Forensic Analysis of Financial Statements - PESTEL Matrix

Continuing with our series,

In previous three articles (published on CAclubindia), we had discussed:

• Article-1: Basics of Financial Analysis


• Article-2: Basics of Understanding Business and Industry
• Article-3: SWOT Matrix as a tool for understanding business

In the last article, SWOT Analysis was discussed. SWOT Analysis covers broader scope. PESTEL Analysis can be referred as a Comprehensive version of SWOT Analysis. Rather PESTEL Analysis complements SWOT Analysis since PESTEL deals with specific external factors which may be classified under Opportunities and Threats. Now we will discuss PESTEL Analysis which can also be used as a tool for the systematic understanding of a business.  

PESTEL ANALYSIS

PESTEL refers to,

P - Political
E - Economic
S - Social
T - Technological
E - Environmental
L - Legal

POLITICAL

This factor takes into consideration role of Government. It includes taxation policies, environmental and labor laws, foreign trade policies etc. These factors affect how business operates.

For example, the government has high intervention specifically healthcare, education, infrastructure, and agriculture sector. For pharma industry, NPPA (national pharmaceutical pricing authority) notifies the list of essential medicines (i.e. NLEM) for which drug prices are controlled.

ECONOMIC

This factor takes into consideration GDP growth, interest rate changes, exchange rates, inflation rate, disposal income of consumers, per capita income etc. This factors can be further bifurcated in Macro and Micro factors.

For example, changes in interest rate cause changes in bankers’ lending rate which in turn affect borrowing cost of the company.

SOCIAL

This factor takes into consideration population growth, age distribution, living standards, health consciousness, and also includes cultural aspects as well.

For example, India has highest growth for smartphone demands being India has the younger population.

TECHNOLOGICAL

This factor takes into consideration Innovation, increasing automation, cyclical change of technology, research and development activities, and technology incentives etc. It affects to decision making of any organization.

For example, Mobile manufacturing Industry faces continuous technological innovations. Reliance Jio is the latest example who disrupted telecom market by launching 4G LTE services when there are no proper services for 3G available.

ENVIRONMENTAL

This factor takes into consideration weather, climate changes, availability of resources, pollution levels etc. which will have a direct bearing on companies operations.

For example, India has a good amount of resources, e.g. availability of labor, availability of important resources like water, electricity etc.     

LEGAL

This factor takes into consideration consumer law, various health and safety laws, employment-related laws, and business practices etc. For example, Payment of wages act & Minimum wages acts which provides various rules and regulations, which need to be followed by every company based on prescribed criteria.

PESTEL ANALYSIS EXAMPLE: Any banking Company

Any banking company like ICICI, SBI, Axis, HDFC bank etc. covers under service Industry. Below mentioned are various factors which either affect negatively or positively to the business of a company.

Political Factors

• Financial Inclusion Campaign by Mr. Narendra Modi (Prime minister) which positively resulted in the business of banking. Pradhan Mantri Jan Dhan Yojana (PMJDY) was also a part of Financial Inclusion objective to provide affordable banking services to people who are out of banking coverage.
• Digital India Campaign by Mr. Narendra Modi aims to increase use of technology and internet so that county is digitally empowered. This led to increase in use of various wallets, Credit-Debit card, Internet banking etc. which is beneficial for the banking industry. Rather it is also positive for the telecom sector.

Economic Factors

• Global factor like changes in Fed rate affects Indian banking industry.
• RBI monetary policy; increase in bank rate increases the cost of borrowings which results in the reduction in credit volume to the bank so the supply of money declines. This increase in bank rate is the symbol of tightening of RBI monetary policy.
• Other various economic indicators like GDP growth rate, IIP, and Manufacturing Index changes, Increase in NPA, Various schemes to deal with NPAs by RBIs.   

Social Factors

• Social factors are also influenced by Political factors. For example, Jandhan Yojna & digital India campaign led to increased awareness among rural areas about use and benefits of banking services.
• The present era is the Internet of Things (IoT). Now gaining knowledge becomes much easy as compared to what was before 10 years. Increase in literacy ratio also contributes positively to this sector.

Technological Factors

• Increase use of Artificial Intelligence can be the big thing for Banking Industry. For example, HDFC bank will use robots called 'humanoid' to answer general queries and basic information to customers as a part of an Artificial Intelligence project. Further, more focus is shifted to easy banking availability like SMS banking, Chatbots, smart keys etc.
• There is a big revolution coming to Banking Industry worldwide, which is called 'Blockchain Technology'. ICICI bank becomes first one to use this technology for international trade transactions and overseas remittances in India.

Legal Factors

• Since Indian banking system is large as Indian economy size, so it employs thousands of employees from diversified and different culture people, gender, background etc. Sexual harassment at workplace is one of the examples where they have to comply with legal requirements.
• Other legal requirements can be compliance with Information Technology Act, whistleblower policy, and various RBI regulations etc.

Environmental Factors

• Since banking is service industry so there is minimal pollution. They don’t pollute as like Manufacturing Industry. Therefore, there is no compliance requirement like waste control and disposal, noise pollution etc.

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