Notes –Business Environment-KMB-201

Unit-1

Meaning and definition of business

The word business simply means “The state of being busy“. It confines its study only to those
human activities in relation to exchange of goods and services for money.
The purpose of exchange of goods and services is to satisfy human wants. A number of authors
and authorities have attempted to define the term business in so many ways. However, all
definitions focus their attention on one particular aspect i.e., “satisfaction of human wants“.

According to F.C Hooper business means the whole complex field of commerce and industry,
the basic industries ,processing and manufacturing industries and the network of ancillary
services ,distribution ,banking ,insurance ,transport and so on which serve and interpenetrate the
world of business as a whole.

According to James Stephenson ,Every activity which is engaged in the sake of earning profit is
said to be a business.

Nature of Business

1. Sale, Transfer or Exchange of Goods and Services for Value

Business is concerned with sale, transfer / sale of goods and services for a value. Production
or purchase of goods or services for personal consumption is obviously outside the scope of
business because; there is no sale or transfer for value. Therefore, production or purchase for
one’s own consumption is not a business activity. On the other hand, if he produces for others it
is considered as a business activity.

2. Continuity of Dealings
The exchange of goods and services should be undertaken continuously. A casual transaction
does not constitute business. If a person sells his Television set and gains some profit thereon, it
does not constitute business. But if he regularly deals with T.V. sets, then such an act is treated
as business.

3. Profit Motive
Profit is the ultimate aim of any business. It may have other motives also. But if this motive is
absent, it is not a business activity at all.

4. Uncertainty and Risks

Profit for any business depends not only on the factors over which the businessman has control
but also on factors over which he has no control or less control. Thus, all activities of business
carry some element of risk and uncertainty in respect of business success.

Scope of Business
 Scope of Business
The Scope of “Business” is wider than that of the terms “Trade” and “Commerce“. The terms
trade and commerce are often used synonymously. This usage is not correct.
Trade is one of the branches of commerce. It is concerned with exchange of goods and services.
It performs the function of acting as an intermediary and thereby it transfers goods from the
producer to the consumer. On the other hand, commerce is a wider term. It includes “Trade” as
well as, Aids to trade i.e. the various activities which facilitate trade.
The term business may be classified into Industry and Trade and commerce. Industry is
referred to as production of goods and materials while Trade and commerce refers
to distribution of goods and materials manufactured. The image below gives a clear-cut
picture of the nature and scope of business.

Objectives of business

Business needs objectives, without objectives the business is like a car without headlights driving
blind. Objectives of business are the purpose for which the business is established and performed.
We can call objectives the cornerstone of every business.

Objectives are needed in every area where performance and results directly affect the survival and
prosperity of a business. The right choice of objectives is critical for the success of the business. The
objectives of a business can be classified into two main categories, which are

1. Economic objectives
2. Social objectives

Economic Objectives of Business

We learned in the previous topic that business is an economic activity. Hence, its purpose is to show
economic results. Let’s understand the economic objectives of the business. They are as follows:

1] Profit Earning

Business is a set of activities undertaken with the prospect of sale for the purpose of earning a profit.
Profit is the extra income over the expenses. The main objective of any business is to earn a profit.
Just as a plant cannot survive without water, similarly a business cannot sustain without profit.

Profit is necessary for growing and expanding business activities. Profit guarantee a consistent
stream of capital for the modernization and augmentation of business activities in the future. Profits
likewise show the scale of stability, efficiency, and advancement of the business organization.
2] Market Share / Creation of Customers

In the words of Ducker, “There is only one valid definition of business purpose; to create a
customer. “ Profits are not generated out of thin air. They are the result of the hard work of the
businessman to satisfy the needs of the customers.

In the long run, the survival of the business completely depends upon the market share captured by
the business. The creation of good and satisfaction of the needs of the customer is a crucial purpose
of the business. So to generate profit and demand, the business must supply premium quality and
give value for money products.

3] Innovation & Utilization of Resources

Innovation normally means to change processes or creating more effective processes, products and
ideas. Nowadays, business is ever-changing and dynamic. To keep up with the growing competition
a businessman has to introduce efficient design, latest trends, upgraded machinery, new techniques,
etc.

Large corporations invest a humongous amount of capital in their Research & Development
department to boost innovation. Whereas, on the parallel lines, utilization of resources is a proper
use of workforce, raw material, capital and technology used in the business. A business has limited
resources and that’s why its main objective is to put these resources to correct divisions.

