Portfolio Analysis

Objective: to introduce one of a key element of self-analysis method which assess the strength of a business in the market

Portfolio Analysis
Portfolio analysis, which is one of a key element in the self-analysis of the company, extends strengths assessment in three direction.

First, it combines the assessment of business position with a market attractiveness evaluation which emerges from external analysis (in general) and market analysis (in particular). Second, it includes the analysis of multiple SBUs in one analysis which addresses the SBU investment decision. It focuses on the issues of which SBUs should receive the available cash. Third, it offers baseline recommendations concerning the investment strategies for each SBU.

Simply, the Purpose?

Simply, the purpose of conducting Portfolio Analysis is; To understand what businesses the company operate in - the collection of businesses and products that make up the company. And how these businesses relate to each other in (a) their ability to supply financial resources to the organization, or (b) their need for financial resources from the organization - simply to decide which businesses should receive more, less, no investment.

What is an SBU?

The first step in the portfolio analysis is to identify the key businesses making up the company. The companys key businesses (a company division, a product line, or a single product or brand) are called strategic business units (SBU). It may be less difficult to define SBUs in multibusiness organizations (such as General Electric, Christian Dior, etc) which are diversified into many different businesses.

How to Identify SBUs?

The following are some characteristics and attributes of an SBU:

It is the basic competitive unit of a company. It has a specific and identifiable group of customers. It has specific and identifiable competitors. It can be measured as an independent entity in terms of profit and loss. Therefore, it may require a separate marketing strategy.

In order to identify the companys SBUs, one of the simplest way is to develop a matrix. On the horizontal axis, there will be the customer groups the company currently serve. On the vertical axis, there will be product or product groupings the company currently serve. To define the company SBUs, each customer group will be needed to match up with the product or product groupings. When the matrix is finished, there will be some blocks containing x. X represent where the company have a strategic business unit. It is the company versus the competition for a specific group of customers, with a specific set of products as a competitive tool.

Customer Group 1 Product(s) 1

Customer Group 2

Customer Group 3

Product(s) 2

Product(s) 3

Different Portfolio Models

There are different portfolio models. However, in this course, two of them will be discussed. The BCG growth-share matrix, introduced by the Boston Consulting Group. The business strength-industry attractiveness matrix associated with General Electric and McKinsey & Co.

BCG Growth-Share Matrix

In Boston Consulting Groups BCG GrowthShare Matrix Analysis, SBUs are evaluated from two ways; (a) The attractiveness of the SBUs market (market growth) and (b) the strength of the SBUs position in that market (market share). In BCG approach, the company classifies all its SBUs into 4 types as star, cash cow, question mark and dog according to their market growth and relative market share.

Growth and Market-Share Dimension

The BCG growth-share matrix model, as being both simple and easily quantifiable, suggests that an analysis of the market can best be summarized by knowing its growth rate, and that the best summary indication of a firms strength in a market is its relative market share. The growth dimension is usually set at a 10-percent annual growth rate. Thus, markets growing in excess of 10 percent are considered to be high-growth markets. The market-share dimension is defined by the ratio of market share to the market of the largest competitor.

BCG Growth-Share Matrix

Market
Growth high Rate

low high low

Relative Market Share

Stars; are high-growth, high-share businesses or products. They often need heavy investment to finance their rapid growth. Therefore, they may not be producing a positive cash flow. The business strategy will generally be for growth fueled by externally acquired capital. Eventually, their growth will slow, and they will turn into cash cows. Cash cows; are low-growth, high-share businesses or products. These established and successful SBUs need less investment to keep their market share. They produce a lot of cash to be used for other business units of the company. They are either milked for investment in stars or question marks or harvested if there is little optimism for a stable future.

Question marks; sometimes called problem children, are low-share business units in high-growth markets. They need a lot of cash to keep and increase their share; they can not generate enough cash themselves. Management must decide which question mark it should build into stars and which should phase out. Dogs; are low-growth, low-share businesses and products. They often have poor profitability. Therefore, the business strategy for a dog is most often to divest, but occasionally to hold for possible strategic repositioning as a question mark or cash cow.

Strategy Implications
Once the company classifies its SBUs, it must

determine what to do with them. Imagine yourself in a poker game. The other players at the table are your competitors. The cards in your hand represent your business. Each card represents a single strategic business unit. To win the game, you need to decide how strong your hand is and what you must do with each card in order to give you the highest probability of holding a winning hand.

