PART I: Strategy and the Nonmarket EnvironmentCHAPTER

Market and NonmarketEnvironments

INTRODUCTIONSome companies are successful in both their market environment and the social, politi-cal, and legal nonmarket environment in which they operate. Google, McDonald's, andToyota have had continuing success in their markets and also have generally conductedthemselves in a manner that has earned the respect of the public and the government.Other companies have had great success in their markets but stumbled before the pub-lic and government. Nike became synonymous with athletic footwear, hut public con-cerns about the working conditions in its suppliers' factories in Asia tarnished its imageand affected its market performance. Wal-Mart, the world's largest company, was tar-geted by activists, unions, and politicians for its work practices, depressing wages in thelabor market, driving small merchants out of business, and weakening the culture ofsmall towns. Microsoft is one of the great successes in the history of business, but itsmarket conduct has resulted in recurring antitrust judgments in the United States and inthe European Union where it was fmed €1.7 billion for antitrust violations and failureto comply with rulings. BP had earned a reputation for its environmental programs, butin 2005-6 the company experienced a refinery explosion that killed 15 workers and re-sulted in criminal fines and spilled oil in Prudhoe Bay, Alaska and on the tundra. BPpleaded guilty to price fixing, paying $303 million in fines. Citigroup, the world's largestfinancial institution, was hit with a series of costly scandals. As a result of its $31 billionacquisition of subprime lender Associates First Capital, Citigroup faced private lawsuitsfor abusive practices, state legislation restricting subprime lending, and fines of$285 million imposed by the Federal Reserve and the Federal Trade Commission.Citigroup also paid $2.8 billion to settle lawsuits for its role in structuring financial instru-ments for Enron and WorldCom and $735 million for biased securities research. Japan or-dered Citigroup to close its private banking business in the country. In addition to thefines and settlements and the damage to its reputation, Citigroup was targeted by activistsfor its financing of environmentally destructive projects in developing countries. Citigrouprepeated its problems with subprime mortgages resulting in write-downs of $40 billion in2007-8, the firing of its CEO, and more stringent regulations for mortgage lending.

The problems encountered by Nike, Wal-Mart, BP, Microsoft, and Citigroup origi-nated in their market environments, but the challenges to their operations came fromthe nonmarket environment. That is, the challenges resulted not from the actions ofcompetitors but instead from the public, interest groups, the legal system, and govern-ment. These companies underappreciated the importance of the nonmarket environ-ment and have paid a price for doing so. Even companies that are generally successful inmanaging in their nonmarket environment face challenges. Google received criticismfor tolerating the government-imposed censorship on its Web site in China: McDonald'swas criticized for contributing to the obesity crisis: Toyota was criticized for introducinglarge, fuel inefficient pickup trucks. Some companies have changed their strategies as a

211

1 2 PART I Strategy and the Nonmarket Environment

result of nonmarket pressure. Nike has become a leader in improving the working con-ditions in its suppliers' factories, and Wal-Mart has implemented an aggressive envi-ronmental program.

Firms have more control over their fate in the markets in which they operate thanthey have in their nonmarket environment, but successful companies understand thatif they do not manage their nonmarket environment, it will manage them. The long-runsustainabiity of competitive advantage requires managing effectively in the nonmar-ket environment. Companies like Google, McDonald's, and Toyota have learned thatthey can participate. both responsibly and effectively in influencing developments intheir nonmarket environment.

This book is about managing successfully in the nonmarket environment. The per-spective taken is that of strategy- nonmarket strategy-and its implementation. Thatstrategy is considered not in isolation but in conjunction with the firm's market or com-petitive strategy.

This chapter introduces the environment of business, identifies the role of manage-ment in the nonmarket environment, and presents a framework for analyzing that en-vironment. The framework is illustrated using the automobile industry as an example.The sources of change in the nonmarket environment are then considered, and aframework for assessing the development of nonmarket issues is presented.

THE ENVIRONMENT OF BUSINESS

The environment of business consists of market and nonmarket components. The mar-ket environment includes those interactions between firms, suppliers, and customersthat are governed by markets and contracts. These interactions typically involve volun-tary economic transactions and the exchange of property. To achieve superior perfor-mance, firms must operate effectively in their market environment. They must beefficient in production and responsive to consumer demand. They must anticipate andadapt to change, innovate through research and development, and develop new prod-ucts and services. Effective management in the market environment is a necessary con-dition for superior performance, but it is not sufficient.

