Managers and the External Environment

On pages 54-63 of Management, Ninth Canadian edition, the concept of the "environment of management" is introduced. The general environment (domestic and global economic conditions, political-legal conditions, socio-cultural conditions, demographics, and technology) and the specific environment (customers, suppliers, competitors, and public pressure groups) are explained. Managers must think carefully about how these environmental factors will affect the organization they are working for because environmental factors present both challenges and opportunities. Some current examples will demonstrate the importance of the external environment.

One factor in the general environment is political-legal conditions. Lloyd's of London is a famous insurance company that is one of the world's largest underwriters of terrorism insurance. In a speech in Toronto in November 2007, a Lloyd's spokesman warned his audience about terrorism and political risk, saying that it is a threat not simply to governments, but also to businesses. The global economy means that Canadian businesses are operating in some dangerous places and their assets are difficult to protect. In a typical year, there are 150-200 incidents of terrorism against businesses worldwide. The most at-risk businesses in Canada are hydro and nuclear plants and oil pipelines.

In the specific environment, pressure groups are important in influencing managers' decisions. For example, in 2007, Greenpeace—a well-known environmental pressure group—launched a media campaign against AbitibiBowater Inc., a large Canadian forest products company. As part of the campaign, Greenpeace put up a banner at the company's head office that read "Looters of our Forest." In the Netherlands in October 2007, Greenpeace activists blocked the unloading of a ship containing newsprint made by AbitibiBowater. Greenpeace has also pressured the company to adopt forest management guidelines set by the Forest Stewardship Council (FSC) rather than the Canadian Standards Association (CSA) guidelines that the company has been using. The campaign is having an effect, since FSC has more global credibility with environmental groups than CSA does.

But FSC has problems of its own. Its standards vary from one region of the world to the next, and FSC has admitted that some of the companies using its logo are not using sustainable forestry practices. Even some environmentalists are unhappy with FSC. They claim that one company in Southeast Asia that has permission to use the FSC logo has destroyed a large section of Indonesian rainforest and threatened the habitat of orangutans. After these claims were publicized, FSC rescinded the company's certification. The forestry practices of Canadian companies like AbitibiBowater—which are quite good generally—may actually be superior to those of a foreign company that is FSC-certified. These complexities and uncertainties make it difficult for managers in forestry companies to identify the optimal decision in a given situation.

These examples demonstrate that the external environment is complicated. But that's not all. Managers must also recognize that "the environment" is not limited to the factors in the specific and general environments. Another very important "environment" for many business firms is the physical environment. The most highly publicized physical environment issue at the moment is global warming. Here, too, there are many complexities and uncertainties. While there is a consensus that global warming is occurring, there is escalating debate about what is causing it. Many scientists are convinced that global warming is the result of human activity, specifically the emission of so-called "greenhouse gases." The United Nations Intergovernmental Panel on Climate Change (IPCC) has taken the position that greenhouse gases are the cause of global warming. But many other scientists disagree, arguing that the UN is using unreliable data and is exaggerating the amount of warming that has occurred. These dissenting scientists include editors of scientific journals, directors of centres for climate research, and professors of climatology, wildlife biology, marine geophysics, geology, mathematics, atmospheric science, computer modelling, physical geography, chemistry, and meteorology. They argue that climate variability is a natural phenomenon, and that it has affected humanity throughout recorded history. Further, they argue that we need to equip people to deal with climate change, not introduce programs to reduce greenhouse gases without good evidence that they are really the culprit. With regard to the physical environment, if managers are going to do their job effectively, they must sort out what is fact and what is opinion in the debate about the causes of global warming. This is particularly true since global warming presents both challenges and opportunities.

Challenges. Global warming presents many challenges to managers. Consider the forestry industry. If climate predictions are accurate, B.C.'s forestry companies will be significantly affected by global warming because different species of trees thrive at different latitudes. The predicted temperature change will mean that a tree that does well today in Prince George will grow best north of the Yukon border in 80 years. Whitebark pine, for example, will almost disappear from its current range. Lodgepole pine, white spruce, sitka spruce, and western hemlock will all decrease in importance over the next 80 years. By contrast, ponderosa pine will triple, and Douglas fir and western red cedar will both increase substantially. These are dramatic changes that forestry managers will have to take into account, particularly since they have such a long planning horizon.

