Dynamic Changes in the External Environment - Principles of Management

It should be clear from the discussion so far that the external environment confronting managers is not stable. Indeed, the opposite is the norm. Elements of the general and task environments are always changing. Changes in the general environment, such as those in regulations, macroeconomic trends, demographics, social mores, or technology, impact the nature of competition in a firm’s task environment. For example, new technology and deregulation can lower barriers to entry into an industry and increase the intensity of competition.

Similarly, strong economic growth and falling interest rates can lead to greater customer demand in the task environment, whereas an economic recession and climbing interest rates may result in a contraction in demand.

Even when the general environment is relatively stable, changes in the task environment can still occur. By their own actions firms can change the nature of competition in their industries. Price cutting by one firm can spark a price war; introduction of a new product might spur greater demand growth; bankruptcy of marginal players in the industry can reduce capacity and create a more favorable competitive environment; and so on.

INCREMENTAL VERSUS DISCONTINUOUS CHANGE

Managers must address two types of external environmental change: incremental change and discontinuous change. Incremental change refers to changes that do not alter the basic nature of competition in the task environment. Most task environments are characterized by ongoing incremental change.

Demand might accelerate or decelerate in response to changes in the macroeconomy; competition may be more or less intense depending on the balance between demand and capacity; the entry of a new competitor might increase competition; and the bankruptcy of a competitor might reduce competitive pressures. Such changes, although not trivial, do not fundamentally alter the nature of competition.

A discontinuous change is one that fundamentally transforms the nature of competition in the task environment. Discontinuous changes are normally triggered by discrete events, such as the emergence of a powerful new technology that changes the basis of competition, or substantial changes in the regulations governing an industry. Discontinuous changes are often characterized by the emergence of new competitors and, in many cases, by the decline of long-established enterprises that cannot adapt to the new environment.

The growth of the Internet, for example, when coupled with the development of small portable music players such as Apple’s iPod, may now be ushering in a period of discontinuouschange in the music industry. Increasingly music is being downloaded over the Internet, as opposed to being purchased at retail stores. This is hurting music retailers. Illegal downloading over the Internet has depressed the sales of music labels.

The rise of legal sales through services such as Apple’s iTunes may also be a mixed blessing for music companies: Customers can purchase individual songs and no longer have to purchase the dud “filler tracks” that areincluded on many CDs. In the long run these developments may lead to a lower sales base for music publishing companies and a decline in the number of music retailers with physical stores. This is definitely not business as usual for music companies! And that is the essence of discontinuous change—it represents a sharp break from business as usual.

Most task environments seem to go through long periods of relative stability, when changes are incremental in nature, punctuated by short periods of discontinuous change when the nature of competition is revolutionized, often by the arrival of new technology or a significant change in government regulations. This process is referred to as punctuated equilibrium. 21 The computer industry provides a classic example.

During the 1960s and 1970s the industry was dominated by manufacturers of large computers such as IBM. In the mid-1980s personal computer technology revolutionized the industry. IBM lost its market dominance, and several new competitors, most notably Microsoft and Intel, grew with the new technology and seized industry leadership. For a period during the late 1980s and early 1990s the industry once again became stable.

Then in the mid-1990s the Internet ushered in another period of revolutionary change. Although Microsoft and Intel survived with their dominance intact, several enterprises took advantage of this period to substantially grow their businesses. Most notably, Dell harnessed the power of the Internet to manage both its customer interface and its supply chain, driving down its costs in the process and gaining significant revenues at the expense of other computer manufacturers. The industry has been relatively stable since 2000, and change is once more incremental.

Incremental change is something that managers must learn to handle because all industries are characterized by this. Coping with discontinuous change is far more problematic and requires actions of an entirely different order.

ENVIRONMENTAL UNCERTAINTY

To complicate the manager’s life, not only is the external environment constantly changing, but the nature of change is frequently difficult to predict. The world is characterized by significant uncertainty , which in this context means an inability to predict with accuracy the nature, magnitude, timing, and direction of change in the environment. Managers typically seek to reduce the amount of environmental uncertainty they face by collecting more information and by trying to exert some control over the environment.

Collecting Information By collecting information about different aspects of the environment they face, managers hope to reduce uncertainty, increase their knowledge, and thus make better decisions. However, although uncertainty can be reduced by collecting more information, it can never be eliminated altogether. The world is an inherently uncertain and unpredictable place.The best that can be hoped for is to reduce the uncertainty to some manageable level.

Collecting information can involve a number of tactics. Market research can improve managers’ knowledge about customer needs and preferences, enabling them to better predict future demand trends. Boeing’s market research group, for example, routinely talks to customers about their own plans as a way of trying to gauge future customer demand for commercial aircraft, thereby reducing the uncertainty associated with demand projections. Competitive intelligence can be gathered to better understand what competitors are doing.

Thus Boeing carefully tracks the financial performance, investments, and strategic decisions of its global rival Airbus to better understand what Airbus is planning and to predict how Airbus will react to Boeing strategic initiatives, thereby reducing the uncertainty associated with such initiatives. Managers might also meet with industry-specific regulators to better anticipate what they might do in the future. Again consider Boeing: Managers at the company may talk with the Federal Aviation Authority (FAA) to predict how FAA regulations might affect aircraft design.

In a famous example, when the company was building the Boeing 777 (the first wide-bodied long-haul jet to have only two engines), Boeing’s managers consulted regularly with the FAA to make sure the agency would certify the aircraft for long-distance flights over the world’s oceans (until the 777, only aircraft with four engines had been thuscertified). In other words, by consulting with the FAA, Boeing’s managers reduced the uncertainty associated with this aspect of the task environment.

Exerting Control In addition to collecting information, managers try to reduce the environmental uncertainty they face by increasing their ability to exert control over it. Various strategies can be used to do this. For example, facing uncertainty about the future trajectory of technology in an industry, incumbent enterprises often acquire or partner with smaller enterprises that are developing new technology, thereby trying to exercise some control over the development of that technology.

Cisco Systems, the world’s largest manufacturer of Internet routers, is famous for doing this. Cisco has a long history of acquiring smaller enterprises that are developing technology that might possibly supersede Cisco’s own technology. If that technology subsequently turns out to be an improvement, Cisco is often the first to incorporate it. By making such acquisitions Cisco reduces the uncertainty associated with technological change.

More generally, firms use a variety of means to control their environments. They may acquire, merge with, or collaborate with competitors, thereby reducing the uncertainty associated with competitive rivalry. For example, the early 1990s saw considerable uncertainty over which technology would be used in DVDs. Rather than compete with each other by developing different and incompatible variations of DVD technology, leading consumer electronics firms formed an industry association known as the DVD Forum. Through the DVD Forum they established a common standard.

Similarly, to reduce uncertainty firms may acquire distributors, key suppliers, or important complementors to increase their control over them. To make sure there would be sufficientcompelling games to accompany its Xbox video game console (that is, to reduce the uncertainty associated with the supply of games) in 2000 Microsoft acquired an important complementor, Bungie Studios.

At the time Bungie was working on a science fiction game, Halo .After the acquisition Halo was developed exclusively for the Xbox, and the popularity of this game (and its successor, Halo 2 ) helped drive demand for the Xbox against its rival, the Sony PS2. Firms also enter cooperative ventures with distributors, suppliers, or complementors to exert similar control over the environment.


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