The performance of a firm, and of its management, also depends on its activities inits nonmarket environment. The nonmarket environment is composed of the social, po-litical, and legal arrangements that structure interactions outside of, but in conjunctionwith, markets and contracts. The nonmarket environment encompasses those interac-tions between the firm and individuals, interest groups, government entities, and thepublic that are intermediated not by markets but by public and private institutions. Pub-lic institutions differ from markets because of characteristics such as majority rule, dueprocess, broad enfranchisement, collective action, and access by the public. Activities inthe nonmarket environment may be voluntary, as when the firm cooperates with gov-ernment officials or an environmental group, or involuntary, as in the case of governmentregulation or a boycott of a firm's product led by an activist group. Effective manage-ment in the nonmarket environment has become a necessary condition for superiorperformance just as has effective management in the market environment.

The nonmarket environment has grown in importance and complexity over timeand commands increased managerial attention. Nonmarket issues high on firms' agendasinclude environmental protection, health and safety, regulation and deregulation, intel-lectual property protection, human rights, international trade policy, antitrust, pressuresfrom nongovernment organizations (NGOs) and social activists, media coverage of busi-ness, corporate social responsibility, and ethics. Although the saliency of particular issuesebbs and flows, nonmarket issues arise sufficiently often to have important consequencesfor managerial and firm performance. Nonmarket issues, the forces that influence theirdevelopment, and the strategies for addressing them are the focus of the field of businessand its environment. The managerial objective is to achieve superior overall perfor-mance by effectively addressing nonmarket issues and the forces associated with them.

Developments in the nonmarket environment affect performance on a number ofdimensions. In the automobile industry, emissions and fuel economy standards affectresearch and development, design, production, pricing, and marketing. Safety

CHAPTER 1 Market and Nonmarket Environments 3 U

regulation and liability standards have similar broad effects. Import competition andaccess to international markets affect competitive strategies involving product design,pricing, and capacity planning. Each of these examples has two components-an under-lying issue and its impact on performance. The fuel economy issue, for example, isrelated to global climate change and security and has broad implications for perfor-mance. The focus for management in the nonmarket environment is on how an auto-mobile company can participate effectively and responsibly in the public and privateprocesses addressing these issues. Activity in the nonmarket environment is generallyorganized around specific issues and is motivated by the impacts of those issues. Thelegislative process, for example, focuses on bills to address a specific issue, such as fueleconomy standards. Managerial attention thus focuses on specific issues affecting per-formance. the forces driving those issues, the institutions in whose arenas the issues areaddressed, and the participation of firms in shaping the resolution of those issues.

THE ROLE OF MANAGEMENT

Because of its importance for managerial and organizational performance. nonmarketstrategy is the responsibility of managers. As illustrated in Figure 1-1, firms operate inboth the market and the nonmarket environments. Managers are in the best position toassess the impact of their firm's market activities on its nonmarket environment andthe impact of developments in the nonmarket environment on market opportunitiesand performance. Management thus is responsible for formulating and implementingnonmarket as well as market strategies.

Firms typically deal with nonmarket issues in proportion to their potential impactson performance. Managers are in the best position to assess those impacts and, with theassistance of specialists, to formulate strategies to address the underlying issues. Theimplementation of nonmarket strategies also involves the active participation of man-agers. They may address the public on issues, communicate with the media, testify inregulatory and congressional proceedings, lobby government, participate in coalitionsand associations, serve on government advisory panels, meet with activists, negotiatewith interest groups, partner with NGOs, build relationships with stakeholders, andparticipate in constituency programs.

Successful management requires frameworks for analyzing nonmarket issues, prin-ciples for reasoning about them, and strategies for addressing them. These frameworks,principles, and strategies enable managers to address issues in a systematic mannerand guide their firms successfully and responsibly in their nonmarket environments. Informulating nonmarket strategies, managers may draw on the expertise of lawyers,communications specialists, Washington representatives, and community relationsspecialists. Managers, however, ultimately must evaluate the quality of the advice theyreceive and combine it with their own knowledge of the market and nonmarket envi-ronments. Most firms have found that managers must be involved in all stages of theirefforts to address nonmarket issues.