4] Increasing Productivity

Productivity is a scale to measure the efficiency of the business activity. It is usually the last
objective but just as important because productivity is measured by the output given by the
activities. It is the end result of any business activity. Each business must go for more prominent
productivity – to guarantee its survival and development. This goal can be accomplished by
decreasing wastages and making proficient utilization of machines and supplies, HR, cash and so
forth.

Social Objectives of Business

According to Dayton Hudson “The business of business is serving society, not just making money.”
Business is one of the pillars on which the society stands. Therefore, it is a part of the society. In
fact, it cannot thrive without the resources from the society. The business earns its income from the
sale of products and services to the society. It is mandatory on the part of the business to take care of
the social factors. The necessary social objectives of a business are as follows:

1] Providing Goods & Services at Reasonable Prices

Business exists in the first place to satisfy the needs of the society. It’s the first and major social
objective of the business. Products and services ought to be of better quality and these ought to be
provided at sensible costs. It is additionally the social commitment of business to keep away from
misbehaviors like boarding, Black promoting and manipulative advertising.

2] Employment Generation

One of the major problem today’s generation facing is unemployment. Business generates
employment. Therefore, it is the social objective of a business to give chances to beneficial
employment to individuals of the society. In a nation like India, unemployment has turned into a
critical issue.

3] Fair Remuneration to Employees

The business does not run on its own but the people are responsible for the success and failure of the
business. The people on the inside of the business are more valuable i.e. employees. They are an
asset of the business and make a ground-breaking contribution to the business. They must be given
reasonable pay for their work.

Notwithstanding wages and salary, a significant piece of profits ought to be distributed among them
in acknowledgment of their commitments. Such sharing of benefits will expand the inspiration and
proficiency of employees.

4] Community Service

Business must give back something to the society. As a result, the Library, dispensary, educational
foundations and so on which a business can make and help in the advancement of society are
created. Business enterprises can build schools, colleges, libraries, hospitals, sports bodies and
research institutions. They can help non-government organizations (NGOs) like CRY, Help Age,
and others which render services to weaker sections of society.

Types of business organization

SOLE PROPRIETORSHIP

The sole proprietorship is the simplest business form under which one can operate a business.
The sole proprietorship is not a legal entity. It simply refers to a person who owns the business
and is personally responsible for its debts. A sole proprietorship can operate under the name of
its owner or it can do business under a fictitious name

The advantages of a sole proprietorship include:

1. Owners can establish a sole proprietorship instantly, easily and inexpensively.

2. Sole proprietorships carry little, if any, ongoing formalities.

3. A sole proprietor need not pay unemployment tax on himself or herself (although he or she
must pay unemployment tax on employees).

4. Owners may freely mix business or personal assets.

The disadvantages of a sole proprietorship include:

1.Owners are subject to unlimited personal liability for the debts, losses and liabilities of the
business.

2.Owners cannot raise capital by selling an interest in the business.

3.Sole proprietorships rarely survive the death or incapacity of their owners and so do not retain
value.

Partnership Firm
The proprietorship form of ownership suffers from certain limitations such as limited

resources, limited skill and unlimited liability. Expansion in business requires more

capital and managerial skills and also involves more risk. A proprietor finds him unable

to fulfill these requirements. This call for more persons come together, with different

edges and start business. For example, a person who lacks managerial skills but may have

capital.

Another person who is a good manager but may not have capital. When these persons

come together, pool their capital and skills and organise a business, it is called
partnership.

Advantages:

As an ownership form of business, partnership offers the following advantages:

1. Easy Formation:
Partnership is a contractual agreement between the partners to run an enterprise. Hence, it is

relatively ease to form. Legal formalities associated with formation are minimal. Though, the
registration of a partnership is desirable, but not obligatory.

2. More Capital Available:

We have just seen that sole proprietorship suffers from the limitation of limited funds.

Partnership overcomes this problem, to a great extent, because now there are more than one

person who provide funds to the enterprise. It also increases the borrowing capacity of the firm.

Moreover, the lending institutions also perceive less risk in granting credit to a partnership than

to a proprietorship because the risk of loss is spread over a number of partners rather than only
one. .

3. Combined Talent, Judgement and Skill:

As there are more than one owners in partnership, all the partners are involved in decision

making. Usually, partners are pooled from different specialised areas to complement each other.

For example, if there are three partners, one partner might be a specialist in production, another

in finance and the third in marketing. This gives the firm an advantage of collective expertise for

taking better decisions. Thus, the old maxim of “two heads being better than one” aptly applies
to partnership.

4. Diffusion of Risk:
You have just seen that the entire losses are borne by the sole proprietor only but in case of

partnership, the losses of the firm are shared by all the partners as per their agreed profit-sharing

ratios. Thus, the share of loss in case of each partner will be less than that in case of
proprietorship.
5. Flexibility:
Like proprietorship, the partnership business is also flexible. The partners can easily appreciate

and quickly react to the changing conditions. No giant business organisation can stifle so quick
and creative responses to new opportunities.

