KPR COLLEGE OF ARTS SCIENCE AND RESEARCH

BASICS OF BUSINESS AND BUSINESS ENVIRONMENT

UNIT IV
BUSINESS ENVIRONMENT AND ANALYSIS
BUSINESS ENVIRONMENT
A business environment is a combination of internal and external factors and forces
that significantly influence the operations of a business.
A business environment is a set of elements closely involved with a business’
activities. These factors have an internal or external influence over the company’s results,
performance and growth.
CHARACTERISTICS OF BUSINESS ENVIRONMENT
1. Totality of External Forces:
Business Environment is the sum total of all the external factors that influence the
functioning of the business.
Hence, it can be called as the comprehensive mega force consisting of all external
inputs.
2. Specific and General Forces:
Business Environment is made up of both specific and general forces. Specific forces
refer to the customers, competitors, investors etc. which have a direct effect on the day to day
working of the business while the general forces refers to social, political, legal, technological
and other forces which indirectly affect the operations of a business.
3. Inter-Relatedness:
Various elements of business environment are very closely related to each other. For
example, at present there has been an increase in demand for products like diet colas, fat free
cooking oil, sugar free products etc. due to increase in awareness for good health among the
consumers.
4. Dynamic Nature:
Business environment is dynamic in nature i.e. it keeps on changing. For example,
change in government policies, change in taste and choice of the consumer, change in
technology etc. Such changes could be triggered by internal or external factors.
5. Uncertainty:
Business environment is very uncertain as one cannot predict as to what will happen
in future especially in case of fashion industry, film industry and information technology. Its
dynamic nature makes it all more challenging to handle uncertainty.
6. Complexity:
Many forces constitute the business environment. Thus, it becomes very difficult to
know exactly the relative influence of a particular force (social, economic, technological etc.)
on the functioning of a business enterprise as all these factors are related to one another.
Managers constantly need to simplify this complexity as much as possible all the time. For
example, if there is change in demand of a product, it becomes very difficult to determine the
separate influence of social, political, technological, economic or legal forces etc. on such a
change.
7. Relativity:
Different countries and different regions have different business environment. Thus,
business environment is a relative concept. For example, technology in Japan differs from
that in India or say Pakistan, China etc. Hence, a multinational enterprise has to keep this
aspect in mind while formulating its policies for different countries.
ENVIRONMENT ANALYSIS
Environmental Analysis is described as the process which examines all the
components, internal or external that has an influence on the performance of the organization.
PROCESS OF ENVIRONMENT ANALYSIS
Identifying: First of all, the factors which influence the business entity are to be
identified, to improve its position in the market. The identification is performed at various
levels, i.e. company level, market level, national level and global level.
Scanning: Scanning implies the process of critically examining the factors that highly
influence the business, as all the factors identified in the previous step effects the entity with
the same intensity. Once the important factors are identified, strategies can be made for its
improvement.
Analysing: In this step, a careful analysis of all the environmental factors is made to
determine their effect on different business levels and on the business as a whole. Different
tools available for the analysis include benchmarking, Delphi technique and scenario
building.
Forecasting: After identification, examination and analysis, lastly the impact of the
variables is to be forecasted.
NEED FOR ENVIRONMENT ANALYSIS

Identification of strength:

Strength of the business firm means capacity of the firm to gain advantage over its
competitors. Analysis of internal business environment helps to identify strength of the firm.
After identifying the strength, the firm must try to consolidate or maximise its strength by
further improvement in its existing plans, policies and resources.

Identification of weakness:

Weakness of the firm means limitations of the firm. Monitoring internal environment
helps to identify not only the strength but also the weakness of the firm. A firm may be strong
in certain areas but may be weak in some other areas. For further growth and expansion, the
weakness should be identified so as to correct them as soon as possible.

Identification of opportunities:

Environmental analyses helps to identify the opportunities in the market. The firm
should make every possible effort to grab the opportunities as and when they come.

Identification of threat:

Business is subject to threat from competitors and various factors. Environmental

analyses help them to identify threat from the external environment. Early identification of
threat is always beneficial as it helps to diffuse off some threat.

Optimum use of resources:

Proper environmental assessment helps to make optimum utilisation of scare human,

natural and capital resources. Systematic analyses of business environment helps the firm to
reduce wastage and make optimum use of available resources, without understanding the
internal and external environment resources cannot be used in an effective manner.
Survival and growth:
Systematic analyses of business environment help the firm to maximise their strength,
minimise the weakness, grab the opportunities and diffuse threats. This enables the firm to
survive and grow in the competitive business world.
To plan long-term business strategy:
A business organisation has short term and long-term objectives. Proper analyses of
environmental factors help the business firm to frame plans and policies that could help in
easy
accomplishment of those organisational objectives. Without undertaking environmental
scanning, the firm cannot develop a strategy for business success.

