SWOT Analysis

Strategy formulation begins with understanding the circumstances, forces, events, and issues that shape the organization’s competitive situation, which requires that managers conduct an audit of both internal and external factors that influence the company’s ability to compete.

Using SWOT Analysis to Formulate Strategy

The starting point in formulating strategy is usually SWOT analysis. SWOT is an acronym that stands for strengths, weaknesses, opportunities, and threats.

Managers obtain external information about opportunities and threats from a variety of sources, including customers, government reports, professional journals, suppliers, bankers, friends in other organizations, consultants, and association meetings.

Many firms contract with special scanning organizations to provide them with news clippings, Internet research, and analyses of relevant domestic and global trends.

Executives acquire information about internal strengths and weaknesses from a variety of reports, including budgets, financial ratios, profit and loss statements, and surveys of employee attitude and satisfaction.

In addition, managers build an understanding of the company’s internal strengths and weaknesses by talking with people at all levels of the hierarchy in frequent face-to-face discussions and meetings.

In SWOT analysis, the best strategies accomplish an organization’s mission by

1. exploiting an organization’s opportunities and strengths, while
2. neutralizing its threats, and
3. avoiding (or correcting) its weaknesses.

Evaluating an Organization’s Strengths

Strengths may include things like a deep pool of managerial talent, surplus capital, a unique reputation and/or brand name, and well-established distribution channels.

SearsOpens in new window, for example, has a nationwide network of trained service employees who repair Sears appliances. Jane Thompson, a Sears executive, conceived of a plan to consolidate repair and home improvement services nationwide under the well-known Sears brand name and to promote them as a general repair operation for all appliances, not just those purchased from Sears. Thus the firm capitalized on existing capabilities and the strength of its name to launch a new operation.

Different strategies call on different skills and capabilities. For example, Matsushita Electric Industrial Co.Opens in new window has demonstrated strengths in manufacturing and selling consumer electronics under the brand name PanasonicOpens in new window. Matsushita’s strength in electronics does not ensure success, however, if the firm decides to expand into insurance, swimming pool manufacturing, or retail. Different industries such as these require different strategies and thus different organizational strengths.

SWOT analysis divides organizational strengths into two categories:

1. common strengths and
2. distinctive competencies.

1.    Common Strength

For example, all the major Hollywood film studios possess common strengths in lighting, sound recording, set and costume design, and makeup.

Competitive parity exists when large numbers of competing firms are able to implement the same strategy. In this situation, organizations generally attain only average performance.

2.    Distinctive Competence

Distinctive competencies are rare among a set of competitors. George Lucas’s Industrial Light & Magic (ILM)Opens in new window, for example, brought the cinematic art of special effects to new heights.

Some of ILM’s special effects can be produced by no other organization; these rare special effects thus comprise ILM’s distinctive competence. Organizations that exploit their distinctive competencies often obtain a competitive advantage and attain above-normal economic performance.

A main purpose of SWOT analysis is to discover an organization’s distinctive competencies so that the organization can choose and implement strategies that exploit its unique organizational strengths.

An organization that possesses distinctive competencies and exploits them in the strategies it chooses can expect to obtain a competitive advantage and above-normal economic performance. However, its success will lead other organizations to duplicate these advantages.

Although some distinctive competencies can be imitated, others cannot. When a distinctive competence cannot be imitated, strategies that exploit these competences generate sustained competitive advantage.

Evaluating an Organization’s Weaknesses

An organization essentially has two ways of addressing weaknesses.

• First, it may need to make investments to obtain the strengths required to implement strategies that support its mission.
• Second, it may need to modify its mission so that it can be accomplished with the skills and capabilities that the organization already possesses.

In practice, organizations have a difficult time focusing on weaknesses, in part because organization members are often reluctant to admit that they do not possess all the sills and capabilities they need.

Evaluating weaknesses also calls into question the judgment of managers who chose the organization’s mission in the first place and who failed to invest in the skills and capabilities needed to accomplish it.

Organizations that fail either to recognize or to overcome their weaknesses are likely to suffer from competitive disadvantages.

An organization has a competitive disadvantage when it is not implementing valuable strategies that competing organizations are implementing. Organizations with a competitive disadvantage can expect to attain below-average levels of performance.

Evaluating an Organization’s Opportunities and Threats

Whereas evaluating strengths and weaknesses focuses attention on the internal workings of an organization, evaluating opportunities and threats requires analyzing an organization’s environment.

Michael Porter’s “five forces” model of the competitive environment can be used to characterize the extent of opportunity and threat in an organization’s environment. Porter’s five forces are

1. level of competitive rivalry,
2. power of suppliers,
3. power of buyers,
4. threat of substitutes, and
5. threat of new entrants.

In general, when the level of competitive rivalry, the power of suppliers and buyers, and the threat of substitutes and new entrants are all high, an industry has relatively few opportunities and numerous threats.

Firms in these types of industries typically have the potential to achieve only normal economic performance. On the other hand, when the level of rivalry, the power of suppliers and buyers, and the threat of substitutes and new entrants are all low, an industry has numerous opportunities and relatively few threats. These industries hold the potential for above-normal performance for organizations in them.

Note that a broad objective such as “Be the operating TSR (total shareholder return) leader in North American tissue/towel and value creator for P&G” is translated into more specific goals and strategies, such as “Grow Bounty and Charmin margin.”

In addition, the chart lists measures that managers will use to determine the success of their efforts. This is the essence of strategic management: setting goals, defining strategies for achieving the goals, and measuring the effectiveness of efforts.