6. Tax Advantage:
Taxation rates applicable to partnership are lower than proprietorship and company forms of
business ownership.

Disadvantages:
In spite of above advantages, there are certain drawbacks also associated with the partnership
form of business organisation.

Descriptions of these drawbacks/ disadvantages are as follows:

1. Unlimited Liability:
In partnership firm, the liability of partners is unlimited. Just as in proprietorship, the partners’
personal assets may be at risk if the business cannot pay its debts.

2. Divided Authority:
Sometimes the earlier stated maxim of two heads better than one may turn into “too many cooks

spoil the broth.” Each partner can discharge his responsibilities in his concerned individual area.

But, in case of areas like policy formulation for the whole enterprise, there are chances for

conflicts between the partners. Disagreements between the partners over enterprise matters have
destroyed many a partnership.

3. Lack of Continuity:
Death or withdrawal of one partner causes the partnership to come to an end. So, there remains
uncertainty in continuity of partnership.
4. Risk of Implied Authority:
Each partner is an agent for the partnership business. Hence, the decisions made by him bind all

the partners. At times, an incompetent partner may lend the firm into difficulties by taking wrong

decisions. Risk involved in decisions taken by one partner is to be borne by other partners also.
Choosing a business partner is, therefore, much like choosing a marriage mate life partner.

Corporation

A corporation is a legal entity that is separate and distinct from its owners. Corporations
enjoy most of the rights and responsibilities that an individual possesses: enter contracts, loan
and borrow money, sue and be sued, hire employees, own assets and pay taxes. Some refer to
it as a "legal person."

Advantages of Corporations
 Owners have limited liability. The owners' assets are protected from the debts and
liabilities of the corporation. Shareholders are not held liable for business losses.
 Easier to raise capital. It is easier to attract capital with the sale of stocks and bonds. A
corporation can have an unlimited number of investors.
 Easy to transfer ownership. Shares of stock can be sold.
 Corporations have perpetual lifetimes. The entity continues to exist beyond the deaths of
the owners.
 Certain expenses are tax deductible. Owners can receive tax-free benefits such as
deductions for retirement plans and insurance.

Disadvantages of Corporations
 Double taxation of corporation profits. The corporation pays federal and state taxes on its
profits. When dividends are paid to shareholders, they are treated as income and taxed again.
 Forming a corporation costs more. Attorneys charge more to form a corporation.
 States have higher fees. States charge annual franchise fees for corporations.
 More state and federal regulations and oversight. Tax filings are more complicated for
corporations. States require the filing of Articles of Incorporation, corporate bylaws and
annual reports. Corporations must designate a board of directors and hold annual meetings.

Joint Stock Company

A joint stock company is an Association of individuals, called shareholders. Who join
together for profit and agree to supply capital divided into shares that are transferable for
carrying on a specific business.

Meaning of Business Environment

The definition of Business Environment, “The sum total of all individuals, institutions and other
forces that are outside the control of a business enterprise but the business still depends upon
them as they affect the overall performance and sustainability of the business.”

Important Characteristics of Business Environment

(1) Totality of External Forces:

Business environment is the sum totals of all those factors/forces which are available outside the

business and over which the business has no control. It is the group of many such forces that is
why, its nature is of totality.

(2) Specific and General Forces:

The forces present outside the business can be divided into two parts – specific and general.

(i)Specific
These forces affect the firms of an industry separately, e.g., customers, suppliers, competitive
firms, investors, etc.

(ii) General:
These forces affect all the firms of an industry equally, e.g., social, political, legal and technical
situations.

(3) Interrelatedness:

The different factors of business environment are co-related. For example, let us suppose that
there is a change in the import-export policy with the coming of a new government.
In this case, the coming of new government to power and change in the import-export policy are

political and economic changes respectively. Thus, a change in one factor affects the other
factor.

(4) Dynamic Nature:

As is clear that environment is a mixture of many factors and changes in some or the other
factors continue to take place. Therefore, it is said that business environment is dynamic

(5) Uncertainty:

Nothing can be said with any amount of certainty about the factors of the business environment

because they continue to change quickly. The professional people who determine the business
strategy take into consideration the likely changes beforehand.

But this is a risky job. For example, technical changes are very rapid. Nobody can anticipate the

possibility of these swift technical changes. Anything can happen, anytime. The same is the
situation of fashion.

