“Strategic Management ’’

By Fred R.David
Topic: ‘EFE Economics’
Samra Shoaib - 08537

An External Factor Evaluation (EFE) Matrix allows strategists to summarize and

evaluate economic, social, cultural, demographic, environmental, political,
governmental, legal, technological, and competitive information. According to the
author, the tool is used to summarize the information gained from company’s external
environment analyses. The summarized information is evaluated and used for further
purposes, such as, to build SWOT analysis or IE matrix. Even though, the tools are
quite simplistic, they do the best job possible in identifying and evaluating the key
affecting factors. When using the EFE matrix we identify the key external
opportunities and threats that are affecting or might affect a company. Where do we
get these factors from? Simply by analysing the external environment with the tools
like PEST analysis, Porter’s Five Forces or Competitive Profile Matrix.

The EFE Matrix can be developed in five steps:

1. List key external factors. The external factors are divided into two
categories:

i) Opportunities
Opportunities are the chances exist in the external environment, it depends
firm whether the firm is willing to exploit the opportunities or may be they
ignore the opportunities due to lack of resources.

ii) Threats
Threats are always evil for the firm, minimum no of threats in the external
environment open many doors for the firm. Maximum number of threats for the
firm reduce their power in the industry.

List the opportunities first and then the threats. Be as specific as possible,
using percentages, ratios, and comparative numbers whenever possible.
 2. Assign to each factor a weight that ranges from 0.0 (not important) to 1.0
(very important). The weight indicates the relative importance of that factor
to being successful in the firm’s industry. Opportunities often receive higher
weights than threats, but threats can receive high weights if they are
especially severe or threatening. Appropriate weights can be determined by
comparing successful with unsuccessful competitors or by discussing the
factor and reaching a group consensus. The sum of all weights assigned to
the factors must equal 1.0.
3. Assign a rating between 1 and 4 to each key external factor to indicate how
effectively the firm’s current strategies respond to the factor, where 4 = the
response is superior, 3 = the response is above average, 2 = the response is
average, and 1 = the response is poor. Ratings are based on effectiveness of
the firm’s strategies. Ratings are thus company-based, whereas the weights
in Step 2 are industry-based. It is important to note that both threats and
opportunities can receive a 1, 2, 3, or 4.
4. Multiply each factor’s weight by its rating to determine a weighted score.
5. Sum the weighted scores for each variable to determine the total weighted
score for the organization.

Regardless of the number of key opportunities and threats included in an EFE

Matrix, the highest possible total weighted score for an organization is 4.0 and the
lowest possible total weighted score is 1.0. The average total weighted score is 2.
A total weighted score of 4.0 indicates that an organization is responding in an
outstanding way to existing opportunities and threats in its industry. In other
words, the firm’s strategies effectively take advantage of existing opportunities
and minimize the potential adverse effects of external threats. A total score of 1.0
indicates that the firm’s strategies are not capitalizing on opportunities or
avoiding external threats.

Benefits

The matrix has the the following benefits:

 Easy to understand. The input factors have a clear meaning to everyone inside or
outside the company. There’s no confusion over the terms used or the
implications of the matrices.
 Easy to use. The matrix does not require extensive expertise, many personnel or
lots of time to build.
 Focuses on the key external factors. Unlike some other analyses (e.g. value chain
analysis, which identifies all the activities in the company’s value chain, despite
their importance), the EFE only highlights the key factors that are affecting a
company or its strategy.
 Multi-purpose. The tools can be used to build SWOT analysis, IE matrix, GE-
McKinsey matrix or for benchmarking.
Limitations

 Easily replaced. EFE matrix can be replaced almost completely by PEST analysis,
SWOT analysis, competitive profile matrix and partly some other analysis.
 Doesn’t directly help in strategy formation. Analysis only identify and evaluate the
factors but do not help the company directly in determining the next strategic
move or the best strategy. Other strategy tools have to be used for that.
 Too broad factors. SWOT matrix has the same limitation and it means that some
factors that are not specific enough can be confused with each other. Some
strengths can be weaknesses as well, e.g. brand reputation, which can be a strong
and valuable brand reputation or a poor brand reputation. The same situation is
with opportunities and threats. Therefore, each factor has to be as specific as
possible to avoid confusion over where the factor should be assigned.

Conclusion

Increasing turbulence in markets and industries around the world means the external
audit has become an explicit and vital part of the strategic-management process.
This chapter provides a framework for collecting and evaluating economic, social,
cultural, demographic, environmental, political, governmental, legal, technological,
and competitive information. Firms that do not mobilize and empower their
managers and employees to identify, monitor, forecast, and evaluate key external
forces may fail to anticipate emerging opportunities and threats and, consequently,
may pursue ineffective strategies, miss opportunities, and invite organizational
demise. Firms not taking advantage of the Internet are technologically falling
behind.
A major responsibility of strategists is to ensure development of an effective
external audit system. This includes using information technology to devise a
competitive intelligence system that works. The external-audit approach described
in this chapter can be used effectively by any size or type of organization. Typically,
the external-audit process is more informal in small firms, but the need to
understand key trends and events is no less important for these firms. The EFE
Matrix help strategists evaluate the market and industry, but the tool must be
accompanied by good intuitive judgment. Multinational firms especially need a
systematic and effective external audit system because external forces among
foreign countries vary so greatly.