Role of Environmental Analysis in Strategy Formulation

A great deal must be learned about an organization so that strategy formulation decisions can be based upon appropriate information. It almost goes without saying that strategists must understand all there is to know about the internal operations of an organization before strategy can be effectively formulated and implemented. The external influences acting on the firm also must be analyzed, documented, and understood to mange and implement the strategies effectively.

An organization’s environment consists of two parts: The industry within which it operates (for multi-business firms, the industry is usually considered the activity’ in which the firm generates the majority of its revenue), and other environmental dimensions—economic, political/legal, social and technological. Very often financial analysis will bring to light several financial strengths and weakness that are indicative of strategic or operating capabilities and problems within the various strategy levels and within functional areas. Financial analysis is typically followed by internal diagnosis of functional areas. This process identifies strengths and weaknesses within such areas as marketing, personnel, research and development, and others.

Together these four analytical activities- environmental, industry, financial analysis and internal diagnosis of functional areas—are undertaken to generate a data set consisting of strengths, weaknesses, threats, and opportunities that comprehensively descries the internal and external characteristics of the organization. This information is then used as input to the strategy formulation process. It is factored with data about past strategies, mission, corporate culture, and managers’ values, and so on to evaluate the success or failure of present strategies. As a result present strategies can be modified, left as they are or replaced as necessary in a particular situation.

The key to effective strategic management is to make major managerial decisions that shape actions by the firm that will correspond positively with the context within which those actions ultimately take place. On the other hand, the action context is dictated to a great degree by conditions external to the firm. These conditions constitute the firm’s operating “environment.” To some extent the firm can shape the overall environment to its advantage. Henry Ford’s introduction of mass production of automobiles stimulated the U.S. economy in a manner that invigorated consumer markets of his products. Nonetheless, few firms enjoy a scale of impact that allows major shaping of the overall climate in which they operate, particularly over the long run. Instead well-managed business enterprises adapt to environmental change so that they can take advantage of opportunities that arise and minimize the otherwise adverse impacts of environmental threats. This involves assessment of present environmental circumstances (for reaction) and the forecasting of future conditions (for proaction).

A data set has both present and future time frames as internal and external, positive and negative factors are forecast into future periods. Environmental and industry analysis involves filling the right-hand sectors of the data set with information pertinent to a particular firm. Analysis of the internal operations of the organization results in a collection of strength and weaknesses that would fill the left-hand cells of the data set model.

Environmental conditions affect the entire strategic management process. Management’s perceptions of present and future operating environments and internal strengths and weaknesses provide inputs to goal and actions plan choices. They can also affect the manner in which implementation and internal circumstances will dictate the effectiveness of strategies as they are implemented (including alternation in the environment itself).

Both environmental and industry analysis procedures consist of four interrelated processes:

  1. Developing an assessment taxonomy to outline major environmental dimensions.
  2. Defining environmental boundaries (the “relevancy envelope”)
  3. Monitoring and forecasting change in key variables.
  4. Assessing potential impacts on the firm (or industry) in terms of whether they are treats of opportunities.

Credit: Strategic Management-MGU MBA

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