(6) Complexity: Environment comprises of many factors. All these factors are related to each

other. Therefore, their individual effect on the business cannot be recognized. This is perhaps the

reason which makes it difficult for the business to face them.

(7) Relativity:

Business environment is related to the local conditions and this is the reason as to why the

business environment happens to be different in different countries and different even in the
same country at different places.

Significance of business environment

Business Environment presents threats as well as opportunities for any business. A good business
manager not only identifies and evaluates the environment but also reacts to these external forces.
The importance of the business environment can be neatly understood if we consider the following
facts:
1. Enables to Identify Business Opportunities

All changes are not negative. If understood and evaluated them, they can be the reason for the
success of a business. It is very necessary to identify a change and use it as a tool to solve the solve
the problems of the business or populous.

2. Helps in Tapping Useful Resources

Careful scanning of the Business Environment helps in tapping the useful resources required for the
business. It helps the firm to track these resources and convert them into goods and services.

3. Coping with Changes

The business must be aware of the ongoing changes in the business environment, whether it be
changes in customer requirements, emerging trends, new government policies, technological
changes. If the business is aware of these regular changes then it can bring about a response to deal
with those changes.For example, when the Android OS market was blooming and the customers
were preferring Android devices for its easy interface and apps, Nokia failed to cope with the
change by not implementing Android OS on Nokia devices. They failed to adapt and lost
tremendous market value.

4. Assistance in Planning

This is another aspect of the importance of the business environment. Planning purely means what
is to be done in the future. When the Business Environment presents a problem or an opportunity, it
is up to the business to decide what plan would it have to come up with in order to address the
future and solve the problem or utilise the opportunity. After analysing the changes presented, the
business can incorporate plans to counteract the changes for a secure future.

5. Helps in Improving Performance

Enterprises that are thoroughly scanning their environment not only deal with the changes presented
but also flourish with them. Adapting to the external forces help the business to improve the
performance and survive in the market.

Components of business environment

A. Internal environment

Internal environment includes all those factors which influence business and which are present

within the business itself. These factors are usually under the control of business. The study of
internal factors is really important for the study of internal environment. These factors are:

Value System:
The value system of an organisation means the ethical beliefs that guide the organisation in
achieving its mission and objective. The value system of a business organisation also determines
its behaviour towards its employees, customers and society at large. The value system of the
promoters of a business firm has an important bearing on the choice of business and the adoption
of business policies and practices. Due to its value system a business firm may refuse to produce
or distribute liquor for it may think morally wrong to promote the consumption of liquor.
The value system of a business organisation makes an important contribution to its success and
its prestige in the world of business. For instance, the value system of J.R.D. Tata, the founder of
Tata group of industries, was its self-imposed moral obligation to adopt morally just and fair
business policies and practices which promote the interests of consumers, employees,
shareholders and society at large. This value system of J.R.D. Tata was voluntarily incorporated
in the articles of association of TISCO, a premier Tata company.

Infosys Technologies which won the first national corporate governance award in 1999 attributes
its success to its high value system which guides its corporate culture. To quote one of its
reports, “our corporate culture is to achieve our objectives in environment of fairness, honesty,
transparency and courtesy towards our customers, employees, vendors and society at large” Thus
value system of a business firm has an important bearing on its corporate culture and determines
its behaviour towards its employees, shareholders and society as a whole.

Mission and Objectives:

The objective of all firms is assumed to be maximization of long-run profits. But mission is
different from this narrow objective of profit maximization. Mission is defined as the overall
purpose or reason for its existence which guides and influences its business decision and
economic activities.

The-choice of a business domain, direction of its development, choice of a business strategy and
policies are all guided by the overall mission of the company. For example, “to become a world-
class company and to achieve global dominance has been the mission of ‘Reliance Industries of
India’. Similarly “to become a research based international pharma company” has been stated as
mission of Ranbaxy Laboratories of India.

Organisation Structure:
Organisation structure means such things as composition of board of directors, the number of
independent directors, the extent of professional management and share -holding pattern. The
nature of organisational structure has a significant influence over decision making process in an
organisation. An efficient working of a business organisation requires that its organisation
structure should be conducive to quick decision making. Delays in decision making can cost a
good deal to a business firm.

The board of directors is the highest decision making body in a business organisation. It takes
general policy decisions regarding direction of growth of business of the firm and supervises its
overall functioning. Therefore, the managerial capability of the board of directors is of crucial
importance for the functioning of a business firm and for achievement of its overall mission and
objectives.

For efficient and transparent working of the board of directors in India it has been suggested that
the number of independent directors be increased. Many private corporate firms in India are
managed by family members of their promoters which is not conducive to the efficient working
of these firms.