FIGURE 1-1 The Environment of BusIness

Market Environment Nonmarket Environment

Market environmentdetermines significance of nonmarket

ssues to the firm

Nonmarket environmentshapes business opportunities

in the marketplace

i 4 PART I Strategy and the Nonmarket Environment

MARKET AND NONMARKET ENVIRONMENTS

As illustrated in Figure 1-1. the market and nonmarket environments at business areinterrelated. A firm's activities in its market environment can generate nonmarket is-sues and change in its nonmarket environment. That change may take the form ofactions by government, such as legislation, regulation, antitrust lawsuits, and interna-tional trade policies. Similarly, the actions of interest groups and activists may force afirm to change its market practices. As an example of the market origins of nonmarketissues, in the 1990s lower real gasoline prices and changing consumer demand resultedin sport utility vehicles (SUVs) and light trucks capturing half the light-vehicle market.This reduced average fuel economy and, in conjunction with the global climate changeand security issues, generated pressure to increase fuel economy standards. Moreover,the size and weight of SUVs raised concerns about the safety of the occupants of othervehicles in the event of a collision.

Nonmarket issues and actions also shape the market environment. Higher fueleconomy standards affect virtually all aspects of automobile design and manufactur-ing. Similarly, political action against Microsoft's alleged anticompetitive practices inthe software industry put pressure on the Department of Justice and state attorneysgeneral to file an antitrust lawsuit. Complaints by competitors led the European Unionto impose antitrust fines and constraints on Microsoft for restricting the opportunitiesof other firms. The market environment is also shaped by the actions of interest and ac-tivist groups and the public sentiment for their causes. The Exxon Valdez oil spill in-creased environmental pressure on firms through liability for damages, more stringentregulations. and direct public pressure.

Both the market and nonmarket environments of business are competitive. In themarket environment, performance is determined by competition among firms asdirected by their market or competitive strategies. In the nonmarket environment, leg-islation, regulation, administrative decisions, and public pressure are the result ofcompetition involving individuals, activists, interest groups, and firms. In the marketenvironment, strategies are intermediated by markets, whereas in the nonmarket envi-ronment, strategies are intermediated by public and private institutions, includinglegislatures, courts, regulatory agencies, and public sentiment. Just as the marketenvironment of business changes and competitive advantage evolves, the nonmarketenvironment changes and the issues on a firm's nonmarket agenda evolve.

The nonmarket environment should thus be thought of as responsive to the strate-gies of firms and other interested parties. Those strategies can affect market opportuni-ties. Robert Galvin (1992), who led Motorola for over three decades, described thecompany's approach to its nonmarket environment as "writing the rules of the

The first step in any defined strategy is writing the rules of the game honorablyand fairly in a manner that gives everyone a chance with predictable rules. Ourcompany has started industries. We have helped write standards. We havehelped write trade rules. We have helped influence policies. We have helpedwrite national laws of countries where we have engaged, always in a respectfulway. We have never taken for granted that the rules of the game would justevolve in a fashion that would make for the greatest opportunity... With theright rules of the game, one's opportunity for success is enhanced.

Galvin's point is not that companies dictate the rules of the game but rather thatthose rules are shaped by the strategies of firms and other interested parties and by thegoverning institutions. Companies and their leaders can shape those rules by partici-pating responsibly in the public and private processes that address market and non-market issues. This participation can affect the market environment of firms and theopportunities available to them as well as the nonmarket environment and the issuesfirms will face in the future.

See Yotfie (tQSSa, 1988b) for ana'ysis of aspects of this strategy.

