The BCG Growth-Share Matrix

The BCG Growth-Share Matrix

The BCG Growth-Share Matrix is a portfolio planning model developed by Bruce Henderson of the Boston Consulting Group in the early 1970's. It is based on the observation that a company's business units can be classified into four categories based on combinations of market growth and market share relative to the largest competitor, hence the name "growth-share". Market growth serves as a proxy for industry attractiveness, and relative market share serves as a proxy for competitive advantage. The growth-share matrix thus maps the business unit positions within these two important determinants of profitability.

This framework assumes that an increase in relative market share will result in an increase in the generation of cash. This assumption often is true because of the experience curve; increased relative market share implies that the firm is moving forward on the experience curve relative to its competitors, thus developing a cost advantage. A second assumption is that a growing market requires investment in assets to increase capacity and therefore results in the consumption of cash. Thus, the position of a business on the growth consumption.

Henderson reasoned that the cash required by rapidly growing business units could be obtained from the firm's other business units that were at a more mature stage and generating significant cash. By investing to become the market share leader in a rapidly growing market, the business unit could move along the experience curve and develop a cost advantage. From this reasoning, the BCG Growth Share Matrix was born.

The four categories of BCG Matrix

1. Dogs - Dogs have low market share and a low growth rate and thus neither generate nor consume a large amount of cash. However, dogs are cash traps because of the money tied up in a business that has little potential. Such businesses are candidates for divestiture.
2. Question marks - Question marks are growing rapidly and thus consume large amounts of cash, but because they have low market shares, they do not generate much cash. The result is large net cash consumption. A question mark (also known as a "problem child") has the potential to gain market share and become a star, and eventually a cash cow when the market growth slows. If the question mark does not succeed in becoming the market leader, then after perhaps years of cash consumption it will degenerate into a dog when the market growth declines. Question marks must be analysed carefully in order to determine whether they are worth the investment required to grow market share.
3. Stars - Stars generate large amounts of cash because of their strong relative market share, but also consume large amounts of cash because of their high growth rate; therefore, the cash in each direction approximately nets out. If a star can maintain its large market share, it will become a cash cow when the market growth rate declines. The portfolio of a diversified company always should have stars that will become the next cash cows and ensure future cash generation.
4. Cash cows - As leaders in a mature market, cash cows exhibit a return on assets that is greater than the market growth rate, and thus generate more cash than they consume. Such business units should be "milked", extracting the profits and investing as little cash as possible. Cash cows provide the cash required to turn question marks into market leaders, to cover the administrative costs of the company, to fund research and development, to service the corporate debt, and to pay dividends to shareholders. Because the cash cow generates a relatively stable cash flow, its value can be determined with reasonable accuracy by calculating the present value of its cash stream using a discounted cash flow analysis.

Under the growth-share matrix model, as an industry matures and its growth rate declines, a business unit will become either a cash cow or a dog, determined solely by whether it had become the market leader during the period of high growth. While originally developed as a model for resource allocation among the various business units in a corporation, the growth-share matrix also can be used for resource allocation among products within a single business unit. Its simplicity is its strength - the relative positions of the firm's entire business portfolio can be displayed in a single diagram.

How to Develop Good BCG Growth Share matrix of a Company?

SBUs or products are represented on the model by circles and fall into one of the four cells of the matrix already described above. Mathematically, the mid-point of the axis on the scale of Low-High is represented by 1.0. At this point, the SBU’s or product’s market share equals that of its largest competitor’s market share. Next, calculate the relative market share and market growth for each SBU and product. Figure below depicts the formulas to calculate the relative market share and market growth.

• Relative Market Share = SBU Sales this Year ÷ Leading Rivals Sales this Year
• Market Growth Rate = (Industry Sales this Year – Industry Sales Last Year) ÷ Industry Sales Last Year.

Oftentimes, if you are versed with a particular industry and companies operating in it, you could draw up a BCG matrix for any company without necessarily computing figures for the relative market share and market growth. Figure above depicts a fairly accurate BCG growth-share matrix for Apple Computer developed in the spring of 2005 without the author calculating the relative market share and market growth.

Once the products or SBUs have been plotted, the planner then has to decide on the objective, strategy and budget for the business lines. Basically, at this juncture the organizations should strive to maintain a balanced portfolio. Cash generated from Cash Cows should flow into Stars and Question Marks in an effort to create future Cash Cows. Moreover, there are 4 major strategies that can be pursued at this stage as described in the ensuing section.

Available Strategies to Pursue

1. Build - The product or SBU’s market share needs to be increased to strengthen its position. Short-term earnings and profits are deliberately forfeited because it is hoped that the long-term gains will be higher than this. This strategy is suited to Question Marks if they are to become stars.
2. Hold - The objective is to maintain the current share position and this strategy is often used for Cash Cows so that they continue to generate large amounts of cash.
3. Harvest - Here management tries to increase short-term cash flows as far as possible (e.g. price increase, cutting costs) even at the expense of the products or SBU’s longer-term future. It is a strategy suited to weak Cash Cows or Cash Cows that are in a market with a limited future. Harvesting is also used for Question Marks where there is no possibility of turning them into Stars, and for Dogs.
4. Divest - The objective of this strategy is to rid the organisation of the products or SBUs that are a drain on profits and to utilize these resources elsewhere in the business where they will be of greater benefit. This strategy is typically used for Question Marks that will not become Stars and for Dogs.

Strengths and Weakness of the BCG Model Matrix

Strengths of the BCG Model:

1. The BCG Matrix allows for a visual presentation of the competitive position of all units in a business portfolio.
2. The BCG model allows companies to develop a customized strategy for each product or business unit instead of having a one-size-fits-all approach.
3. Simple and easy to understand.
4. It works well for companies with multiple divisions and products
5. Allows for quick and simple screening of business opportunities in order to determine investment priorities in the portfolio of products/business units.
6. It is used to identify how corporate cash resources can be best allocated to maximize a company’s future growth and profitability.

Weaknesses of the BCG Model:

1. The BCG model focuses on major competitors when analyzing the relative market share of a company. However, it neglects some small competitors with fast growing market shares.
2. It is a rather short-term model that doesn’t fully show how characteristics of business units change over the long term.
3. The BCG model is more focused on business units than individual products
4. Assumes that high rates of profit are directly related to high market share
5. The BCG model looks at a business unit in isolation without taking into consideration the possible cooperation among various business units within the organization
6. BCG is a primarily qualitative model
7. The Y axis represents the annual market growth which fails to see the full picture that goes beyond a one-year span
8. It does not take into consideration other important factors such as: market barriers/restrictions, market density, profitability, politics
9. With this or any other such analytical tool, ranking business units has a subjective element involving guesswork about the future, particularly with respect to growth rates.

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