Organizational Resources:
Quality of employees (i.e. human resources) of a firm is an important factor of internal
environment of a firm. The success of a business organisation depends to a great extent on the
skills, capabilities, attitudes and commitment of its employees. Employees differ with regard to
these characteristics.

It is difficult for the top management to deal directly with all the employees of the business firm.
Therefore, for efficient management of human resources, employees are divided into different
groups. The manager may pay little attention to the technical details of the job done by a group
and encourage group cooperation in the interests of a company. Due to the importance of human
resources for the success of a company these days there is a special course for managers how to
select and manage efficiently human resources of a company.

Corporate Image:
A firm should develop, maintain and enhance a good corporate image in the minds of employees,
investors, customers etc. Poor corporate image is a weakness of the firm.

Constant research and development activities should be undertaken by the firm to enhance the
quality of the brand. This helps in creating a corporate image and strengthens the standard of the
firm in the market.

Brand equity

Brand equity is a marketing term that describes a brand’s value. That value is determined by
consumer perception of and experiences with the brand. If people think highly of a brand, it has
positive brand equity. When a brand consistently under-delivers and disappoints to the point
where people recommend that others avoid it, it has negative brand equity.

Positive brand equity has value:

 Companies can charge more for a product with a great deal of brand equity.
 That equity can be transferred to line extensions – products related to the brand that include
the brand name – so a business can make more money from the brand.
 It can help boost a company’s stock price.

How Brand Equity Develops

Brand equity develops and grows as a result of a customer’s experiences with the brand. The
process typically involves that customer or consumer’s natural relationship with the brand that
unfolds following a predictable model:

 Awareness – The brand is introduced to its target audience – often with advertising – in a way
that gets it noticed.
 Recognition – Customers become familiar with the brand and recognize it in a store or
elsewhere.
 Trial – Now that they recognize the brand and know what it is or stands for, they try it.
 Preference – When the consumer has a good experience with the brand, it becomes the
preferred choice.
 Loyalty – After a series of good brand experiences, users not only recommend it to others, it
becomes the only one they will buy and use in that category. They think so highly of it that
any product associated with the brand benefits from its positive glow

External environment: External environment is bifurcated into:

(i) Micro Environment

(ii) Macro Environment

Micro Environment:

Microenvironment refers to the environment which is in direct contact with the business
organization and can affect the routine activities of business straight away. It is associated with a
small area in which the firm functions.
Microenvironment is a collection of all the forces that are close to the firm. These forces are very
particular for the said business only. They can influence the performance and day to day
operations of the company, but for a short term only. Its elements include suppliers,
competitors, marketing intermediaries, customers and the firm itself.

1. Competitors:
The competitive environment consists of certain basic things which every firm has to take note

of. No company, howsoever large it may be, enjoys monopoly. In the original business world a

company encounters various forms of competition. The most common competition which a
company’s product now faces is from differentiated products of other companies

For example, in the Colour Television Market, Philips TV faces competition from other

companies like Videocon, Onida, BPL and others. This type of competition is called brand
competition. It is found in all durable product markets.
The consumer wants to purchase a two-wheeler, the next question in his mind is with gear or

without gear, 100 cc or more than that, self starter or kick starter, etc. This type is otherwise
known as ‘Product form competition’.

Philip Kotler is of the opinion that the best way for a company to grasp the full range of its

competition is to take the viewpoint of a buyer. What does a buyer thinks about that which

eventually leads to purchasing something? So, tracing of the consumer mind set will help to
retain the market share for all the firms.

2. Customers:
According to Peter. F. Drucker, “There is only one valid definition of business purpose, that is to

create a customer.” The business enterprises aim to earn profit through serving the customer

demand. It now thinks more in terms of profitable sale rather than more sales volume for its sake.
Today marketing of a firm begins and also ends with the customers.

Now a days, a business firm to be successful, must find customers for its products. This is the

reason the customers thus constitute the most important element in the micro environment of
business. Products sales depend mainly on the degree of consumer satisfaction.

In fact, this is a reason that gives more importance to customer satisfaction surveys. Now every

business firm set-up systems to regularly watch customer attitude and customer satisfaction,

because today it is universally accepted that the satisfaction of customers is the base for

company’s success. Normally the customers are not in a same group, they are individuals,
business enterprises, institutions and government.

From the company’s point of view it is always better to have customer from various groups and
legions for that easily sustains demand for the company’s product.

3. Suppliers:
Regarding the suppliers, the organisation can think of availing the required material or labour

according to its manufacturing programme. It can adopt such a purchase policy which gives
bargaining power to the organisation.

