circumstances, the
task facing strategic managers is to recognize opportunities and threats as they arise and to
formulate appropriate strategic responses.
 In addition, it is possible for organizations, through its strategy, to alter the strength of one or
more of the five forces to its advantages.
1. The Threat of New Entrants to the Industry
A new entrant into industry represents a competitive threat to existing firms. It adds new production
capacity and potential to erode the market share of the existing industry. New entrants into the industry
are potential competitors. Potential competitors are organizations that currently are not competing in an
industry but have the capability to do so if they choose.
Existing (established) organizations try to discourage potential competitors from entering, since the
more organizations enter an industry, the more difficult it becomes for established organizations to hold
their share of the market and to generate success. Thus a high risk of entry by potential competitors
represents a threat to the profitability of established organizations.
On the other hand, if the risk of new entry is low, established organizations could take advantage of this
opportunity to raise prices and earn greater returns.
The strength of the competitive forces of potential rivals is largely a function of the height of barriers to
entry. The concept of barriers to entry implies that there are significant costs in joining an industry.
The greater the costs that potential competitors must bear, the greater are the barriers to entry. High
entry barriers keep potential competitors out of an industry even when industry returns are high.
The principal sources of barriers to entry are:
 Economies of scale
 Absolute cost advantage
 Brand loyalty and switching cost
 Capital requirement
 Product differentiation
 Access to distribution channels
 Government and legal barriers
 Retaliation by established producer When this risk is low, established organizations can charge
higher prices and earn greater profits than would have been possible otherwise clearly, then, it
is the interest of organizations to pursue strategies consistent with these aims.
Indeed, empirical evidence suggests that the height of barriers to entry is the most important
determinant of success rates in an industry.
2. The Threat of Substitute Products
Here, the products of industries that serves similar consumer needs as those of the industry being
analyzed.
A substitute may be regarded as something, which meets the same needs as the product in any industry.
The extent of threat from particular substitute depends on two factors.

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 The extent to which price and performance of this substitute can match industries product. If the
price and performance of existing product rise above that of the substitute product, customer
tends to switch to the substitute.
 The willingness of buyers to switch to the substitute. Buyer will be more willing to change
substitute if switching costs are low.

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For example:
 Organization in the coffee industry competes indirectly with those in the tea and soft-
drink industries. (All three industries serve consumer needs for drinks).
The extent to which substitutes limit price and profit depends on:
 The buyers propensity to substitute
 Relative price and performance of substitutes
The existence of close substitutes presents a strong competitive threat, limiting the price an
organization can charge and thus its success.
However, if an organization’s products have few close substitutes (that is, if substitutes are
weak competitive force), then, other things being equal the organizations has the opportunity to
raise price and earn additional profits.
3. The Bargaining Power of Buyers
Buyers of an industry product can exert bargaining power over that industry by forcing prices
down, by reducing the amount of good they purchased from the industry, and by demanding
better quality for the same price.
The strength of buying power that firms face from their customers depends on two sets of
factors;
 Buyer’s price sensitivity and
 Relative bargaining power.
The extents/ factors to which buyers are sensitive to the prices changed by the firms in an
industry depend on:
 Cost of product relative to total costs
 Product differentiation
 Competition between buyers
Some factors that influence the bargaining power of buyers relative to that of seller are:
 Size of concentration of buyers relative to producers
 Buyers’ switching cost
 Buyers’ information
 Buyers’ ability to backward integration
Buyers can be viewed as a competitive threat when they force down prices or when they demand
higher quality and better service (which increases operating costs).
Alternatively, weak buyers give an organization the opportunity to raise prices and earn greater
returns.
An industry’s buyers tend to be powerful relative to the firms if they are buying from when the
conditions listed below apply (these factors also apply to a group of consumers and to industrial
and commercial buyers):
 Buyers are concentrated as in cooperatives, or they account for a large volume of purchases.
 Products are undifferentiated or standardized.
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 The seller’s component represents a large portion of the total cost of the buyer’s finished
product. When the seller’s product has a small cost share, buyers tend to be less prices
sensitive.
 Buyers are earning low profits and are thus more price sensitive than if they were highly
profitable.
 The sellers’ product is not critical in one way or another to the buyer. If it is critical to the
quality, price, appeal, etc,, of an industrial buyer group’s finished product, for example,
then the sellers will have power over the buyers.
 There is a threat that buyers can integrate backward to make the suppliers’ product.
4. The Bargaining Power of Suppliers
Providers of goods and services to an industry have power over their customers through their
ability to set price and control quality, delivery time, and order quantity.
If these customers cannot successfully playoff one supplier against another to protect themselves,
then the industry’s profits can be drained off by suppliers.
The bargaining power of suppliers that can be viewed as a threat when they are able to force up
the price that an organization must pay for input or reduce the quality of goods supplied, thereby
depressing the organization’s success.
Alternatively, week supplies give a company the opportunity to force down prices and demand
higher quality.
The power of suppliers is high in the following situations:
 There are few suppliers who are more concentrated than their customers
 Suppliers’ product is differentiated
 Customers switching costs are high
 There is little pressure on suppliers to protect themselves from substitutes or
replacements for their product
 When suppliers have the capability to integrate forward. A supplier of engines to a
manufacturer of lawnmowers would have a strong bargaining position if the mower
company realized the engine supplier’s ability to make the whole lawnmower.
5. Rivalry among Established/Existing Organizations
It describes the intensity of rivalry among competitors or established organizations within in the
industry. Some industries appear “sleepy” because of a low level of rivalry among competitors
(example the manufacturers of fasteners, nuts and bolts and other devices used to connect the
components of products). On the other hand, some industries are characterized by a high level of
competitive activity (example, the brewing industry has many competitors who battle fiercely
with each other over market share).
If this competitive force is weak, organizations have an opportunity to raise prices and earn
grater profits. But if it is strong, significant price competition, including price wars, may result

