G11 Applied Economics

Lesson 3: Industry and Environment Analysis:

Presented by: Leonides B. Suing

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Introduction
There are 4 perspectives in the motivation of
businesses to earn a profit:
Economic Analysis
Porter’s Five Forces Analysis
Environmental Scanning
SWOT Analysis

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Economic Analysis of Profit Maximization
Market Concentration
Refers to the number of sellers and buyers in the market
The more concentrated the market means the lesser
producers are there in the industry
Monopoly: one seller (most concentrated with huge
market power)
Oligopoly: few sellers (lesser degree of market
concentration but with significant market power)
Perfect Competition: many sellers (diluted market
concentration with no market power)

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Economic Analysis of Profit Maximization
Barriers to Entry
Refers to inherent features of the industry and various
means devised in the market to prevent the entry of
potential players and competitors
Scale barriers: requirements for large production plants
for a feasible operation in the industry (huge amounts of
capital and resources)
Legal Barriers: proprietary rights and their
corresponding legal protection extended to existing
market players in the production and distribution of a
product or service

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Economic Analysis of Profit Maximization
Barriers to Entry (cont.)
Monopoly: scale and legal barriers; government barriers
Oligopoly and Monopolistic Competition: some scale
barriers or contestable market
Perfect competition: no barrier to entry

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Economic Analysis of Profit Maximization
Product Differentiation
Refers to the ability of a business firm to create a market
niche through several means of varying its products and
services
Monopoly: highly differentiated product
Oligopoly and Monopolistic Competition: some degree
of product differentiation
Perfect Competition: homogenous good

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Economic Analysis of Profit Maximization
Limited Information
Refers to the unevenness in the distribution of
information among actors in the market
When market actors are not evenly informed, those with
more information can have market power
Monopoly: very limited information
Oligopoly and Monopolistic Competition: limited
information
Perfect Competition: perfect information

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Economic Analysis of Profit Maximization
Market Power
Monopoly: high market power
Oligopoly and Monopolistic Competition: limited
market power
Perfect Competition: no market power
See table 3.1 for a summary of what we discussed

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Porter’s Five Forces of Competitive Position
Developed by Michael Porter (1979) as an alternative
perspective on profitability analysis and on the
attractiveness of an industry for business ventures
The stronger the forces of competition bearing on the
industry, the lower its profitability and the less
attractive the industry for business enterprises
See figure 3.2

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Porter’s Five Forces of Competitive Position
Competition Among Existing Firms in the Industry
Monopoly: absence of competition (high profit)
Oligopoly: forces of competition depends on the
behavior and interactions of few firms in the industry
 Cooperate: forces of competition are mitigated (high profit)
 Independent actions: strong competition (low profit)

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Porter’s Five Forces of Competitive Position
Competition Among Existing Firms in the Industry
(cont.)
Monopolistic Competition: ability to differentiate
products can temper the forces of competition; but there
are many sellers, so heightened competition
(moderate/low profit)
Perfect Competition: very intense competition (very low
profit)

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Porter’s Five Forces of Competitive Position
Bargaining Power of Customers
Utility maximizing buyers prefer lower price to enhance
their level of satisfaction
Monopsony: sole buyer has huge bargaining power on
the sellers in the industry
In order to free the dependence of a business enterprise
and the industry on a single or relatively few buyers:
 Diversification: diversify the buyers of the product
 Differentiated Products: divide its product lines

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Porter’s Five Forces of Competitive Position
Bargaining Power of Suppliers
If an industry sources its raw materials from a single or
few suppliers, these suppliers can have strong forces in
the industry that may lower the industry’s profitability
In order to weaken the bargaining power of suppliers,
the industry can adjust by:
 Diversifying its sources of raw materials
 Form a subsidiary firm

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Porter’s Five Forces of Competitive Position
Bargaining Power of Suppliers (cont.)
Suppliers of factor inputs can exert bargaining power on
the business enterprise and on the industry (labor
unions)
In order to weaken the bargaining power of labor
unions, the industry can adjust by:
 Subcontracting through a number of manpower services firms
In weakening the market power of the suppliers of
capital, many large companies integrate banks in their
conglomerate, thus bargaining power is diminished