According to Michael Porter, “the relationship between suppliers and the firm epitomises a

power equation between them. This equation is based on the industry conditions and the extent to
which each of them is dependent on the other.”

Suppliers are either individuals or business houses. They combined together; provide resources

that are needed by the company. Now the company necessarily should go for developing

specifications, searching for potential suppliers, identifying and analysing the suppliers and

thereafter choose those suppliers who offer best mix of quality, delivery reliability, credit,
warranties and obviously low cost.

The development in the supplier’s environment has a substantial impact on the operations of the

company. In recent trends companies can lower their supply cost and increase their product
quality.

4. Public:
Literally word ‘public’ refers to people in general. According to Philip Kotler, “A public is any

group that has an actual or potential interest in or impact on a company’s ability to achieve its

objectives.” The environmentalists, consumer protection groups, media persons and local people
are some of the well-known examples of publics.

The company has a duty to satisfy the people at large along with competitors and the consumers.

It is an exercise which has a larger impact on the well-being of the company for tomorrow s stay
and growth. Create goodwill among public, help to get a favourable response for a company.
Kotler in this regard has viewed that.

“Companies must put their primary energy into effectively managing their relationships with

their customers, distributors and suppliers. Their overall success will be affected by how other

publics in the society view their activity. Companies would be wise to spend time monitoring all
their public understanding their needs and opinions and dealing with then constructively.”

In the modern business public have assumed important role and their presence in the micro
environment of business.

5. Marketing Intermediaries:
Market intermediaries are either individuals or business houses who come to the aid of the

company in promoting, selling and distributing the goods to the ultimate consumers. They are

Middlemen (wholesalers, retailers and agents), distributing agencies, market service agencies

and financial institutions. Most of the companies find, it is too difficult to reach the consumers.
In such a cases the agents and distribution firms help to reach the product to the consumer.

Any type of intermediary the company must take into active consideration, the following aspects:

(i) The company has also to constantly review the performance of both middlemen and others

helping its efforts periodically. If necessary, it may take recourse to replacement of those who no
longer perform at the expected level.

(ii) Middlemen come into being to help overcome the discrepancies in quantities place, time,
assortment and possession that would otherwise exist in a given condition.

(iii) It is advantageous and also efficient to work through the established Marketing channels
instead of creating one and thus going for experiments.
 (iii) The manufacturer has to decide the most cost-effective method of

intermediaries to reach the product to consumer that will help to increase the
profit.

Macro Environment

Apart from micro-environment, business firms face large external environmental forces. The
external macro environment determines the opportunities for a firm to exploit for promoting its
business and also presents threats to it in the sense that it can put restrictions on the expansion of
business activities. The macro-environment has thus both positive and negative aspects.

An important fact about external macro-environmental forces is that they are uncontrollable by
the management of a firm. Because of the uncontrollable nature of macro forces a firm has to
adjust or adapt itself to these external forces.

External macro-environmental factors are classified into:

(1) Economic,

(2) Social & Cultural

(3) Technological,

(4) Political and legal,

(5) Demographic.

(6) Natural

1. Economic Environment:
Economic environment includes the type of economic system that exists in the economy, the
nature and structure of the economy, the phase of the business cycle (for example, the conditions
of boom or recession), the fiscal, monetary and financial policies of the Government, foreign
trade and foreign investment policies of the government. These economic policies of the
government present both the opportunities as well as the threats (i.e. restrictions) for the business
firms.
The type of the economic system, that is, socialist, capitalist or mixed provides institutional
framework within which business firm have to work. For example, before 1991, the Indian
economic system was of the type of a mixed economy with pronounced orientation towards the
public sector. Prior to 1991 private sector’s role in India’s mixed economy was greatly restricted.
Many industries were reserved exclusively for investment and production by the public sector.

Private sector operations were limited mainly to the consumer goods industries. Even in these
goods the private sector production and operation was controlled by industrial licensing system,
Monopolistic and Restrictive Trade Practices (MRTP) Commission. The private sector was also
subjected to various export and import-restrictions. High tariffs were imposed to protect
domestic industries and to pursue import substitution strategy of industrial growth.

Now, there have been significant changes in the economic policies since 1991 which have
changed the macroeconomic environment for private sector firms. Far-reaching structural
economic reforms were carried out by Dr. Manmohan singh during the period 1991-96 when he
was the Finance Minister. Industrial licensing has been abolished and private sector can now
invest and produce many industrial products without getting license from the government.

2. Social and Cultural Environment:

Members of a society wield important influence over business firms. People these days do not
accept the activities of business firms without question. Activities of business firms may harm
the physical environment and impose heavy social costs. Besides, business practices may violate
cultural ethos of a society. For example, advertisement by business firms may be nasty and hurt
the ethical sentiments of the people.

