The external factors in the business environment, analysed using PESTEC (political, economic, social, technological, environmental and competitive), and their impact on the activities and decisions of an organisation.

What this key area is asking

The SQA wants you to analyse the external environment, the forces outside a business that it cannot control but must respond to. The standard tool is PESTEC, an acronym covering six categories. Higher expects you to name a factor, describe it, and explain its impact on the organisation's activities and decisions, not just list the letters.

The PESTEC framework

Political

Government and the law shape the conditions a business operates in. Changes in taxation (corporation tax, VAT) affect profit and prices; new legislation (employment, consumer, health and safety law) raises compliance costs; government policy and spending create or remove demand; and trade agreements or tariffs open or close overseas markets.

Economic

The state of the economy strongly affects demand and costs. Interest rates change the cost of borrowing and the spending power of customers; inflation raises costs and squeezes real incomes; unemployment affects both demand and the availability of labour; exchange rates alter the price of imports and exports; and the trade cycle (boom, recession, recovery) drives overall demand up and down.

Social

Society's tastes, values and structure change what people want. Demographic shifts such as an ageing population, lifestyle trends such as healthy eating or working from home, and changing attitudes such as concern for ethics and sustainability all reshape demand. A firm that ignores social change loses relevance.

Technological

New technology can make existing products or processes obsolete (the SQA's classic example), or open opportunities: e-commerce changes how firms sell, automation and robotics change how they produce, and data and the internet change how they reach customers. Keeping up is costly but falling behind is fatal.

Environmental

Growing concern for the planet brings regulation on emissions, waste and packaging, pressure to source sustainably, and reputational risk. The environment also includes physical events such as extreme weather and natural disasters that disrupt supply chains. These raise costs but also create markets for greener products.

Competitive

The actions of rivals force a response. A competitor's price cut, new product, improved quality or aggressive marketing can take customers away, so the firm must react by matching, differentiating or innovating. The level of competition in the market shapes pricing and profitability.

Why analysing external factors matters

A firm that scans PESTEC regularly can spot threats early and exploit opportunities. The same change can cut both ways: a rise in health awareness threatens a fast-food chain but is an opportunity for a salad bar; new technology threatens a high-street shop but helps an online retailer. Higher rewards this two-sided thinking.

Examples in context

Example 1. A high-street retailer and e-commerce (technological). The rise of online shopping is a technological external factor. For a traditional high-street retailer it is a major threat: footfall falls and rivals sell cheaply online. The firm must respond by building its own website and offering click-and-collect. For a pure online start-up the same trend is an opportunity. The factor is identical; the impact depends on the business.

Example 2. A weak pound for an exporter and an importer (economic). A fall in the value of the pound makes UK exports cheaper abroad, boosting an exporter's sales, but makes imports dearer, raising costs for a firm that buys materials from overseas. The same exchange-rate change helps one business and harms another, the kind of balanced point the SQA rewards.

Try this

Q1. Describe two political external factors that could affect a business. [2 marks]

• Cue. A rise in corporation tax reduces profit; new employment or consumer legislation raises compliance costs; changes in government spending alter demand; trade deals or tariffs open or close markets (any two).

Q2. Explain how rising environmental concern could be both a threat and an opportunity for a business. [4 marks]

• Cue. Threat: tighter regulation on emissions, waste and packaging raises costs, and firms seen as polluters lose customers. Opportunity: demand grows for green, sustainable and ethical products, so a firm that adapts can win new customers and improve its reputation.