Portfolio Models

BCG Matrix

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Basic questions of corporate portfolio management

How should corporate management think about managing a number of businesses? Should other conditions be imposed on a project in addition to requiring that its NPV is positive?

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SBU - Definition
 A way of organising a business so that each unit sells an identifiable set of products to an identifiable set of customers in competition with an identifiable set of competitors. SBUs are managed independently with their own set of objectives. Resources , costs and profits are attributed to each unit separately.
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Strategic Business Unit ( SBU)

SBU originated from Mckinsay/ GE but well adopted by BCG Organising by SBU allows large diversified companies to compete as though they were a collection of smaller independent firms

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SBU Focus External focus

-SBUs are organised around markets and customers both external factors -each SBU serves a clearly defined market with an identifiable set of products -products are placed in different SBUs but may share same production facilities

Identifiable competitors Autonomous profit centers Distinct marketing strategies Separate accounting
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Portfolio Models: History

McKinsey sells GE on the idea of Strategic Business Units (SBUs) BCG attacks McKinsey with the GrowthShare Matrix and the Portfolio model McKinsey responds with its own Portfolio model, the Business Attractiveness Matrix Other models (life cycle, financial models)
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Common Elements
Graphical display of overall business Axes
Strength of Business Position (SW) Industry Attractiveness (OT)

A generic strategy is associated with a businesss position in the matrix Suggestions for allocating resources
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How Do Company Invest in Products

At the corporate level future earnings for the businesses are determined as basis for investment Investment Objectives act as a guideline for Resource allocation Corporate strategy ,Business strategy Investment strategy logically precede Marketing Strategy and represent a logical progression in strategic planning
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Investment Objectives
Growth in a business Hold / defend existing position Turnaround the business Harvest / wind down the business Divest /exit from a particular line of business

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BCG - Genesis
Westinghouse wanted to know why per unit costs decline when company gained experience in manufacturing products. This led to experience curve as a derivative of learning curve. Diversified companies could diversify risk and optimise performance of entire organisation by managing parts of their business as they would a portfolio of investments.
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Experience Effects
BCG hold that. -There is an opportunity to lower costs as company gains experience producing/marketing a product. Experience is gained by increasing sales volume over time and the more the experience gained the lower the costs to produce / market each unit  A key assumption of matrix
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Sources of Experience Effects

The learning curve Specialisation of labour Process innovations New materials Product standardisation Product redesign
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BCG Strategy Logic

High Market Growth Market Share Gains Accumulated Experience Lower Costs Than Competitors Higher Profits bcg
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BCG Matrix (Share Growth Matrix )

Objectives -to optimise the performance of entire portfolio of businesses in which the company competes -to balance the cash flow among those businesses designating some products as sources of funds and some as users of funds

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Share Growth Matrix Analysis...

A balanced portfolio Establishment of trends Competitive evaluation Market growth vs sustainable growth Financial analysis

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BCG Portfolio Analysis

Assumptions * companies with most experience in
production and marketing a product are likely to incur lowest costs * there is a long time correlation between market share and long term profitability

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Share Growth Matrix -Dimensions

Simple Two by Two matrix based on Market growth ( proxy for PLC) and Market share ( indicator for profit) For Market share , BCG uses concept of Relative Market share
co.'s sales of a product to Mkt. /segment Mkt..leaders sales of product to Mkt../segment  Relative market share is indicator of efforts required to gain or hold market share
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BCG Dimensions (contd)

Third dimension - size of market with bubbles of different sizes ,larger bubbles mean larger markets. -Size of bubbles can represent either sales volume of entire market or sales contribution of that market to companys profits . in either case larger markets are more important than smaller markets
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BCG Portfolio Matrix

MARKET SHARE DOMINANCE MARKET GROWTH RATE HIGH HIGH LOW

LOW

$
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BCG Portfolio Matrix

MARKET SHARE DOMINANCE HIGH MARKET GROWTH RATE LOW High growth Low market share Need cash Poor profit margins

HIGH

High growth Market leaders Require cash

LOW

$
Low growth High market share High cash flow
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Low growth Low market share Minimal cash flow

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Portfolio Matrix Example

MARKET SHARE DOMINANCE HIGH MARKET GROWTH RATE HIGH Notebook Computer (STAR) LOW Palmtop (PROBLEM CHILD)

LOW

Personal Computer (CASH COW)

Mainframe Computer (DOG)

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Positions of products-current&projected
STARS Problem 3c children

4c 5c
Divest

2c
High Market growth

3f 1c 2f 4f 6c

7c

Low

8c

Divest

1f
Cash Cows Dominant

6f

7f

Dogs
C - Current position F - Future position

Subordinate

Relative market share

Share Growth Matrix -a Dynamic Analysis ...