Businesses should consider the social implications of their decisions. This means that companies
must seriously consider the impact of its actions on the society. When a business firm in their
decision making take care of social interests, it is said to be socially responsible.

Social responsibility is the felt obligation or self-enforced duty of business firms to serve or
protect social interests. By doing so they promote social well-being. Good corporate governance
should be judged not only by the productivity and profits earned by a business firm but also by
its social-welfare promoting activities.

It is worth noting that in modern management science a new concept of social responsiveness
has been developed. By social responsiveness we mean “the ability of a corporate firm to relate
its operations and policies to social environment in way that are mutually beneficial to the
company and society at large”.

It may be noted that social responsibility or social responsiveness is related to ethics. The
discipline of ethics deals with what is good and bad, or right and wrong or with moral duty and
obligation. Further, even if managers enjoy full freedom to adopt actions and policies in
accordance with the conceived notion of social responsibility, they may not do so if standards
applied to evaluate their performance are quite different.

Every manager would like its performance to be positively appraised. Therefore, if the
performance of managers of business firms are judged by the amount of profits .they make for
the owners of the firms, it is then not proper to expect socially responsible actions from them.

3. Political and Legal Environment:

Businesses are closely related to the government. The political philosophy of the government
wields a great influence over business policies. For example, after independence under the
leadership of Jawahar Lal Nehru India adopted ‘democratic socialism as its goal.

In the economic sphere it implied that public sector was to play a vital role in India’s economic
development. Besides, it required that working of the private sector were to be controlled by a
suitable industrial policy of the government. In this political framework provide business firms
worked under various types of regulatory policies which sought to influence the directions in
which private business enterprises had to function.

Thus, Industrial Regulation Act 1951, Industrial Policy Resolution 1956, Foreign Exchange
Regulation Act (FERA), Monopolistic and Restrictive Practices (MRTP) Act were passed to
control the business activities of the private sector. Besides, role of foreign direct investment was
restricted to only few spheres.

However, since 1991 several structural economic reforms have been undertaken following a
change in political philosophy in favour of a free market economy. The collapse of socialism in
Soviet Russia, China and East European Countries has brought about a change in political
thinking about the roles of public and private sectors in India’s industrial development.

To encourage the growth of the private sector in India, licensing has now been abolished, role of
public sector greatly reduced and foreign capital, both direct and portfolio, is being encouraged
to raise the rate of capital formation in the Indian economy. FERA has been replaced by FEM A
(Foreign Exchange Management Act) It is evident from above that with the change in the nature
of political philosophy business environment for private firms has greatly changed.

4. Technological Environment:
The nature of technology used for production of goods and services is an important factor
responsible for the success of a business firm. Technology consists of the type of machines and
processes available for use by a firm and the way of doing things. The improvement in technol-
ogy raises total factor productivity of a firm and reduces unit cost of output.

The use of a superior technology by a firm gives it a competitive advantage over its rival firms.
The use of a particular technology by a firm for its transformation process determines its
competitive strength. In this age of globalisation the firms have to compete in the international
markets for sales of their products. The firms which use outdated technologies cannot compete
globally. Therefore, technological development plays a vital role in enhancing the competitive
strength of business firms.

It has been generally observed that the competition between firms in the domestic economy and
in international markets ensures that the firms will try to improve the technology they use
because failure to do so would pose a threat to their survival. In the protected markets,
technological improvements are slow and firms are able to survive for a long period without
making technological changes.

This is quite evident from the experience of automobile industry in India. Manufacturers of
Ambassadors and Fiat Cars not only made no significant changes in their models, but also did
not make any improvement in technology for decades because of absence of competition. The
users had no choice and Ambassador and Fiat cars survived for decades in the protected
environment.

It is when Maruti Udyog Ltd. was started in India using superior technology and introducing
more attractive models that there has been a significant improvement in car manufacturing. With
liberalisation of the Indian economy new car manufacturing firms have entered the industry and
are producing different verities and models of cars with improved technology.

Besides, the cotton textile industry is another important example of an industry which due to
protection provided to it by imposing high tariffs on imports of cotton textiles became sick.
Following trade liberalisation many cotton textile firms have closed down because they could not
withstand competition. Technological environment affects the success of firms and the need for
technological advancement cannot be ignored.

5. Demographic Environment:
Demographic environment includes the size and growth of population, life expectancy of the
people, rural-urban distribution of population, the technological skills and educational levels of
labour force. All these demographic features have an important bearing on the functioning of
business firms. Since new workers are recruited from outside the firm, demographic factors are
considered as parts of external environment.