Global warming also means that new tree diseases will have to be dealt with. Whitebark pine, for example, can't fend off insects and fungus that exist in a warmer climate. Tree companies are now conducting tests to determine if the tree can be planted much further north to reduce the threat from insects. The most significant tree disease at the moment is the mountain pine beetle, which has killed millions of acres of trees in B.C. The warming climate has allowed the beetle population to explode, and the infestation threatens to destroy jobs, communities, and companies that are dependent on forestry. By 2013, as much as 80 percent of the lodgepole pine will be dead as a result of the beetles' boring activity. What's worse, the infestation is spreading into neighbouring Alberta.

The problems caused by the pine mountain beetle are not restricted to the forestry industry. For example, the Eagle Point golf course just outside Kamloops had to cut down 15,000 trees that were killed by the beetles. One bright spot is that tree cutting services are doing a brisk business. Eldorado Enterprises, for example, has 30 trucks and 100 employees to handle tree-cutting activities.

A dispute is shaping up about how to deal with the beetle infestation. Lumber companies want to cut vast swaths of dead pine because pine still has some market value. Environmentalists oppose such massive cutting. Some even argue that nothing at all should be done and that nature should be allowed to take its natural course. They accept that the pine beetle may eventually destroy 30 percent of Alberta's pines, but they say that's better than having logging companies cut 100 percent of them. Homeowners in areas that are infested have their own agenda: they know that if dead pine trees are not cut, an increased fire risk will develop which will threaten their homes. All of these conflicting views have created a significant challenge for managers in the forestry business.

Opportunities. Global warming may also provide opportunities for some Canadian businesses. Consider the wine industry. The highest quality grapes historically have been grown in France, Spain, Australia, and California, where the climate was just right for them. With global warming, excessive heat is beginning to be a problem in these areas. Global warming means that grapes can now be grown further and further north. In Tappen, B.C., for example, Gary Kennedy is experimenting with growing Pinot Noir grapes at a latitude where they formerly could not have survived. Grapes of this variety can survive winter temperatures down to about minus 20 degrees Celsius. Fifty years ago, it was not uncommon for temperatures to drop that low in the Okanagan Valley; but during the last decade, temperatures almost never reached that point. This has opened up a whole new geographical area for growing high-quality grapes, and the number of B.C. wineries has increased from 17 in 1990 to 136 in 2007. Wines made in this region are starting to win gold medals at European wine competitions.

The brief examples described above indicate that the general, specific, and physical environments present immense complexities and uncertainties to business managers. Yet these environmental factors simply cannot be ignored because they have such a big effect on businesses. Managers must, therefore, expend considerable time in planning how they are going to cope with the challenges and capitalize on the opportunities that are presented by the external environment.

Questions for Discussion

  1. Describe in general terms how each element of the general environment (economic, technological, socio-cultural, political-legal, global, and demographics) affects business firms. Then do the same for each element in the specific environment.
  2. Choose a specific industry (for example, automobile, fashion, construction, fast food, etc.) and describe how each element of the general environment is likely to affect firms in that industry. Then do the same for each element in the specific environment.
  3. Can managers in business firms control the elements in the general and specific environment, or do they simply have to react to changes that are beyond their control? Give examples that support your conclusion.
  4. Michael Porter's model of five competitive forces is described on pages 206-211 of the text. Explain how the factors in Porter's model—threat of new entrants, threat of substitutes, bargaining power of buyers, bargaining power of suppliers, and current rivalry—relate to the other environmental elements discussed in Chapter 2 of the text.