Environmental scanning aids decision-making:

Decision-making is a process of selecting the best alternative from among various

available alternatives. An environmental analysis is an extremely important tool in
understanding and decision making in all situation of the business. Success of the firm
depends upon the precise decision making ability. Study of environmental analyses enables
the firm to select the best option for the success and growth of the firm.

TYPES OF BUSINESS ENVIRONMENT

Internal Environment:
Internal Environment refers to the factors existing within a business firm. These
internal factors are considered to be controllable because the enterprise has control over
these factors. The main internal factors which influences Business Decisions are as follows:
Culture:
The values, beliefs and attitudes of the founder and top management of the company
exercises a strong influence on what the company stands for, how it does things and what it
considers important. When the value system is shared by all the members, the organization is
likely to be more successful.
Mission and Objectives:
The Objectives of all the firms is assumed to be Profit Maximization in the long run.
But Mission is different from this narrow objective of profit maximization. Mission is defined
as the overall purpose or reason for existence which guides and influences a firm decisions
and economic activities.
Top Management Structure:
The structure of the organization also influences the business decisions. The
composition of the board of directors, the degree of professionalization of management and
the organizational structure of a company have an important bearing on its business
decisions.
Power Structure:
The internal power relationship between the board of directors and the Chief Executive
Officer is an important factor. The extent to which the top management enjoys the support of
shareholders and employees at different levels, also has an important bearing on decision
making.
External Environment:
External Environment refers to the factors existing outside a business firm. These
External factors are considered to be uncontrollable because the enterprise has No or Partial
control over these factors. Further, External Environment can be divided into two types
Namely:
External Micro Environment:

Micro external forces have an important effect on business operations of a firm.

However, all micro forces may not have the same effect on all firms in the industry. For
example, suppliers, an important element of micro level environment, are often willing to
provide the materials at relatively lower prices to big business firms.
They do not have the same attitude towards relatively small business firms. Similarly,
a competitive firm will start a price war if its rival firm in the industry is relatively small. If
the rival firm is a big one which is a capable of retaliating any adverse action from its rival, a
competitive firm will hesitate to start a price war. We explain below important factors or
forces of micro-level external environment.

Suppliers of Inputs:

An important factor in the external environment of a firm is the suppliers of its inputs
such as raw materials and components. A smooth and efficient working of a business firm
requires that it should have ensured supply of inputs such as raw materials. If supply of raw
materials is uncertain, then a firm will have to keep a large stock of raw materials to continue
its transformation process uninterrupted. This will unnecessarily raise its cost of production
and reduce its profit margin.
To ensure regular supply of inputs such as raw materials some firms adopt a strategy
of backward integration and set up captive production plants for producing raw materials
themselves.
Further, energy input is an important input in the manufacturing business. Many large
firms such as Reliance industries have their own power generating plants so as to ensure
regular supply of electricity for their manufacturing business. However, small firms cannot
adopt this strategy of vertical integration and have to depend on outside sources for supply of
needed inputs.
Further, it is not a good strategy to depend on a single supplier of inputs. If there is
disruption in production of the supplier firm due to labour strike or lock-out, it will adversely
affect the production work of a firm. Therefore, to reduce risk and uncertainty business firms
prefer to keep multiple suppliers of inputs.

Customers:

The people who buy and use a firm’s product and services are an important part of
external micro-environment. Since sales of a product or service is critical for a firm’s survival
and growth, it is necessary to keep the customers satisfied. To take care of customer’s
sensitivity is essential for the success of a business firm.
A firm has different categories of customers. For example, a car manufacturing firm
such as Maruti Udyog has individuals, companies, institutions, government as its customers.
Maruti Udyog, therefore, has catered to the needs of all these types of customers by
producing different varieties and models of cars.
Besides, a business firm has to compete with rival firms to attract customers and
thereby increase the demand and market for its product. In the present day of intense
competition a firm has to spend a lot on advertisements to promote the sales of its product by
creating new customers and retaining the old ones. For this purpose, a business firm has also
to launch new products or models.
With increasing globalisation and liberalization the customers’ satisfaction is of
paramount importance because the consumers have the option of buying imported products.
Therefore, to survive and succeed a firm has to make continuous efforts to improve the
quality of its products.