The skills and ability of a firm’s workers determine to a large extent how well the organisation
can achieve its mission. The labour force in a country is always changing. This will cause
changes in the work force of a firm. The business firms have to adjust to the requirements of
their employees. They have also to adapt themselves to their child care services, labour welfare
programmes etc.

The demographic environment affects both the supply and demand sides of
business organisations. Firms obtain their working force from the outside labour force. The
technical and education skills of the workers of a firm are determined mostly by human
resources available in the economy which are a part of demographic environment.
On the other hand, the size of population and its rural-urban distribution determine the demand
for the products of industrial firms. For example, when there is good monsoon in India causing
increase in incomes of rural population dependent on agriculture, demand for industrial products
greatly increases.

In the wake of economic reforms initiated in the early nineties when foreign investors were al-
lowed to make investment in India, they were prompted to invest in India by pointing out that the
size of Indian market was quite large. They were told that 200 million Indian people could afford
to buy the industrial products and this constituted quite a large market which could be profitably
exploited.

Besides, the growth rate of population and age composition of population determine the demand
pattern of goods. When the population of a country is growing at a high rate, its child population
will be relatively large. This means demand for products such as baby food which cater to the
needs of children will be relatively high.
On the other hand, if population of a country is stable and life expectancy of the people is high,
this will cause greater proportion of elderly aged people in the population of a country. This
means different demand pattern of goods. Thus business firms have to consider all these
demographic factors in their planning for production of goods and services and formulation of
marketing strategies for sale of their products.

Demographic environment is also important for business firms as it determines the choice of
technology by them. Other things being equal, if labour is abundant and relatively cheaper than
capital, business firms will prefer relatively labour-intensive techniques for production of goods.
However, for various reasons such as rigid labour laws and low productivity of labour, various
tax concessions on investment in capital equipment and machinery, business firms in India are
generally seem to be using capital-intensive technologies imported from abroad. This has
resulted in the increase in unemployment of labour, especially among the young workers.

Therefore, social and government pressure is increasing on the business firms to create more
employment opportunities for labour so as to render help in solving the problem of
unemployment. It is quite interesting to note here that to take advantages of relatively cheap
labour in India and China that foreign MNCs are setting up manufacturing plants in these
countries. It is evident from above that demographic factors play a crucial role in determining the
productive activity of business firms.

Natural Environment:
Natural environment is the ultimate source of many inputs such as raw materials, energy which
business firms use in their productive activity. In fact, availability of natural resources in a region
or country is a basic factor in determining business activity in it. Natural environment which
includes geographical and ecological factors such as minerals and oil reserves, water and forest
resources, weather and climatic conditions, port facilities are all highly significant for various
business activities.

For example, the availability of minerals such as iron, coal etc. in a region influence the location
of certain industries in that region. Thus, the industries with high material contents tend to be
located near the raw material sources. For example, steel producing industrial units are set up
near coal mines to save cost of transporting coal to distant locations.
Besides, certain weather and climatic conditions also affect the location of certain business units.
For example, in India the firms producing cotton textiles are mostly located in Bombay, Madras,
and West Bengal where weather and climatic conditions are conducive to the production of
cotton textiles.

Natural environment also affects the demand for goods. For example, in regions where there is
high temperature in summer there is a good deal of demand for dessert coolers, air conditioners,
business firms set up industrial units producing these products. Similarly, weather and climatic
conditions influence the demand pattern for clothing, building materials for housing etc.
Furthermore, weather and climatic conditions require changes in design of products, the type of
packaging and storage facilities.

It may however be noted that resource availability is not a sufficient condition for the growth of
production and business activities. For instance, India through rich in natural resources remained
poor and underdeveloped because available resources had not been put to use due to lack of
adequate capabilities of Indian business class. Thus, it is not the availability of natural resources
alone but also the technology and ability to being them into use that determines the growth of
business and the economy

Difference between micro and macro environment

BASIS FOR MICRO

MACRO ENVIRONMENT
COMPARISON ENVIRONMENT

Meaning Micro environment is Macro environment refers to

defined as the nearby the general environment, that
environment, under which can affect the working of all
the firm operates. business enterprises.

Elements COSMIC, i.e. Competitors, PESTLE, i.e. Population &

Organization itself, Demographic, Economic,
Suppliers, Market, Socio-Cultural, Technological,
Intermediaries and Legal & Political and
Customers. Environmental.

Nature of Specific General

 BASIS FOR MICRO
MACRO ENVIRONMENT
COMPARISON ENVIRONMENT

elements

Are these factors Yes No

controllable?

Influence Directly and Regularly Indirectly and Distantly