Sources: "Don't Fight, Adapt," National Post, December 13, 2007, p. FP15; Ross McKitrick, "Contaminated Data," National Post, December 5, 2007, p. FP19; Diane Francis, "Be Very Afraid, Lloyd's Warns Us," National Post, November 29, 2007,; Konrad Yakabuski, "Greenpeace Swinging Its Axe in the Wrong Forest," Globe and Mail, November 15, 2007, p. B2; Tom Wright and Jim Carlton, "FSC's Green Label for Wood Product Gets Growing Pains," Wall Street Journal, October 30, 2007, pp. B1-B2; Douglas Belkin, "Northern Vintage: Canada's Wines Rise With Mercury," Wall Street Journal, October 15, 2007, pp. A1, A20; George Koch, "Careful With That Axe," Canadian Business, October 2007, pp. 44-51; Nathan VanderKlippe, "Forest for the Trees," National Post, September 15, 2007, p. FP3; Barry McKenna, "Global Warming a Farmer's Bane?," Globe and Mail, September 12, 2007, p. B3; Sean Silcoff, "Canada's Money Trees," National Post, September 8, 2007, pp. FP1, FP5; Wendy Stueck, "The Mighty Are Falling," Globe and Mail, September 1, 2007, pp. B4-B5; Kathryn Young, "Organic Wine: It's a Money Thing," National Post, September 1, 2007, p. FP3.

Answers to Questions for Discussion

  1. Describe in general terms how each element of the general environment (economic, technological, socio-cultural, political-legal, global, and demographics) affects business firms. Then do the same for each element in the specific environment.

    The economic element (page 58) has perhaps the most obvious impact on managers through the effect of the business cycle. During periods of economic growth, many new businesses come into existence and existing businesses prosper. During periods of recession, however, business failures increase and it becomes more difficult for businesses to be profitable. The economic conditions discussed on page 58 of the text are evidence of economic expansion or contraction.

    The technological element may not have an obvious impact on a given business at any one time, but a new technological development may suddenly present opportunities for some firms (and individuals) and threaten the survival of others. There are countless examples of this. In the late 1920s, for example, the advent of talking movies meant that piano players who provided appropriate background music in movie houses were no longer needed. More recently, developments in computer technology meant that Microsoft could introduce Encarta (an encyclopedia) which caused the sales of long-time leader Encyclopaedia Britannica to drop sharply. Students should be encouraged to come up with other examples, since this will increase their understanding of this important environmental element.

    The socio-cultural element of the external environment may be the most interesting to students because they are very sensitive to issues like consumer preferences and tastes, as well as the concept of business ethics. This element of the external environment also has a big effect on business firms and the managers who run them. It is probably most effective to ask students to come up with examples of changes in consumer preferences. Once they begin thinking about, say, the power of peer pressure in determining what is fashionable (particularly in products like clothing and electronic products like MP3 players, digital cameras, and cell phones), they will be able to see how changes in consumer preferences can have a big impact on business firms. It is important to emphasize that these rapid changes present both opportunities and challenges. The issue of business ethics should also be pursued, and the point made that poor ethical practices can threaten the survival of a business (for example, Arthur Andersen).

    The political-legal element of the external environment deals with both the relationship between business and government within a country and political differences among countries that may cause problems for business firms. With regard to the former, government legislation, for example, can have a very large impact on business firms (for example, cigarette companies). With regard to political differences among countries, various issues—terrorism, political instability in oil-rich countries, corruption, and differences in political ideologies in various countries—inhibit business activity.

    The global element of the external environment focuses on the opportunities and challenges that Canadian business firms face when operating internationally. Tell students that Chapter 3 contains many examples of Canadian business firms that have experienced successes (and failures) in the global environment, and the factors that led to those successes or failures.

    Demographics like age, education, gender, etc. have a profound effect on managers because demographics influence the products and services that managers must provide to customers. For example, in countries with "old" populations (those where a large proportion of the population are past middle age), products and services like retirement planning, health care, and anti-aging products are very much in demand. By contrast, in "young" populations (those where a large proportion of the population are younger than middle age), a very different set of consumer products are in demand.

  2. Choose a specific industry (for example, automobile, fashion, construction, fast food, etc.) and describe how each element of the general environment is likely to affect firms in that industry. Then do the same for each element in the specific environment.