CHAPTER 1 Market and Nonmarket Environments 5 U

ANALYSIS OFTHE NONMARKET ENVIRONMENT: THE FOUR I'S

The nonmarket environment of a firm is characterized by four l's:

• Issues• Interests• Institutions• Information

Issues are the basic unit of analysis and the focus of nonmarket action. Using theagricultural biotechnology industry as an example, the central nonmarket issues havebeen the formulation of regulatory policies for bioengineered foods and the public re-action to those foods. Interests include the individuals and groups with preferencesabout, or a stake in, the issue. The principal interests are the agricultural biotechnologycompanies, the interest groups and activists concerned about biotechnology issues, andthe public. Institutions are defined by Douglass North (1990) as "the rules of the gamein a society. . . that shape human interactions," and these institutions provide arenas inwhich interests seek to influence the outcomes on issues. Government institutions in-clude entities such as legislatures and regulatory agencies. Nongovernmental institu-tions include those such as the media that provide information to society as well aspublic sentiment composed of societal expectations and norms of behavior that arisefrom ethics and culture. The Environmental Protection Agency, the Department ofAgriculture, the Food and Drug Administration, and Congress are the principal publicinstitutions in whose arenas agricultural biotechnology issues are addressed. The pub-tic sentiment about bioengineered foods is influenced by market forces as well. As theprices of agricultural products and foods rose in the late 2000s, some consumers andfirms that had shunned hioengineered foods began to change their policies in responseto their lower prices resulting from higher productivity and resistance to crop damage.

Information pertains to what the interests and institutional officeholders knowor believe about the issues and the forces affecting their development. In the case ofagricultural biotechnology, information pertains to the risks associated with individ-ual products and with the technology itself. The public acceptance of bioengineeredcrops and animals is influenced by both scientific knowledge and concerns about theunknown. Information is provided by firms, activists, government institutions, andthe media.

The task for management is to formulate and implement strategies that effectivelyaddress the nonmarket issues in competition with the strategies of other interests in thecontext of institutions in which in formation plays an important role. Each firm and in-dustry has a set of issues that it must address, and these issues constitute its nonmarketissue agenda. Associated with each issue are the institutional arenas in which the issuewill be addressed, the interests likely to be involved, and the information available.Many issues on a firm's nonmarket agenda require issue-specific strategies, and theanalysis of the associated interests, institutions, and information provides a foundationfor strategy formulation, as considered in Chapter 2. To illustrate the four l's frame-work, the remainder of this chapter considers the nonmarket environment of the auto-mobile industry and then considers the origin and development of nonmarket issues.

THE NONMARKET ENVIRONMENT OF THE AUTOMOBILE INDUSTRY

This section identifies selected issues facing the automobile industry and then exam-ines the associated interests, institutions, and information.

Issues

Fuel Economy Legislation In 2007 Congress enacted and the president signed a billincreasing fuel economy standards by 40 percent. The Alliance of Automobile Manu-facturers had initially opposed the legislation, but when it became apparent that higherstandards were inevitable, it sought credits for vehicles that could run on ethanol andthe opporturnty to buy and sell credits for meeting and exceeding the standards.

• 6 PART I Strategy and the Nonmarket Environment

Fuel Economy Exception In 2004 the National Highway Traffic Safety Administra-tion (NHTSA) granted Nissan an exception from the two-fleet rule that automakersmeet standards on both their domestic and imported fleets. Otherwise, Nisan said itwould have to move production from its plants in Tennessee and Mississippi to its plantin Mexico, which Nissan had built as a result of the North American Free Trade Agree-ment (NAFTA). In 2007 Nissan supported higher fuel economy standards and lobbiedfor an extension of the exception with senators from Tennessee and Mississippi leadingthe effort.

Fuel Economy Regulation (China) In 2003 the State Council of China chose avveight-based system for fuel economy standards for automobiles, vans, and SUVs. The2008 standards were somewhat higher than the standards in the United States.

Fuel Economy Regulation (European Union) As part of its Kyoto Treaty obligations,the European Union (EU) had adopted a voluntary fuel economy standard of140 grams of carbon dioxide per kilometer, but the industry failed to meet the stan-dard. Under strong pressure from environmental groups, the European Commissionproposed a mandatory standard of 120 grams for 2012. The European Parliamentasked for a less aggressive standard to ease the burden on automakers, and the Com-mission relented, setting the standard at 130 grams for automobiles with an additional10 grams to be achieved through more efficient tires, improved air conditioners, andcleaner fuels. The European Automobile Manufacturers Association warned that the re-quirements would "lead to a loss of jobs and relocation of production outside the EU."2

State CO2 Regulations The Clean Air Act authorized the EPA to grant California awaiver allowing it to set more stringent auto pollution standards than federal stan-dards. In 2002 the California legislature added carbon dioxide to its list of pollutantsand required by 2016 a 30 percent reduction in global-warming gases from cars andlight trucks. The EPA denied the waiver application because global warming was not alocalized externality and the federal government had just enacted sharply higher fueleconomy standards. The Natural Resources Defense Council (NRDC) and other envi-ronniental groups strongly disagreed.

