Describe the Benefits and Limitations of the Models Used to Analyse the Internal and External Environment of the Firm.

For a business to function it needs to have a competitive advantage, that is it needs to be more attractive than its competitors in some way to sway consumers. Porter (1985 pp2) succinctly suggests that…

“If your product is not cheaper than anyone else’s or doesn’t serve me better or more conveniently than anyone else’s, why on earth should I use them?”

A business entity needs to develop strategies to enable them to keen this competitive edge down to its sharpest point. This can be summarised as an entities strategic intent, the way in which it will apply its internal assets, both tangible and intangible, to its external environment. The first stage, and indeed an ongoing process for successful business entities in developing these strategies, is the careful evaluation of both the internal and external environment. This ‘strategic audit’ is carried out in such a way as to distil a large amount of complex data and variables into a theoretical framework which allows managers to apply certain normative statements or conditions to them. The Theoretical Framework is broken down into Internal and External models, (and SWOT which examines both.) There are many different models, but some have become generic to strategy formation and are widely applied. For the internal environment there are; the BCG Matrix, Value Chain and the Strengths and Weaknesses section of SWOT analysis. For the External Environment there is PEST, Porter’s 5 Forces and the Opportunities and Threats section of SWOT analysis. Whilst these provide a useful and readily comparable framework, each of the models makes assumptions about the nature of the environment and the nature of the interdependency of the factors (Kotler 1980), and for any strategic choice to be made from this framework requires the manager to fully understand the weaknesses in the models. Narayana (1986) suggests that the validity of strategic models is always questionable as the relationships between all the factors are so complex and interrelated. However, entities which carryout such strategy formation and reformation tend to succeed over those who do not (Business Link, 2007). Therefore it is important for managers to conduct such a strategic audit, but at the same time to be aware of the limitations of the models used to develop an effective roadmap to success.

In examining the internal environment, managers have to look closely at the products and the organisation in order to define the strategic intent. In many ways it is a very difficult task, as there are many and varied type of product or organisation and infinite combinations. The internal environment, unlike the external environment, is unique to the organisation, no other organisation will ‘do it’ in the same way, even though the are very similar; such as Burger King and McDonalds, who have after many years of emulation of each other, have now taken different strategic directions for the 21st century. Yet there are distinct similarities in the functions of business entities, and as such many of these key functions can be modelled in the same way. The BCG Matrix (see appendix A for a BCG Matrix for both Burger King and McDonalds) attempts to place the products or SBU’s into a grid which plots their market share and the market growth, both of which are tangible measurements.

Dependant on which position the product occupies, a strategic decision is given, in the case of dogs, to discontinue, in the case of question marks to make a value judgments about the future. In effect the BCG matrix can be used to decide how much resource to allocate to a project. However, it has severe limitations if used alone. Market share and market growth should not be used as a decision tool as there are many factors which contribute to overall value. Products and services exist in a dynamic environment and many share synergistic properties within organisations and markets (Drummond and Esnor, 2004), for example computer hardware and software. Perhaps the most dangerous assumption the matrix makes is that consumption is the most important measure of a products value, rather than the net discounted cash flows attributable to the product over its lifecycle (Hill, 2006) However, despite these limitations it is a useful way to distil and present data on products for managers to make a first level decision and especially useful as a health check for the portfolio of products an entity may offer.

Products are the mainstay of the internal environment; indeed one could argue that the entire apparatus of the entity exists to produce the product. As such, each area of the entity should be as efficient as possible in the way it adds value to the product. The Value chain is another theoretical model which allows managers to do just this.

Taken in its entirety it is a way to allocate both costs and value added from a product to each separate