 Matrix can be used for dynamic than static analysis - to show how positions will change in the years ahead . - vertical movements of positions means changes expected in market conditions - horizontal movements are results of changes in strategy of company

By forecasting movements of markets and results of strategic choices for each of those markets company can assess its future position
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Changes in Positions Within Share Growth Matrix Leads to ...

category

? *** Cash cows Dogs

Source of funds Low High High Low

Need for funds High High Low Low

Cash balance -ve In need 0 In balance + In excess 0 to -ve in balance

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Portfolio Models: Flow of Funds

Lo w High Relative Share Market Growth Rate Hig h Star (Build)

Cash Cow (Harvest)

Low

Dog (Divest)

Problem Child (????)

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Portfolio Models: Evolution of businesses

Lo w High Relative Share Market Growth Rate Hig h Star

Cash Cow

Low

Dog (????)

Success sequence Disaster sequence

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BCG - Unfavorable Business Movements

Stars Problem children

Cash cows

Dogs

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Strategies for Resource Allocation

Provide financial resources if SBU (Problem Child) has potential to be a Star. Preserve market share if SBU is a successful Cash Cow. Use cash flow for other SBUs. Increase short-term cash return. Appropriate for all SBUs except Stars. Get rid of SBUs with low shares in low-growth markets.
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Build Hold Harvest Divest

Strategies for Portfolios

strategy Strategic thrust Market share stars Invest for growth Maintain or > dominance Fund growth Reduce work in progress, extend credit Cash cows Maintain mkt.position >cash earnings Maintain or milk for earnings Limit fixed investments Tighten credit, <a/c receivable > inv.turnover
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Dogs Manage for cash Forego share for profit Minimise & divest Aggressively reduce
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investment Working capital

Strategies for Portfolios

Strategy Product Stars
differentiation line expansion

Cash cows

Dogs

Price

promotion distribution

Lead, aggressive pricing for share Aggressive marketing Broaden distribution

Prune less Aggressive successful , pruning differentiate in key segments Stabilise prices Raise / raise

limit hold wide distribution

minimise Slow withdrawal

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Strategies for Portfolios

Strategy Stars Cash cows Dogs

Production

Research & Development

Personnel

Cost control

Go for max capacity utilization (offer capacity to others) Invest for line Limit R&D for expansion process /modified improvements products and Cheaper RM Assign key Retain winning managers to team this group Reward for effeciency Tight control Absolute control and go for scale on VPC economies
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Expand Invest , JVs Acquisition

Free up capacity

No R&D

Relocate

Tight control

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Strategies for Portfolios

strategy Strategic thrust Market share Investment Cash dogs Maintain selectively Maintain selective segments share Selective investment for dominance in segments Reduce Problem children Opportunistic development Invest selectively in share Fund growth

Working capital

invest

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Strategies for Portfolios

Strategy Product Cash dogs Emphasise on product quality , differentiate Maintain or Raise Maintain selectively segment Problem children Differentiation , Line extension Aggressive , Price for share gains Aggressive marketing Selective coverage

Price Promotion Distribution

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Functional Strategies for Portfolios

Strategy Production Cash dogs Increase productivity e.g. specialisation / automation Selective investment on cost savings areas Allocate key managers Tight control
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Problem children invest

R&D

Personnel Cost control

Invest on differentiation areas Invest Tight but not at the expense of entrepreunership 34

Criticisms of BCG Matrix

 Assumptions on experience effects -no guaranteed cost reductions.It requires concentrated effort and pressure -assumed cost reductions presupposes stability in product design and non erratic production rates -are we right in assuming that competition cost structures are alike? Effects of technology
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Criticisms of BCG Matrix

BCG strategic prescriptions - dogs are for harvesting or divesting -it may be wise to divest a star if future cash needs outstrip resources or it may not fit the main thrust of business or may be too small to worth keeping -destruction of bread winners -need for industry specific knowledge essential for rational decisions
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Problems in Portfolio Paradise: Product life cycle

Product life cycle is a self-fulfilling prophecy
sales decline, cut support further decline, abandon mature products

Weak Conceptual Foundations

Experience and profit/share effects are fuzzy

Stable or growing portfolio income requires a continuous stream of successful product introduction
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Problems in Portfolio Paradise: Market Share and Profitability

The relationship between market share and profitability is not direct, but rather indirect
Share is related to providing superior customer value Superior customer value leads to better margins and superior profitability

Niche markets are profitable although they appear to have a low market share (in the larger market)
Share in the niche is often large
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