Competitive Environment

One thing almost all businesses have in common is competition. In order to effectively compete with each other businesses need to understand and effectively analyze their competitive environment. So, how can organisations do this? Through various strategic tools such as Porter's Five Forces or SWOT analysis. First, however, we need to understand the significance of the competitive environment. Let's take a look.

Competitive Environment Competitive Environment

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Table of contents

    Competitive environment meaning

    In order to understand the impact rivalry and competition have on businesses, it is essential to understand what we are talking about when mentioning the competitive environment.

    The competitive environment is where different businesses compete within a defined marketplace. It relates to how an enterprise is affected by its competition and how it adapts its practices to compete effectively.

    Factors of the competitive environment

    In 1979, Harvard Business School professor Michael E. Porter created a tool that allows companies analyse competitive environment of a business which we call Porter's Five Forces analysis. According to this method, there are five main factors of the competitive environment:

    • Threat of new entrants: how easy it is to enter the market
    • Power of suppliers: how easily suppliers can charge higher prices
    • Power of buyers: the ability of buyers to negotiate lower prices
    • Threat of substitute products: availability of alternative products
    • Rivalry among existing competitors: the intensity of competition
    Interested in competitive environment analysis? Read our explanation on Porters Five Forces analysis.

    Internal competitive factors

    Competitive factors from within the company include:

    • Quality of products and services: A company offering better products increases has a better chance to be more competitive.
    • Innovation: A business investing in research and development is more likely to introduce innovative products a overcome its competition.
    • Productivity: A company that is able to produce more at a lower cost has a better chance of increasing its market share.

    Types of competitors

    Companies must understand the different types of competitors in order to effectively evaluate their own competitiveness and position in the market. Understanding these types of competitors allows companies to identify opportunities and threats, as well as make informed strategic decisions. We can distinguish two main types of competitors: direct and indirect.

    Competitive environment Types of competitors StudySmarterFig. 1 - Types of competitors

    Direct competitors

    Direct competitors are businesses that offer the same or similar products or services.

    Ryanair is a direct competitor with Wizz Air, because they offer the same service which is low fare flights.

    Indirect competitors

    Indirect competitors are businesses that offer different products or services, but they can still compete.

    Firms producing cameras and smartphones. Even though they offer different products, they compete with each other because consumers often substitute cameras for smartphones.

    Types of competitive environment

    There are various different types of competitive environments, including perfect competition, monopolistic competition, oligopoly, and monopoly. Managers need to understand in which type of environment they operate in order to make the best decisions for their business.

    Competitive environment Types of competitive environment StudySmarterFig. 2 - Types of competitive environment

    Perfect competition

    Perfect competition, in other words, pure competition, is a market that has numerous competitors which offer exactly the same products or services. Rival manufacturers have a large number of customers. They are usually small and have little market power which means that they have little ability to influence the price. The price is defined by supply and product demand.

    Agriculture. Farmers who provide a local market with grains or milk cannot change the market price of their products and have to agree with the going one.

    Monopolistic competition

    In this environment, there are many competitors, who offer similar (but not identical) products or services. However, they typically serve the same purpose. In monopolistic competition, the companies are price makers, because they have the power to influence the price of products.

    Restaurants. They offer different products (different types of food), but their purpose is the same, they aim to feed people. They can easily raise prices, because even though other restaurants serve dishes as well, they do not serve the exact same ones.

    Oligopoly

    This environment is dominated by a small group of large sellers. The companies are independent in their pricing and production policies. This is a highly concentrated market where merger agreements and cooperations between major players are common.

    Social media. There are many social media platforms, but the market is dominated by few channels only.

    Monopoly

    In this environment, there is only one company producing a unique product. A monopolistic company does not face any competition since there is no substitute of its products or services.

    Public utilities such as gas, electric and water.

    Competitive environment analysis

    Understanding external factors affecting your business's ability to compete is key to staying ahead of your competition. Competitive environment analysis helps managers identify key elements of the competitive environment and understand the market, industry, and competition. There are three common tools used to perform competitive environment analysis:

    • Porter's Five Forces is a method that identifies and analyzes five competitive forces that shape the industry. It involves five elements: competitive rivalry, new entrants, power of buyers, power of suppliers, and threat of substitutes.
    • SWOT Analysis is a strategic planning tool used by companies to identify both internal and external factors affecting them. It involves four aspects: strengths, weaknesses, opportunities, and threats.
    • PESTEL Analysis is used to analyze political, economic, sociocultural, technological, environmental, and legal factors that affect the company and its environment.

    All these tools provide valuable insights that can inform strategic decision-making and help companies stay ahead of the competition.

    You can read more about competitive environment analysis in our explanations about Strategic Analysis, SWOT Analysis and Porters Five Forces.

    Competitive environment examples

    • Samsung. A competitive environment of Samsung contains numerous direct competitors. There are many companies all over the world offering similar products such as smartphones, cameras, computers etc. These companies are for example Huawei, Apple, Xiaomi and many more. All of these companies continuously compete with one another. In order to succeed, Samsung has to come up with new, innovative ideas and marketing tactics which would attract the customers and convince them to purchase their products.

    • McDonald’s. There are numerous competitors of McDonald’s such as Burger King, KFC, Five Guys and more. However, even though all of these restaurants serve fast food, the food they offer is different. All of them have their unique menus containing dishes with different flavours and recipes. Therefore, fans of McDonald’s are unlikely to switch and go for any of the other restaurants. For all of these reasons, McDonald’s can also be a price maker.

    • American Airlines. In the competitive environment of American Airlines, there are few dominating companies. These are for example Delta Air Lines, Southwest Airlines and United Airlines. Together with American Airlines, they are four main flight providers around the U.S. Therefore, they can cooperate with one another and decide on prices.

    • Railways. There is no competitive environment since there are no other companies producing the product. Railways are public services provided by the government and no new partners or privately held companies are allowed to run them.

    Competitive Environment - Key takeaways

    • Competitive Environment is a system where businesses compete with one another.

    • It has an impact on each business, its decisions and strategy they take.

    • There are two main types of competitors: direct and indirect.

    • There are four types of competitive environment: pure competition, monopolistic competition, oligopoly and monopoly.

    • Porter’s Five Forces and SWOT Analysis are the most common ways to analyze the competitive environment of a company.

    Frequently Asked Questions about Competitive Environment

    What is a competitive environment?

    The competitive environment is where different businesses compete within a defined marketplace.

    Why innovation is important in today's competitive business environment?

    Innovation is important in today's competitive business environment because it gives a competitive edge and helps in market penetration. 

    Competitive environment definition? 

    The competitive environment is where different businesses compete within a defined marketplace. It relates to how an enterprise is affected by its competition and how it adapts its practices to compete effectively.

    What is a competitive environment example? 

    Direct competition is an example of a competitive environment. (Ryanair and Wizz Air). 

    What are the types of competitive environment? 

    Pure competition, monopoly, and oligopoly are the types of a competitive environment. 

    How does competitive environment affect business?

    Competition can affect business in several ways:

    • It drives businesses to improve their products, increasing innovation and development
    • It leads to changes in prices (price wars)
    • It can raise customers' expectations about the product quality

    Test your knowledge with multiple choice flashcards

    Which of these are indirect competitors?

    What is an example of pure competition?

    A camera can be replaced with a smartphone. What type of substitution is it?

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