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from the intense rivalry. Price competition limits profitability by reducing the margins that can
be earned on sales.
Factors that play important role in determining the nature and intensity of competition between
established firms are:
 Concentration
 Diversity of competitors
 Product differentiation
 Excess capacity
 Exit barriers and
 Cost conditions
Generally, the factors that tend to precipitate intense rivalries in an industry are:
 Relative equilibrium in size and power among a large number of competitors
 Slow or stagnant growth of industry demand such that expansion of one competitor
would come at the expense of others
 Undifferentiated products and low switching costs
 High fixed costs or product Perishability
 Even small capacity additions generate large volume increases which raise pressure to cut
prices
 High exit barriers causing firms to bear low or negative returns on investment
 Wide spectrum of strategies and types of firms which generates confusion and frequent
“collision” in the market. The opposite case might be an oligopoly like the automobile
industry where most actions are reactions to another competitor and rivalry is somewhat
orderly, albeit intense.
Intense rivalry among established organizations constitutes a strong threat to success. And it is
largely a function of three factors.
 Industry competitive structure
 Demand conditions and
 The height of exit barriers in the industry
Competitive structure
Competitive structure refers to the number and size distribution of organizations in an industry.
Different competitive structures have different implications for rivalry. Structures vary from
fragmented up to consolidated.
The continuum of industry structures
Demand conditions
Industry demand conditions are another determinant of the intensity of rivalry among established
companies. Growing demand tends to moderate competition by providing greater room for
expansion.

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Demand grows when the market as a whole is growing through the addition of new consumers or
when existing consumers are purchasing more of an industry’s product. When demand is
growing, companies can increase revenues without taking market share away from other
companies. Thus growing demand gives an organization a major opportunity to expand
operations.
Declining demand results in more competition as organization fight to maintain revenues and
market-share. Demand declines when consumers are leaving the market place or when each
consumer is buying less. When demand is declining, an organization can attain growth only by
taking market share away from other organization. Thus, declining demand constitutes a major
threat, for it increase the extent of rivalry between established organizations.
Exit barrier
Exit barrier are a serious competitive threat when industry demand is declining. They are
economic, strategic, and emotional factors that keep organization competing in an industry even
when returns are low.
If exit barriers are high, organization can become locked into an unfavorable industry and excess
productive capacity can result. In turn, excess capacity tends to lead to intensified price
competition, with organizations cutting prices in an attempt to obtain the orders needed to utilize
their idle capacity.
Common exit barriers include the following;
 Investments in plant and equipment that have no alternative uses and cannot be sold off.
If the organization wishes to leave the industry, it has to write off the book value of these
assets.
 High fixed costs of exit, such as severance pay to workers who are being made
redundant.
 Emotional attachments to an industry, as when an organization is unwilling to exit from
its original industry for sentimental reasons.
 Strategic relationship between business units. For example, within a multi-industry
organization, a low-return unit may provide vital inputs from a high return unit based in
another industry. Thus the organization may be unwilling to exit from the low-return
units.
 Economic dependence on the industry, as when an organization is not diversified and so
relies on the industry for its income.
Interactions among these factors
The extent of rivalry among established organization within an industry is a function of
competitive structure, demand conditions, and exit barriers. The interaction of these factors
determines the extent of rivalry. These issues are summarized as follows: Demand conditions
and exit barriers as determinants of opportunities and threats in consolidated industry

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Demand Conditions
Demand decline Demand growth
High threat of excess capacity and Opportunities to raise prices through price
price wars. leadership and to expand operations.

Moderate threat of excess capacity Opportunities to raise prices through price

and price-wars leadership to expand operations.

When demand growth is high, the environment of consolidated industry may be favorable. When
demand is declining and exit barriers are high, the probable emergency of excess capacity is
likely to causes to price wars. Thus, depending on the interaction between these various factors,
the extent of rivalry among established organization in a consolidated industry might constitute
an opportunity or a threat.

