BCG Matrix (Growth-Share Matrix) - Explained
What is the BCG Growth-Share Matrix?
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What is the BCG Growth-Share Matrix?
The BCG matrix, also known as the growth-share matrix, was created by the Boston Consulting Group, a prestigious business consulting firm. The purpose of the matrix is to allow a corporation that has multiple business units or is the parent company holding multiple businesses to categorize and examine those businesses based upon their market share and growth rates. These sub-businesses are known as strategic business units.
The BCG Growth Share Matrix is simple strategic planning tools that can aid companies in reviewing their brand competitive positions as well as assist in making key decisions such as whether to develop a certain business unit, sell the same, discontinue or increase investment. This tool works for firms with diversified product lines and involves plotting ones products on a four square matrix.
Back to: STRATEGY & PLANNING
Structure of the BCG Matrix
The matrix is a 2 x 2 quadrant a column heading Market Share and row heading Market Growth Rate. Market share compares the SBUs sales in the current year versus those of competitors. The market growth rate is this years industry sales minus the past years industry sales.
The y-axis of the graph/matrix represents rate of market growth while the x-axis represents a products overall market share.
Note, the market share is a company-specific metric; while, the market growth rate is an industry metric. Below is a visual representation of the matrix.
The model assumes that one of the main indicators for cash generation is relative market share, whereas the indicator for cash usage is the projected market growth rate. Mr. Anderson is often quoted as below in defense of the growth matrix as an effective tool; To be successful, 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. High growth products require cash inputs to grow. Low growth products should generate excess cash. Both kinds are needed simultaneously.
On either side of the grid are indicators that are written on the axis;
- Relative Market Share This is the X- axis or the horizontal line. The primary reason for use of this indicator in the matrix is the assumption that large productions of goods means a company will benefit from the economies of scale which means higher profitability. This is in relation to the experience curve.
Also, another reason for the selection is that this indicator carries more information than just cash flows, but also profits in relation to a brands competition and can be a good forecast tool for expectations. The market share is measured relative to a brands largest competitor and a higher market share means higher cash return.
- Market Growth Rate This is the X- axis or the horizontal line. The primary reason for use of this indicator in the matrix is also on an assumption that a higher possible growth rate is an indicator of need for allocation of more resources to a particular business unit. A higher market growth rate means possibilities for more income and consequently more profits.
Also, another reason for the selection is that this indicator carries more information than just cash flows, but a brands market strength and viability in terms of forecasted growth potential. A higher market growth rate means more earnings for a product and often profits. However, On the other hand, it also means a higher consumption of resources in terms of cash in an effort to stimulate further growth in the market. More resources are allocated to those brands that show the highest potential for growth and success which guarantees returns on investment
Applying the BCG Matrix to a Business
The BCG matrix can be useful to companies with diversified and well balanced portfolios if applied using the following general steps. Step 1 Select a Unit. Firstly, the BCG matrix requires one to make a choice of a business unit or brand that require strategic analysis. The entire analysis in terms of market position relative to the competing products and any other key definition will be based on the chosen unit. Step 2 Define the Market. Secondly, is to define the market in which the chosen unit competes. If the market is not correctly defined a product may not have any competitive advantage since the unit is in the wrong classification. For instance, Red Bull if analyzed as a soft drink may end up as a dog. However, when classified as an energy drink, it will be a star, or a cash cow depending on the potential growth rate available. Step 3 Calculate Relative Market Share. After a business unit and an appropriate corresponding market have been identified, the next step is to calculate the relative market share. The proposed formula is to divide the selected unit or brands estimated market share or revenue with that of the biggest competitor in the industry. The results are an indicator of customer appeal relative to the competition. Step 4 Calculate Market Growth Rate. This can be found in studies and industry reports that are widely available. Nevertheless, it can be estimated by looking at the average revenue growth of some of the leading firms in the industry. This measurement is a percentage and is plotted on the y-axis or the vertical line. Market growth rate is usually given by: (Products sales this year Products sales last year)/Products sales last year Step 5 Draw Circles on the matrix Quadrants. Lastly, once all the business unit computation has been achieved, they can be put onto the matrix. With the x-axis showing the relative market share and the y-axis shows the industry growth rate. You can plot/draw a circle for each brand unit, or all the brands in a company. The size of each circle in a quadrant should correspond to the proportion of revenue generated by the brand.
Metrics and Scale of the BCG Matrix
The matrix has four boxes to identify the combination of high or low growth rate and market share. To evaluate the market share SBUs, the midpoint is set at 1. The scale for market share ranges from 1/10th of the industry average to 10 times the industry average. To evaluate the market growth rate, the the industry average growth rate is used. If SBUs are in distinct industries, the general growth rate for the overall economy is used.
Plotting Strategic Business Units
Strategic business units are plotted in the matrix based upon their market share and the overall market growth rate. The categories are as follows:
Stars - Strategic business units with large market shares in fast-growing industries. This means that the SBU likely generates significant revenue; however, the costs of growth and maintenance of market share can eat much of the profit margin (or even cause losses). These stars will generally evolve into cash cows at a later point in their business cycle. They are also a prime target for acquisition by a larger strategic competitor or company seeking to enter the industry.
Cash Cows - SBUs that hold a large market share in a slow-growth market (generally a mature and established market). The size of the market share produces a large amount of revenue (which may be growing slowly, stable, or declining). These companies generally employ cost strategies or have a stable form of differentiation. The low growth costs (marketing and sales expenses) allow for high profits or large profit margins. This profits are the key resource of the holding company. The profits from these SBUs generally go into research and development or support SBUs in other categories.
Question Marks - Question Mark SBUs hold a small market share in a fast-growing industry. These a startup ventures that require lots of growth to be sustainable (or demonstrate itself as a viable business). Growth expenses (sales and marketing) are the heaviest cost for the business and require lots of resources. If the business begins to establish a strong growth rate or presence in the market, the business will continue to pursue growth and expansion with the hopes that the business can become a star. If the business does not prove capable of grabbing market share, the business will attempt a strategic shift or reduce resources allocation to reduce costs. Reducing costs and constricting can turn the SBU into a dog.
Dogs - Dogs are SBUs with low market share in a slow-growth industry. Because these businesses show low growth and generate low revenue, the firm does not invest a great deal of resources in the venture. As such, it is difficult for a dog to ever establish any sort of competitive advantage that allows for growth. Further, these firms generally are unable to leverage cost advantages through economies of scale. Holding companies will generally seek to eliminate or reduce the significance of dogs in their portfolios. The exception is when the dog offers some other strategic advantage for other portfolio companies.
Advantages of BCG Matrix
The matrix has a simple design that is easy to understand and utilize. It helps a firm to analyze the opportunities available for its various brands as well as classify them in a simplistic manner. It helps corporate identify brands that require additional cash investment to stimulate future market share growth and profitability. It helps a company compare product portfolios and identify struggling one for repositioning, liquidation or discontinuation.
Limitations of BCG Matrix
The BCG matrix uses on two indicators relative market share and market growth rate. However, these are not the only factors for market success and therefore limit the matrix use. Some products may be neglected and identified as dogs despite providing synergies that assist other brand units within the organization. The matrix assumes a high market share correlate with profitability. However, this is not always true since there is high cost that goes into attaining a big market share. The matrix is not a clear predictive tool and does not account for new product that may disrupt the market with innovative features. The models does not consider the possibility that small market share brand can compete and overtake a firm's cash cows.