In 2008 General Motors CEO Rick Waggoner urged the 10,000 members of theNational Automobile Dealers Association to oppose state efforts to set their own lim-its on greenhouse gases emission. Waggoner explained, "Dealers are very effective inthe political process because we don't have a plant in every state. We have dealers inevery state."3

Automobile Access (India) Tata Motors announced its $2,500 Nano people's car in2008 to make the automobile more broadly accessible in India. The car would have fewsafety features but would be far safer than a motor scooter, which many people used totransport families and goods. Emissions standards posed a risk, however, becausemajor cities planned to adopt the Euro IV standards that required a 35-fold reductionin sulfur dioxide emissions.

Battery Safety and Liability New generation hybrid and plug-in electric vehicles an-ticipated using lithium-ion batteries, which were quick to charge and capable of oper-ating in all weather conditions.4 The batteries, however, posed a risk of explosion andfire in the event of manufacturing problems or damage to the battery and hence repre-sented a liability risk for automakers. Batteries were expensive, and automakers soughttax credits for buyers of plug-in vehicles, as provided for certain hybrid vehicles.

Federal FuelTaxes Since 1993 federal fuel taxes had remained fixed at 18.4 cents and24.4 cents per gallon for gasoline and diesel, respectively. In 2008 a commission autho-rized by Congress recommended increasing taxes by as much as 40 cents a gallon over5 years to fund infrastructure improvements. Taxpayer resistance was expected.

.Vew York Times. February 8,2007.San Jose Mercury News, February 10, 2008.

4The Prius used nickel-metal-hydride batteries.

CHAPTER 1 Market and Nonmarket Environments 7 •

Safety Standards NHTSA had responsibility for setting mandatory safety standardsfor motor vehicles. A major cause of vehicle deaths was single-vehicle rollover acci-dents, many of which were caused when a vehicle left the roadway. Automobile manu-facturers had begun to use electronic stability control (ESC) systems and planned toequip 71 percent of their model year 2011 vehicles with the systems. NHTSA issued anew federal standard requiring all model year 2012 vehicles to be equipped with ESC.

Drunk Driving Safety standards did little to address drunk driving, which was esti-mated to result in 13,000 deaths a year. Mothers Against Drunk Driving (MADD), theAlliance of Automobile Manufacturers, and a state highway officials associationlaunched a campaign to change state drunk driving laws to require convicted drunkdrivers to have ignition interlocks triggered by alcohol detection devices.

Union Representation The United Auto Workers (UAW), whose membership hadfallen by 50 percent over the past 20 years as the big-three automakers had lost marketshare, had been unable to enlist sufficient support to hold a representation election atany Toyota plant. When a leaked document revealed that Toyota planned to reduce itsNorth American labor costs by $300 million in the next 4 years, the UAW launched anew drive to unionize its Georgetown, Kentucky plant.

Worker Safety The UAW had located its Resource Center half a mile from Toyota'sGeorgetown plant and used data reported to the Occupational Safety and Health Ad-ministration (OSHA) to identify 1.800 injured workers who were no longer employedby Toyota. Toyota stated that in its 22 years the Georgetown plant had only once beencited for a safety violation.

Antitrust In 2007 four Canadians filed a $2 billion lawsuit in U.S. courts complainingthat they were restrained by U.S. car dealers from purchasing vehicles in the UnitedStates where prices were thousands of dollars lower as a result of the appreciation ofthe Canadian dollar.

Free Trade Agreements (Korea) In 2007 Korea and the United States approved afree trade agreement in which Korea would immediately eliminate its 8 percent tariffon automobile imports from the United States and change the nontariff barrier of tax-ing cars based on engine size. The United States agreed to eliminate immediately its2.5 percent tariff on small cars and eliminate the tariff on larger vehicles over 3 years.Congress, however, had to ratify the agreement. Canada and the European Union alsobegan negotiating free trade agreements with Korea.