The External Factor Evaluation (EFE) Matrix

An External Factor Evaluation (EFE) Matrix allows strategists to summarize and evaluate
economic, social, cultural, demographic, environmental, political, governmental, legal,
technological, and competitive information.
Illustrated in Table 3-12, the EFE Matrix can be developed in five steps:
1. List key external factors as identified in the external-audit process. Include a total of 15 to 20
factors, including both opportunities and threats, that affect the firm and its industry. List the
opportunities first and then the threats. Be as specific as possible, using percentages, ratios, and
comparative numbers whenever possible.
2. Assign to each factor a weight that ranges from 0.0 (not important) to 1.0 (very important).
The weight indicates the relative importance of that factor to being successful in the firm’s
industry. Opportunities often receive higher weights than threats, but threats can receive high
weights if they are especially severe or threatening. Appropriate weights can be determined by
comparing successful with unsuccessful competitors or by discussing the factor and reaching a
group consensus. The sum of all weights assigned to the factors must equal 1.0.
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3. Assign a rating between 1 and 4 to each key external factor to indicate how effectively the
firm’s current strategies respond to the factor, where 4 = the response is superior, 3 = the
response is above average, 2 = the response is average, and 1 = the response is poor. Ratings are
based on effectiveness of the firm’s strategies. Ratings are thus company-based, whereas the
weights in Step 2 are industry-based. It is important to note that both threats and opportunities
can receive a 1, 2, 3, or 4.
4. Multiply each factor’s weight by its rating to determine a weighted score.
5. Sum the weighted scores for each variable to determine the total weighted score for the
organization.
Regardless of the number of key opportunities and threats included in an EFE Matrix, the highest
possible total weighted score for an organization is 4.0 and the lowest possible total weighted
score is 1.0. The average total weighted score is 2.5. A total weighted score of 4.0 indicates that
an organization is responding in an outstanding way to existing opportunities and threats in its
industry. In other words, the firm’s strategies effectively take advantage of existing opportunities
and minimize the potential adverse effects of external threats. A total score of 1.0 indicates that
the firm’s strategies are not capitalizing on opportunities or avoiding external threats. An
example of an EFE Matrix is provided in Table 3-12 for a local ten-theatre cinema complex.

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Note that the most important factor to being successful in this business is “Trend toward healthy
eating eroding concession sales” as indicated by the 0.12 weight. Also note that the local cinema
is doing excellent in regard to handling two factors, “TDB University is expanding 6 percent

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annually” and “Trend toward healthy eating eroding concession sales.” Perhaps the cinema is
placing flyers on campus and also adding yogurt and healthy drinks to its concession menu. Note
that you may have a 1, 2, 3, or 4 anywhere down the Rating column. Note also that the factors
are stated in quantitative terms to the extent possible, rather than being stated in vague terms.
Quantify the factors as much as possible in constructing an EFE Matrix. Finally, note that the
total weighted score of 2.58 is above the average (midpoint) of 2.5, so this cinema business is
doing pretty well, taking advantage of the external opportunities and avoiding the threats facing
the firm. There is definitely room for improvement, though, because the highest total weighted
score would be 4.0. As indicated by ratings of 1, this business needs to capitalize more on the
“two new neighborhoods nearby” opportunity and the “movies rented from Time Warner” threat.
Note also that there are many percentage-based factors among the group. Be quantitative to the
extent possible! Note also that the ratings range from 1 to 4 on both the opportunities and threats.

The Competitive Profile Matrix (CPM)

The Competitive Profile Matrix (CPM) identifies a firm’s major competitors and its particular
strengths and weaknesses in relation to a sample firm’s strategic position. The weights and total
weighted scores in both a CPM and an EFE have the same meaning. However, critical success
factors in a CPM include both internal and external issues; therefore, the ratings refer to strengths
and weaknesses, where 4 = major strength, 3 = minor strength, 2 = minor weakness, and 1 =
major weakness. The critical success factors in a CPM are not grouped into opportunities and
threats as they are in an EFE. In a CPM, the ratings and total weighted scores for rival firms can
be compared to the sample firm. This comparative analysis provides important internal strategic
information. A sample Competitive Profile Matrix is provided in Table 3-13. In this example, the
two most important factors to being successful in the industry are “advertising” and “global
expansion,” as indicated by weights of 0.20. If there were no weight column in this analysis, note
that each factor then would be equally important. Thus, having a weight column makes for a
more robust analysis, because it enables the analyst to assign higher and lower numbers to
capture perceived or actual levels of importance. Note in Table 3-13 that Company 1 is strongest

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on “product quality,” as indicated by a rating of 4, whereas Company 2 is strongest on

“advertising.” Overall, Company 1 is strongest, as indicated by the total weighted score of 3.15.

Other than the critical success factors listed in the example CPM, factors often included in this
analysis include breadth of product line, effectiveness of sales distribution, proprietary or patent
advantages, location of facilities, production capacity and efficiency, experience, union relations,
technological advantages, and e-commerce expertise. A word on interpretation: Just because one
firm receives a 3.2 rating and another receives a 2.80 rating in a Competitive Profile Matrix, it
does not follow that the first firm is 20 percent better than the second. Numbers reveal the
relative strengths of firms, but their implied precision is an illusion. Numbers are not magic. The
aim is not to arrive at a single number, but rather to assimilate and evaluate information in a
meaningful way that aids in decision making.

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