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Porter’s Five Forces of Competitive Position
Threats of Potential Entrants
Scale and legal barriers can reduce the competitive
forces, but what if potential entrants have resources to
overcome barriers
How to deal with these potential entrants:
 Engage in research and development to improve their
products and to segment the market through product
differentiation
 For firms with excess capacity, allow the potential competitors

to enter then expand production and lower the price

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Porter’s Five Forces of Competitive Position
Threats of Substitute Goods
Usually industries that exhibit high rate of profitability
are the ones challenged by the emergence of substitute
goods
Cross elasticity of demand: responsiveness of the
demand for a substitute good due to a change in the
price of the product produced in the industry
As the differentiation from the substitute goods widens
and the cross elasticity of demand declines, the
competitive force of substitute goods is mitigated

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Environmental Scanning in Industry Analysis
There is a need to also consider the indirect impacts of
factors and forces that were not considered in the
previous two analyses
See figure 3.3

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Environmental Scanning in Industry Analysis
National Economy
A rapidly growing economy will have positive effects
A lethargic economy will have negative effects
Global Economy
Crises in other countries can affect the national
economy in a bad way

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Environmental Scanning in Industry Analysis
Government Policies and Regulation
Can be beneficial to businesses when it promotes
economic growth and employment
But can be unfavorable to businesses when dealing with
regulations and taxes
Technological Developments
Have intensified competition within the industry
Companies that are slow to adapt or fail to adapt to
these rapid developments are bound to exit from the
industry

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Environmental Scanning in Industry Analysis
Demographic Changes
Population is the market base for industries and changes
in the structure of the population has an impact on
businesses
People are also the source of firms’ laborers, professional
and technical expertise, savers, investors and
entrpreneurs

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Environmental Scanning in Industry Analysis
Social Changes
Modifications in family structure and other social
changes have an impact on consumer behavior and
tastes
Changes in the Natural Environment
Extreme fluctuations in the natural environment can
have adverse effects on the production of certain sectors
and may even temporarily impair the purchasing power
of some consumers

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SWOT Analysis
Strengths, Weaknesses, Opportunities and Threats
Focuses on strengths and opportunities that can
enhance the profitability of an industry as a measure
of benefit
Identifies the weaknesses and threats that may
contribute in increasing the costs of the industry that
make it less attractive for business ventures
See figure 3.4

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SWOT Analysis
Strengths
Internal characteristics of firms or industry that can
contribute directly to the profitability of firms and the
industry
Weaknesses
Internal characteristics of firms or industry that mitigate
the profitability of firms and the industry

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SWOT Analysis
Opportunities
Positive impacts of various external environments on
the profitability of an industry
Unlike strengths, these are only potential, indirect and
prospective (firms have no direct control)
Threats
Undesirable impacts of external factors on the
profitability of the industry
Unlike weaknesses, these are only potential, indirect and
prospective (firms have no direct control)

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SWOT Analysis
SWOT Analysis and the Business Climate
The business climate is shaped by the interactions
between various sets of internal factors and external
factors manifesting as SWOT
Macroeconomic policies are government actions meant
to stabilize and promote economic growth
Government regulations are a set of rules meant to
address market distortions to promote public welfare
Institutional support refers to government assistance
that can make a favorable business climate

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SWOT Analysis
Business Opportunities in Various Economic Sectors:
Agricultural Sector and Agribusiness
Industrial Sector and Manufacturing Industries
Services Sector and Retail Services

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Synthesis
There are several perspectives that can be used in analyzing
the firm’s profitability and identifying business
opportunities (profit maximization, Porter’s five competitive
forces, environmental scanning and SWOT analysis)
There are limitations in each perspective
There are three major sectors of the Philippine economy:
agriculture, industry and services
There are numerous industries in each economic sector that
potential entrepreneurs can pursue
The perspectives discussed can give insights on what
business opportunities have promise for implementation

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