    Student answers will vary widely here, but whatever industry they choose, they should systematically examine the impact of each element in the general environment. For example, if they choose the automobile industry, they should note that the economic environment has a big impact on new car sales because cars are big-ticket items. They could also note some less obvious facts (for example, during a downturn in the business cycle, new car sales decline, but car repair shops should do well because people will keep their old cars longer and those vehicles will need repairs). Comments about the other elements of the environment should follow along the same lines. In the automobile industry, the following points could be made about the various environments: the political-legal environment (government legislation on emissions), the technological environment (development of hybrid cars and the attempt to develop the hydrogen fuel cell), the socio-cultural environment (changes in preferences for car styles away from SUVs and toward smaller cars), and the global environment (increased competition from foreign car makers).

    The elements in the general environment will affect most firms in a given industry in a similar fashion; but for the elements in the specific environment (customers, suppliers, competitors, and pressure groups), each firm will likely face a unique situation. For example, in the fast food industry, McDonald's has received more criticism from environmentalists than Burger King has. In the sports equipment industry, Nike has received more negative publicity regarding its employment practices than its competitors have.

  3. Can managers in business firms control the elements in the general and specific environment, or do they simply have to react to changes that are beyond their control? Give examples that support your conclusion.

    Some students will take the position that business firms heavily influence their external environment because of their expertise, their power, and their control over resources (this is similar to the "omnipotent view" described on page 42 of the text). Students who hold this view will say things like "business firms manipulate consumers into buying what the company wants to produce, not what the customer really wants." Other students will take the position that business firms are at the mercy of the external environment because no one firm has enough power to force anyone to do anything (this is similar to the "symbolic view" described on pages 42-43 of the text). Students who hold this view will say things like "in a democratic society where consumers have freedom of choice, businesses have no alternative but to produce what consumers want." Both of these viewpoints have some merit, but a broader and more balanced view is that in some cases businesses can strongly influence the external environment, and in other cases they cannot (this is similar to the synthesis described on pages 43-44 of the text).

    This question provides an opportunity for a wide-ranging discussion on the power and role of managers in Canadian society. There are numerous examples that can be used to demonstrate the broader, more balanced point of view. For example, it is quite clear that managers cannot control the business cycle, but instead have to adapt to it. Indeed, recent events have shown that even strong actions by the federal governments of Canada and the U.S. may not control the business cycle. On the other hand, managers should not sit back and do nothing about environmental elements; instead, they should actively research what is going on and act accordingly. For example, companies that devote resources to R & D and to the assessment of consumer preferences through market research are likely to cope much more effectively with environmental changes than companies that do not do these things. Ask students to come up with examples demonstrating this point. If they have trouble doing so, start the discussion by using the example of Levi's Jeans. For many years, the company was very successful in identifying consumer preferences and introducing new products to satisfy those preferences. But in the 1990s, the company faltered and failed to introduce many new products. More recently, the company got back on track with the introduction of Superlow jeans for women, which have been very well received by consumers.

    The goal of the wide-ranging discussion envisioned here is increased understanding by students that the interaction between managers and the environment is very complex. The notion that managers are either helpless or all-powerful in relation to the environment does not capture the reality of modern management. The goal of the discussion is to develop reasonable expectations on the part of students about what managers can and cannot do. When students become managers after they leave school, they should have more satisfying and successful careers if they have reasonable expectations.

  4. Michael Porter's model of five competitive forces is described on pages 206-211 of the text. Explain how the factors in Porter's model—threat of new entrants, threat of substitutes, bargaining power of buyers, bargaining power of suppliers, and current rivalry—relate to the general and specific environments discussed in Chapter 2 of the text.

    Porter's model (the Five Forces model) helps managers analyze the factors that influence business firms in a specific industry. Because the elements in Porter's model focus on industry competitiveness, they relate more to the specific environment than they do to the general environment. Having said that, students must also realize that the other more general environmental factors will continue to have an effect on all companies in all industries. For example, even if a given company deals effectively with the factors in Porter's model for its own industry, that company will not be insulated from a general economic downturn, or from changes in consumer preferences, changes in government legislation, or the introduction of new technologies.