Tariffs (China) In 2006 the European Union (EU) and the United States filed a for-mal complaint with the World Trade Organization (WTO) regarding China's average30 percent tariff on whole vehicle imports and 15 percent tariff on automobile parts.

Diversity In 2006 Toyota had rejected demands that it provide statistical and regionalinformation on the ethnicity of its U.S. dealers and executives. The demand was madeby the National Minority Automotive Advocacy Coalition (NMAAC), composed of 10minority business groups. Toyota said that of its 1,430 Toyota and Lexus dealers, 32were African American, 26 Asian American, 25 Hispanic, and 11 Native American, or6.6 percent compared to the national average of 4.93 percent.5

Human Rights General Motors received a perfect score for 2007 from the HumanRights Campaign, a gay rights organization.

Environmental Pressure At the New York auto show protesters from the FreedomFrom Oil campaign unfurled a banner reading "Toyota: The Truck That's Changing theClimate." Sarah Connolly explained, "Building the Prius does not give Toyota licenseto mass-produce the Tundra.b The campaign included demonstrations at Toyota deal-erships and full-page newspaper ads criticizing Toyota. Activists were also upset that

4iitomotive News. July 3, 200(.'New York Times, April 7.2007.

I 8 PART I Strategy and the Nonmarket Environment

Toyota had opposed higher fuel economy standards, and the NRDC launched a Web site.http:!/www.truthabouttoyota.comIvideonrdc-and-priusowners..changingminds.html.

Corporate Social Responsibility The criticism Toyota received led it to launch an ex-tensive corporate advertising campaign emphasizing its support for the environmentand its social responsibility, in addition to its traditional theme of highlighting the eco-nomic investment and employment it provided in the United States. One advertise-

ment on the environment asked, "Can you have an impact by making none at all?"

Capacity Constraints (China) To control the growth of auto production capacityspurred by local tax incentives, Chinas National Development and Reform Commis-sion issued guidelines restricting new construction permits. The new guidelines re-quired companies to sell at least 80 percent of their capacity before a new permit couldbe issued.

Recalls General Motors recalled 1.3 million trucks in 2005, and in 2006 NHTSA de-tected a fire risk in a two-inch-long speed control deactivation switch on ô.7 millionFord vehicles with cruise control. Recalls in 2007 were the lowest in four years, and theauto industry credited their efforts to reduce defects.

Recalls (China) In 2004 China issued auto recall regulations, and in 2006 22 au-tomakers recalled 283,536 vehicles. In 2007 Honda's joint venture with Guangzhou Au-tomobile Corporation recalled 500,000 vehicles because of possible power steering andoil pump problems, and Honda's other joint venture with Dongfeng Motor Corpora-tion recalled 45,000 CR-V SUVs because of shock absorber problems.

Recalls (Japan) In 2006 police in Japan charged that Toyota had covered up a defec-tive steering mechanism in an SU V. The company recalled the vehicles after MitsubishiMotors executives were arrested for covering up vehicle defects.

Products Liability A products liability lawsuit against Ford for an alleged defectiveroof on Expeditions went to trial in a California state court. CEO Tom LaSorda ofChrysler said, "The cost of lawsuits adds at least $500 to the price of every vehicle." Astudy by Tillinghast-Towers Perrin estimated that the cost of tort cases in 2004 was$260 billion, which represented 2.23 percent of GDP or $886 per person in the UnitedStates. Plaintiff lawyers and their Trial Lawyers Association had consistently succeededin stopping federal tort reform.

Intellectual Properly (China) In 2007 China Automobile Deutschland began sellingin Europe the Jonway UFO, an SUV built in China that was a copy of a Toyota RAV4,the best-selling SUV in Europe. Toyota had failed to patent the design of the RAV4 inEurope. Toyota filed for patent protection for its next-generation RAV4.

