BCG matrix which is also known as Boston Consulting group matrix was developed in 1970s. It is a planning tool to plot company’s offering or services in four different quadrants or in square matrix by identifying your product lines and what you should do with them? It is also known as growth-share matrix. It is used by company to decide what SBU’s we should keep and invest more, which one they should sell or divest.
Before we understand how to construct BCG Matrix lets understand these terms first
1) Market growth rate
2) Relative Market Share
3) SBU (Strategic Business Units).
1) Market Growth Rate:
The 1st variable on Y- axis is is the Market Growth Rate. It is the rate at which a market’s size is growing. We can figure out the market growth rate from industry reports, which are usually available online. So the formulae to calculate Market growth rate is
Market Growth Rate = Total sales in current year / Total sales in previous year
Say for examples if your company’s sales is growing by 15%, but the industry is growing by 20%, you are lagging behind your competition by 5% or Industry is growing at 12%, then you are leading ahead of your competition by 3%.
Competition is very severe in markets that has low growth. Now every company is fighting to get some share in the fixed pie.
2) Relative Market Share :
The 2nd variable on X- axis is the Relative Market share. One such assumption that we take in BCG matrix is that if a company has very good market share then it is successful from a financial standpoint. Market share is generally expressed as a percentage and to have high market share, you generally have to be in market for a very long time, have been benefited from economies of scale and customers have purchased your products and have been somewhat satisfied if you’re going to generate high market share.
Market share is defined in terms of the percentage of your company in the industry that is measured either in revenue terms or unit volume terms. So the formulae to calculate market share is :
Market share = ( Company’s Total sales / Total Industry Sales) * 100
Say for example, let’s say that the total sales in your industry were $10 million last year. Your company sales total sales is $100,000. The to calculate market share we have $100,000 / $10 million. It come to .01 and If we multiply this by 100, you find that your market share is 1%.
3) Strategic Business Unit (SBU)
SBU is an independent fully functional business unit which has its own vision and mission goal and objectives. They have their own functions like HR, Finance, Operations etc.
How to construct BCG matrix:
- First construct a square matrix of 2×2 .
- On the Y-axis we list Market growth rate and on X-axis we list Market share.
- Now add SBU’s as “Star, Cash Cows, Question Mark, Dog) in each of these four quadrants based on following :
- Stars in the Upper Left matrix. They are the one whose both market share and growth rate are high. Company’s ultimate goal is to keep all it’s products in Star. But more star means more expenses. In addition, the stars lead to a large amount of cash generation and cash consumption. Therefore, an attempt should be made to maintain market share and support further growth; otherwise, a star will become a cash cow.
- Cash Cows in the lower left matrix. They are those whose market share is high but Growth rate is low. It means you can take money from here and can invest somewhere else. Basically, cash cows of company helps in investing like Stars. Maturity phase of product generally come under cow. I case of cash cows you usually engage in a harvest strategy which means we will reduce financial support. The product is now already going to sell by itself. It makes no sense if we still continue to put more money into it. Instead, we should focus on generating as much cash inflow as possible. Companies in this category generally follow stability strategies. In addition, these companies required little investment and generate cash that can be used for investment in other business units.
- Question marks in upper right matrix. They are also called problem children because they generally are problematic. They are those whose market share is low but their growth rate is high. Because we don’t know much about them and how they are going to behave in the future. Now when you are introducing a new product in the market, they are generally placed in question marks because you will introduce new product in the growing market, but you are not aware of its market share. Maybe you shift from question mark to star but directly shift is rare. But generally, it has seen that one in question mark has the potential to enter Star.
- Dogs in the lower right matrix. They are the one whose both market share and growth rate are low. Declining phase of product generally come under dog. It means you should not invest more in Dog’s. What will you do after spending money on it? Remove the products in dog category. They’re sucking up a lot of cash. We don’t necessarily want to invest in them. But why would anybody have a dog in their portfolio anyway? Well, the thing is, is it’s not always starting out as a dog. Think about it. Sometimes it’s a question mark that doesn’t work out and becomes a dog, or sometimes products cycle through. I mean, think about the first PlayStation. When it came out. It was a total question mark because the console gaming industry was growing like crazy. And then we didn’t know we’re going to be and it started off as a small time player. Right.
- Now place your products or SBU’s in either of these four quadrants based on their position with respect to Market growth rate and Market share.
Real-life BCG matrix example
BCG Matrix of Apple Company:
Apple has lot of products from iPhone to Laptops to iPod and many more.
Lets plot the BCG matrix of Apple company.
Star: iPhone is Apple’s cash cow and has higher return on assets than its market growth rate therefore Apple can invest the excess cash generated in other projects or products.
Question mark: Apple are now introducing Apple Smart TV’s.
Cash Cows: iPads, 10 years ago when it first came out was a star for Apple but not now. Apple’s MacBook has steady market share and revenue, which make MacBook a cash cow for the Apple.
Dogs: iPods at one time as the best thing that they have invented at that time but Apple fails to make this a successful product
Watch this animated YouTube video for details :
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