There are four strategies. The company can;

invest more in the business unit in order to build (increase) its share. invest just enough to hold (keep) the SBUs share at the current level. it can harvest the SBU, milking its short-term cash flow regardless of the long-term effect . divest (kill) the SBU by selling it or phasing it out and using the resources elsewhere.

Limitations of the BCG Matrix

It is very simple; focuses only on two dimensions growth and market share. Although they are important, much more is needed. E.g. a restaurant could have a low market share with minimal industry growth but be producing an excellent profit. It assumes that growth markets are attractive markets, therefore strategies are developed accordingly. The analysis is highly sensitive to the definition of the product market. E.g. laptop computers or all personal computers? It focuses on cash flow. However, ROI, sales growth, risk etc are also important.

The Business Strength-Industry Attractiveness Matrix

To eliminate some of the limitations of the BCG growth/share matrix, a more complete matrix analysis was developed by the General Electric planners and mostly used McKinsey & Co - a management consulting firm. The primary improvement of BS/IA matrix is that it allows for the analysis of multiple variables (rather than only market share and growth) depending on the context. And, rather than focusing on cash flow , it concerns potential future return on investment.

Business Strength and Industry Attractiveness Dimensions Horizontal axis market Vertical axis business
attractiveness; strength;

Size Growth Customer satisfaction levels Competition; quantity, types, effectiveness, commitment Price levels Profitability Technology Government regulations Sensitivity to economic trends

Size Growth Share of segment Customer loyalty Margins Distribution Technology skills Patents Marketing Flexibility Organization

Weight, Rating, Value?

In BS/IA matrix, each of the key variables used must be given a weight, rating and value. The weight will be based on its importance to the company, relative to other selected variables. The total point must equal 10. the weights can be determined by management or, when possible, by customer surveys. A rating (or grade) will be given for each business strength variable. E.g. a strength would receive a high score, a weakness would receive a low score.

The rating for each variable is then multiplied by its weight to obtain the variables value. The values are individual summed for total value for business strength for that particular business. For industry attractiveness, influencing variables will be given a weight based on their importance to the business, and a rating based on favorable or unfavorable conditions in the environment (opportunity or threat?). The total value for industry attractiveness is calculated in the same manner as for business strength. The two scores for each business unit are then used to position the business on the matrix.

Business Strength

Weight (importance to the firm: must add up to 10)

Rating (performance; 1=poor, 10= excellent)

Value (Weight Rating)

Profit 3 Pro/ser qual. 3 Man. Skills 2 Location 1 Atmosphere 1 Total value for business strength

8 8 7 6 5

24 24 14 6 5 73

Industry Attractiveness

Weight

Rating (present trend; 1=not attractive 10=very attractive)

Value

Growth 2,5 Profit margins 3,5 Comp. intensity 3 Remote env. 1 Total value for industry attractiveness

5 7 5 7

12,5 24,5 15 7 59

Industry Attractiveness
High
High
Premium invest / grow

Medium
Selective invest / grow

Low
Protective selectivity / earnings
Restructure harvest / divest Harvest / divest

100

Business Strength
Medium

Challenge invest / grow

Prime selectivity / earnings Opportunity harvest / divest

67

Low

Opportunistic selectivity / earnings

33

100

67

33

Strategy Implications
The position on the matrix (determined according to the weight, rating and value) will indicate the appropriate strategy (as in the BCG matrix). Green cells define the businesses that will receive the resources to grow; the so called green light businesses. The market is high or medium in attractiveness and the organization has high or enough skills and resources to take advantage of the market.

Red cells define the businesses that lack opportunity in terms of market and or company capabilities; the so called red light businesses. They are managed to harvest their resources or are just divested. Yellow cells define businesses that are to receive selective investment, and where caution (the yellow light) is the operating style.

Limitations of BS/IA Matrix

Although richer and more broadly applicable than the BCG growth-share matrix, it can be more subjective in the selection and weighting of the factors. Different business units may involve different factors which makes the analysis ambiguous. As it is the case with the BCG growth-share matrix, the results are very sensitive to the definition of the product market. E.g. luxury cars, all cars?