In the business world, strategy refers to the models using to make the right decisions that help organizations achieve set targets. It is, therefore, important that business people invest in understanding the various strategy development tools, their benefits, and their limitations. Having in-depth knowledge about strategy and how to select the right strategy tools, can businesses become more efficient and productive. There are several strategy development tools for use in the business world; what’s important is to know which strategy tool to use in a given circumstance. The main goal of using business strategy tools is to implement strategic plans in companies and help create economic moats. Some of the standard strategy development tools are; PESTEL, Five Forces, Resource-Based View, Cross Impact Analysis, and SWOT Analysis. In this article, only three important strategy development tools will be discussed. These strategy tools include; PESTEL, Five Forces, and SWOT Analysis.
PESTEL analysis helps explicitly businesses understand the external macro-environment better. With the right information and insights, companies can avoid making losses by investing in unattractive countries. Porter’s Five Forces Analysis helps companies understand their industries better by analyzing the critical factors that affect competition and profits. SWOT analysis is essential in assisting firms in understanding the internal and external factors; that affect their business activities and adopt the best strategies to increase profits and attain process efficiency.
1. PESTEL Analysis
PESTEL analysis is used by companies to have an understanding of the external factors that affect their operations. It is an analysis of the political, economic, social, technological, environmental, and legal considerations and their effect on an organization’s operations and performance. PESTEL analysis is a useful tool for conducting situation analysis for companies that want to understand external macro-environment forces that can affect their activities. These external forces present opportunities and threats for companies, hence the need to use this strategy development tool to assess the business environment before investing or making decisions. Therefore, PESTEL analysis helps companies to determine the current external factors that affect them, find out external factors that are prone to changes, and decide which opportunities to exploit. PESTEL analysis is also used by companies to assess the potential of a new market. Multinationals that want to venture into a new foreign market rely on the insights drawn from a PESTEL analysis. The general rule when using this strategy tool is that if there are more negative forces affecting a market, then it is difficult for businesses to excel in that market. The reason for this insight is since negative forces present difficulties that companies in the environment will have to deal with, hence reduce profit potential for organizations. This situation makes the environment unattractive for organizations.
It is advised that many managers are involved when carrying out PESTEL analysis to get the best results. Two steps are followed, step one: gather information on political, economic, social, and technological changes as well as other factors on a microenvironment level. Step two: Identify PEST factors that represent opportunities and those that pose threats. Some of the factors that the executives doing the research should focus on are provided below. On political factors, find information relating to government stability and possible changes, corruption levels, trade control, regulation, tax policy, and tariffs. On economic factors, the focus should be on inflation rates, interest rates, exchange rates, growth rates, credit availability, labor costs, and trade flows and patterns. On social-cultural factors, the focus should be on lifestyles, population growth rate, buying habits, education level, attitudes towards work, leisure and career, and religion and safety. On technological factors, the focus should be on communication infrastructure, technology incentives, technology level in the field of the business, and the rate of technology change. On environmental factors, the focus should be on weather, climate change, energy, waste management, environmental pollution laws, and recycling. On legal considerations, the focus should be on data protection, employment law, consumer protection, and e-commerce and anti-trust law. Once the information has been gathered, the next step is evaluation. The evaluation stage is to identify which of the identified factors represent opportunities and threats for an organization.
2. Porter’s Five Forces
This strategy tool is used to assess an industry’s competitiveness as well as its profitability. The tool uses five industry forces to evaluate the intensity of competition and guide organizations to make informed decisions on whether to join that industry or not. The Five Forces model was created in 1979 by Michael Porter in his pursuit to explain factors that affect an industry and determine firms that succeed and those that fail. The five forces are; the threat of new entrants, bargaining power of buyers, and the bargaining power of suppliers, industry rivalry, and the threat of substitutes. These five forces shape an industry structure and its competitiveness. Strong competitive forces mean that the industry is less profitable. An example of strong competitive forces is when an industry has low barriers to enter, few buyers and suppliers but many substitutes. An industry of this type is less profitable hence unattractive. An attractive industry is one with high barriers to entry, weak supplier’s bargaining power, weak buyer’s bargaining power, few substitute products and services, and low competition. Business strategists have the task of evaluating the competitive position of their companies in an industry. The information obtained from the five forces analysis can help identify strengths and weaknesses that must be exploited for sustained competitive advantage.
- The threat of new Entrants – This force is used to gauge the hardness degree of firms entering an industry. An industry that is profitable with few barriers to enter easily attracts more firms, hence increasing rivalry. Several companies competing for the same market share affect the profits to be gained. Thus, for companies to enjoy high profitability, there is a need to increase barriers to entry of new entrants.
- Bargaining Power of Suppliers – Suppliers with strong bargaining power can sell their raw materials at favorable prices. This has the effect of reducing the profit margin of the buying firms, as they are forced to pay more for raw materials. For companies to enjoy high profits, they should be able to get their raw materials cheaply from several suppliers.
- Bargaining Power of Buyers – Strong bargaining power of buyers means that customers can buy products at low prices, hence reducing the profit margins for companies. Thus, for companies to enjoy sustained profits, there’s a need to reduce the bargaining power of buyers. This can be done by reducing the number of companies producing products by making it hard to enter the industry.
- Threat of Substitutes – Substitutes are good to consumers and bad to companies as they will not be able to sell more of their products. It is difficult for companies to deal with the threat of substitutes. The only thing they can do is produce high-quality products and ensure there exist high switching costs, to hinder customers from going for substitutes.
- Rivalry among Existing Competitors – This force is the one that mostly determines the competitiveness and profitability of an industry. Companies compete aggressively for market share, reducing prices, and getting low profits in a competitive industry. Companies can deal with rivalry by not focusing on prices but instead on quality and innovation.
3. SWOT Analysis
SWOT analysis is a strategy tool that is used to conducting a situation analysis. SWOT is full is strengths, weaknesses, opportunities, and threats. Strengths represent all those factors that give a company a competitive advantage over its competitors. Weaknesses represent the factors that can be used against a company by its competitors. Opportunities represent the favorable situations that if tapped, can help a company realize a competitive edge. Threats represent unfavorable situations that hurt the success of a business. Strengths and weaknesses are internal factors, whose effects can be managed by a company. Opportunities and threats are external factors, and business has no control over these factors. SWOT analysis is widely applied in business as it enables organizations to assess themselves and reduce inefficiencies and increase profits. This strategy tool is widely accepted for its simplicity and value in showing the internal and external factors affecting a company. The benefit of SWOT analysis is; clear to understand, simple to do, focuses on the key factors affecting a company, and initiates further analysis. SWOT analysis has received heavy criticism from academics and managers citing the analysis’s inability to describe factors narrowly, lack of prioritization of factors, and ensuring the factors are facts, not opinions. SWOT analysis is not labor-intensive like the other strategy tools. It can be done by one person or a small group of people. SWOT analysis comprises two steps. Listing a company’s strengths and weaknesses and then identifying opportunities and threats.