Marketing Intermediaries:

In a firm’s external environment marketing intermediaries play an essential role of

selling and distributing its products to the final buyers. Marketing intermediaries include
agents and merchants such as distribution firms, wholesalers, retailers.
Marketing intermediaries are responsible for stocking and transporting goods from
their production site to their destination, that is, ultimate buyers. There are marketing service
agencies such as marketing research firms, consulting firms, advertising agencies which
assist a business firms in targeting, promoting and selling its products to the right markets.
Thus, marketing is an important link between a business firm and its ultimate buyers. A
disloca- tion of this link will adversely affect the fortune of a company. A few years ago
chemists and druggists in India declared a collective boycott of a leading pharma company
because it was
providing a low retail margin. They succeeded in raising this margin. This shows that a
business firm must take care of its intermediaries if it has to succeed in this age of intense
competition.

Competitors:

Business firms compete with each other not only for sale of their products but also in
other areas. Absolute monopolies in case of which competition is totally absent are found
only in the sphere of what are called public utilities such as power distribution, telephone
service, gas distribution in a city etc. More generally, market forms of monopolistic
competition and differentiated oligopolies exist in the real world.
In these market forms different firms in an industry compete with each other for sale
of their products. This competition may be on the basis of pricing of their products. But more
frequently there is non-price competition under which firms engage in competition through
competitive advertising, sponsoring some events such as cricket matches for sale of different
varieties and models of their products, each claiming the superior nature of its products.
The readers will be witnessing how intense is the competition between Coca Cola and
Pepsi Cola. Sometimes there has been price war between them to capture new markets or
enlarge their market share. Likewise, there is severe competition between the manufacturers
of Aerial and Surf washing powders, between manufacturers of various brands of colour TV.
This type of competition is generally referred to as brand competition as it relates to
producing and selling different brands of a product.
But not only is there a competition among the producers producing different varieties
or brands of a product but also among firms producing quite diverse products as all products
ultimately compete for attracting spending by the consumers of their disposable incomes.
For example, competition for a firm producing TVs does not come only from other
brands of TV manufacturers but also from manufacturers of air conditioners, refrigerators,
cars, washing machines etc. All these goods compete for attracting disposable incomes of the
final consumers. Competition among these diverse products is generally referred to as desire
competition as all these goods fulfill the various desires of the consumers who have limited
disposable incomes.
As a consequence of liberalisation and globalisation of the Indian economy since the
adoption of economic reforms there has been a significant increase in competitive
environment of business firms. Now, Indian firms have to compete not only with each other
but also with the foreign firms whose products can be imported.
 For example, in the USA American firms faced a lot of competition from the Japanese
firms producing electronic goods and automobiles. Similarly, the Indian firms are facing a lot
of competition from Chinese products. It is important to note that for successful competition
the Indian firms have to improve not only the quality of the products but also to enhance their
productivity so that cost per, unit can be reduced.

Publics:

Finally, publics are an important force in external micro environment. Public,

according to Philip Kotler “is any group that has an actual or potential interest in or impact on
a company’s ability to achieve its objective”. Environmentalists, media groups, women
associations, consumer protection groups, local groups, citizens associations are some
important examples of publics which have an important bearing on environment of the firms.
For example, a consumer protection firm in Delhi headed by Sunita Narain came out
with an amazing fact that cold drinks such as Coca Cola, Pepsi Cola, Limca, Fanta had a
higher content of pesticides which posed threat to human health and life. This produced a
good deal of adverse effect on the sale of these products in 2003-04. The Indian laws are
being amended to ensure that these drinks must not contain pesticides beyond European
safety standards.
Similarly, environmentalists like Arundhi Roy have been campaigning against
industries which pollute the environment and cause health hazards. Women in some villages
of Haryana protested against liquor shops being situated in their localities.
Many citizen groups are actively campaigning against cigarette manufactures for their
advertising campaigns luring the people to indulge in smoking. Thus, the existence of various
types of publics influences the working of business firms and compels them to be socially
responsible.

External 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,
(3) Technological,
(4) Political and legal, and
(5) Demographic.

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
institu- tional 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.
Many industries, except only a few industries of strategic importance, which were
earlier reserved for the public sector have been thrown open for the private sector. Import
duties have been greatly reduced due to which domestic industries face competition from the
imported products. Incentives have been given to boost exports. Rupee has been made
convertible into
foreign currencies on current account. It is thus evident that new economic reforms carried
out since 1991 has significantly changed the business environment.

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.

Factors are listed below:

Social concerns such as the role of business in society, etc.
Social attitudes and values such as the expectations of the society from business.
Family structures
Educational levels
Awareness and work ethics
Beliefs and value systems
Local festivals
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 technology 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 allowed 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.