Media Coverage An activist with the Rainforest Action Network obtained a badgeof a Mercedes Benz executive and attended the media day preceding the North Amer-ican auto show. The activist asked a Toyota executive hostile questions while filmingwith a video camera. Noticing the false badge, the executive knocked the camera to theground. The episode including the camera falling to the ground was filmed by othermedia and quickly appeared on YouTube.

Interests

Interests include those who have a stake in an issue and the organizations they form.U.S., Asian, and European automobile companies have interests that are opposed onsome issues, such as the unionization of the plants of Japanese companies, hut arealigned on others such as the state regulation of carbon dioxide emissions. Other inter-ests with direct economic stakes in these issues are car buyers and employees. Someinterests are well organized, as in the case of workers represented by the UAW, andothers, such as car buyers, are unorganized.

Interests include special interest, activist, and advocacy groups and other NGOs.Special interest groups pursue issues because of the benefits that accrue to theirmembers, as in the case of the trial lawyers' association. Watchdog groups monitor the

CHAPTER 1 Market and Nonmarket Environments 9 U

activities of firms and call those activities to the attention of the media, government,and public. Advocacy groups, such as the NRDC, represent the interests of individuals,such as those affected by pollution. Activist groups, such as the Rainforest ActionNetwork, take direct action against firms to force them to change their policies.

The organized and unorganized interests include:7

Organized Interests

Alliance of Automobile ManufacturersEuropean Automobile ManufacturersMothers Against Drunk Driving

National Automobile Dealers AssociationNational Minority Automotive Advocacy CoalitionNatural Resources Defense CouncilUnited Auto WorkersRainforest Action Network

Trial lawyers

Unorganized Interests

Car buyersCitizens affected by global warmingNonunion workers (Toyota)Taxpayers

Institutions

The market and nonmarket environments in Figure 1-1 include activities that takeplace both within and outside formal institutions. The principal government institu-tions are legislatures, the executive branch, the judiciary, administrative agencies, regu-latory agencies, and international institutions such as the World Trade Organization(WTO). These institutions both establish rules and serve as arenas in which interestscompete to influence those rules. The nonmarket environment includes the set of laws,such as a fuel economy standard of 35 mpg, established by these institutions, as well asregulations, such as safety standards, established by administrative and regulatoryagencies. The nonmarket environment also includes the common, or judge-made, lawof torts, which governs the liability system.

Institutions can also be established by private means. Such institutions includemarkets, the insurance system, and voluntary agreements such as those pertaining tocarbon dioxide emissions in the European Union. The nonmarket environment also in-cludes nongovernmental institutions such as the news media and public sentiment. Asconsidered in Chapter 3, the news media plays an important role in informing those inthe nonmarket environment about issues, but it also serves as an institution. That is,firms and other interests attempt to communicate to the public through the newsmedia. The NRDC and other NGOs and activist organizations attempt to influencecompanies such as Toyota through public sentiment.

Institutions are not unitary bodies. Congress is composed of two chambers and535 members who represent constituencies with varied interests. Institutions also haveinternal structures that affect how nonmarket issues are addressed. Congress acts bymajority rule, has a committee system, and follows a complex set of procedures forenacting legislation. Understanding the workings of these institutions, their proce-dures, and the forces that operate within them is essential for successful managementin the nonmarket environment. Managers must also be familiar with the mandates,agendas. and procedures of regulatory agencies, such as NHTSA and EPA, and thestandards used by the courts in rendering judgments about their actions.

Not all relevant interests are listed.

• 10 PART I Strategy and he Nonmarket Environment

Government officeholders may be active on nonmarket issues, and their actions tosome extent reflect their personal interests. Their actions, however, are usually con-strained by the mandates, procedures, and policies of the institutions in which they holdoffice and by the preferences of their political principals. The head of the EPA, for ex-ample, is accountable to the president, Congress, and the public. Legislators not onlymust follow legislative procedures and respect committee jurisdictions, but they alsomust be attentive to the preferences of their electoral constituents. Regulators must re-spect the mandates in their enabling legislation and follow a complex set of administrativeprocedures, both of which provide bases for judicial review. In addition, regulators musthe attentive to their political principals in Congress and the office of the president. Forthese reasons, institutional officeholders, such as members of Congress and the adminis-trator of NHTSA, are considered part of the institution rather than as an interest.8

