BCG Matrix in Portfolio Management

Abstract

The growth share matrix, also known as product portfolio matrix or Boston Consulting Group matrix, is a tool created with effort and collaboration by BCG partners. Alan Zakon made the first sketch and later, together with his colleagues, refined it. BCG's founder Bruce D. Henderson popularized the concept in an essay titled "The Product Portfolio" in BCG's publication Perspectives in 1970. The purpose of the matrix is to help organizations and businesses to analyse their business projects, that is, their product lines. This benefits the company allocate resources and is used as an analytical tool in brand marketing, product management, strategic management, and portfolio analysis. This article will thoroughly explain each component of the matrix and its meaning, together with a clear business case relevant to the category. Moreover, a it will also provide a critical overview of this matrix by looking into its strengths and when its best utilized against its limitations and misuses in the industry. Finally, a comparison to other similar matrices used in portfolio management, such as McKinsey matrix, etc.

OVERVIEW

The BCG Matrix evaluates a company's product portfolio by considering the relative strength of each business product and the growth rate of its corresponding market or industry. This approach provides a comprehensive analysis of the company's product portfolio, enabling more informed decision making. The matrix is divided into four quadrants, each representing a different type of business unit: cash cows, dogs, question marks, and stars. To use the BCG matrix, analysts plot a scatter graph to rank the business units (or products) on the basis of their relative market shares and growth rates. This allows them to visualize the company's overall product portfolio and identify which units are performing well and which may need attention. Cash cows are business units that have high market share in a slow-growing industry. These units typically generate cash in excess of the amount needed to maintain the business. They are regarded as staid and boring, in a "mature" market, yet corporations value owning them due to their cash-generating qualities. They are to be "milked" continuously with as little investment as possible, since such investment would be wasted in an industry with low growth. The cash generated from cash cows is used to fund stars and question marks, which are expected to become cash cows at some point in the future.

Dogs, more charitably called pets, are units with low market share in a mature, slow-growing industry. These units typically "break even", generating barely enough cash to maintain the business's market share. Though owning a break-even unit provides the social benefit of providing jobs and possible synergies that assist other business units, from an accounting point of view such a unit is worthless, not generating cash for the company. They depress a profitable company's return on assets ratio, used by many investors to judge how well a company is being managed. Dogs, it is thought, should be sold off once short-term harvesting has been maximized. Question marks (also known as problem children or wild dogs) are businesses operating with a low market share in a high-growth market. They are a starting point for most businesses. Question marks have the potential to gain market share and become stars, and eventually cash cows when market growth slows. If question marks do not succeed in becoming a market leader, then after perhaps years of cash consumption, they will degenerate into dogs when market growth declines. When a shift from a question mark to a star is unlikely, the BCG matrix suggests divesting the question mark and repositioning its resources more effectively in the remainder of the corporate portfolio. Question marks must be analysed carefully in order to determine whether they are worth the investment required to grow market share.

Stars are units with a high market share in a fast-growing industry. They are graduated question marks with a market- or niche-leading trajectory, for example, amongst market share front-runners in a high-growth sector, and/or having a monopolistic or increasingly dominant unique selling proposition with burgeoning/fortuitous proposition drive(s) from novelty, fashion/promotion (e.g. newly prestigious celebrity-branded fragrances), customer loyalty (e.g. greenfield or military/gang enforcement backed, and/or innovative, grey-market/illicit retail of addictive drugs, for instance the British East India Company's late-1700s opium-based Qianlong Emperor embargo-busting, Canton System), goodwill (e.g. monopsonies) and/or gearing (e.g. oligopolies, for instance Portland cement producers near boomtowns), etc.

The hope is that stars become the next cash cows. However, stars require high funding to fight competitors and maintain their growth rate. When industry growth slows, if they remain a niche leader or are amongst the market leaders, stars become cash cows; otherwise, they become dogs due to low relative market share. As BCG stated in their publication, the benefits of the growth share matrix can be seen in only diversified companies with a balanced portfolio that aim to capitalize on its growth opportunities

- stars whose high share and high growth assure the future;

- cash cows that supply funds for that future growth;

- question marks to be converted into stars with the added funds.

Strengths and limitations

“A company should have a portfolio of products with different growth rates and different market shares. The portfolio composition is a function of the balance between cash flows.… Margins and cash generated are a function of market share.”

— Bruce Henderson, “The Product Portfolio,” 1970.

One of the strengths of the BCG matrix is that it provides a simple framework for understanding a company's product portfolio. The matrix is easy to understand and provides a visual representation of a company's products. It helps companies identify where to focus their resources by highlighting areas of the portfolio that require investment and areas that can be "milked" for revenue. The matrix also helps companies identify products that may need to be divested or discontinued.

However, the BCG matrix has several limitations. First, the matrix is based solely on market share and market growth, ignoring other important factors such as competition and customer demand. Second, the matrix assumes that high market share and high growth are always desirable, which is not always the case. Third, the matrix is static and does not account for changes in the market over time. Products can move between categories over time, but the matrix does not provide a framework for this.

Despite its theoretical usefulness and widespread use, the efficacy of the growth-share matrix in contributing to business success has been investigated by several academic studies, resulting in its removal from some significant marketing textbooks. In 1992, a study was conducted by Slater and Zwirlein where they examined 129 firms that used the BCG matrix in their portfolio planning models. The study has shown that those firms tend to have lower shareholder returns. Furthermore, the BCG matrix has been criticized on several other grounds. For instance, it categorizes dogs as entities with low market share and relatively low market growth rate.

Comparison to other matrices

Alternatively, there are several methods in portfolio management that can offer a similar view on the growth share of a company. The most widely used method is developed by McKinsey and it is called – you guessed it, McKinsey matrix, also known as the directional policy matrix.

McKinsey matrix categorises business organizations into those with good prospects and those with less good prospects. It places business organizations according to two aspects:

- how attractive the relevant market is in which they are operating

- the competitive strength of the strategic business unit in that market.

The attractiveness can be measured by PESTEL or five forces analyses, while business unit strength can be defined by competitor analysis (for instance, the strategy canvas). For instance, managers in an organization with the portfolio shown in Figure will be concerned that they have relatively low shares in the largest and most attractive market, whereas their greatest strength is in a market with only medium attractiveness and smaller markets with little long-term attractiveness.

The matrix also offers strategy guidelines given the positioning of the business units. It suggests that the businesses with the highest growth potential and the greatest strength are those in which to invest for growth. Those that are the weakest and in the least attractive markets should be divested or ‘harvested’ (i.e. used to yield as much cash as possible before divesting). The directional policy matrix is more complex compared to the BCG matrix. However, it can have two advantages. First, unlike the simpler four-box BCG matrix, the nine cells of the directional policy matrix acknowledge the possibility of a difficult middle ground.