Some institutions are specific to an individual country, whereas others represent aset of countries. The institutions in whose arenas the nonmarket issues for the automo-bile industry are addressed can he categorized as follows:

United States

CongressPresidencyNHTSACourts - federal

Courts - stateOSHACalifornia legislatureEPATorts -liability

International

European CommissionEuropean ParliamentNAFTAEnvironmental regulatory agencies (India)National Development and Reform Commission (China)State Council (China)

Global

WTOKyoto TreatyNews mediaPublic sentiment

Information

Information refers to what interests and institutional officeholders know about anissue, the consequences of alternative courses of action, and the preferences of thoseconcerned with the issue. Issues are often contested because interests have conflictingpreferences regarding their resolution, as in the case of the proponents and opponentsof a CO2 emissions standard of 120 grams per kilometer in the European Union. Issuescan also be contested because interests have different information. Auto companieshave superior information about the preferences of car buyers for higher fuel econ-omy, and environmentalists may have superior information about the extent of publicconcern about climate change. Organizations such as the National Academy of

The exception is when the jobs of officeholders, the budget, or the status of the office is at stake.

CHAPTER 1 Market and Nonmarket Environments 114

Sciences as well as universities play an important role in providing scientific assess-ments of issues such as fuel economy and auto safety.

Information is also frequently at the heart of strategies for addressing nonmarketissues. Lobbying, for example, involves providing information to officeholders aboutthe likely consequences of policy alternatives as in the case of Nissan and the dual fleetexception. Information provision is also important in regulatory rule making becauseof the complexity of most regulatory issues and because agencies are required to de-velop a record supporting their actions. Information can also be an instrument of non-market competition. On the issue of California's law to reduce CO2 emissions, theUnion of Concerned Scientists estimated that compliance would increase the cost of aFord Explorer by $1,960, whereas the Alliance of Automobile Manufacturers esti-mated that the cost increase would be $4,361.

Information can be important to the progress of issues. The experience withNAFTA and the impact of imports from China on jobs in the United States and Eu-rope generated opposition to further trade liberalization and threatened the free tradeagreement with Korea. Information can also lead to resolution of an issue. Mountingevidence and growing public concern about climate change led automakers in theUnited States to stop opposing higher fuel efficiency standards, and the environmentalgroups' campaigns targeting Toyota sought to mobilize the public to pressure Toyota todo all it could to reduce CO2 emissions.

The chapter cases on the pharmaceutical industry, McDonald's, and Google pro-vide opportunities to characterize the issues, interests, institutions, and information intheir nonmarket environments and to consider the progress of the issues.9

CHANGE IN THE NONMARKET ENVIRONMENTThe nonmarket environment changes as issues are resolved, current issues progress,and new issues arise. This section focuses on the origins of issues and the forces thatgive rise to them. The following sections address the anticipation of nonmarket issuesand their progression and resolution.

Nonmarket issues originate from both external forces and a firm's own actions.Most changes in the tax law originate in response to ideas that capture a degree of polit-ical support. However, the issue of eliminating the investment tax credit, which hadbeen a component of U.S. tax policy for over 20 years, arose in part because of politicalaction by service industries that viewed the credit as a subsidy to capital-intensive indus-tries. The issue of automobile safety regulation arose from an automobile accident andarticles by two young policy activists, The issue of a possible health risk from the electro-magnetic field generated by high-voltage electricity transmission lines arose from asmall-scale inferential study linking power lines to leukemia in children. As the variedorigins of these issues indicate, managers must be sensitive to the sources of nonmarketissues-even those such as possible health risks from the electromagnetic field gener-ated by transmission lines-that initially seem remote or even far-fetched.

Nonmarket issues have five basic sources:

• Scientific discovery and technological advancement• New understandings• Institutional change• Interest group activity• Moral concerns

Scientific discovery and technological advancement can produce fundamentalchanges in both the market and nonmarket environments. In the market environment,they create opportunities for new products and processes, new applications of existingknowledge, and the foundations for future discoveries. They also give rise to nonmarketissues. Measurements suggesting that the earth was warming spawned issues ranging

The fuel economy issue in the United States is considered in the Part [I integrative cnse, Fuel EconomyStandards 2007.