A strategic concept underlying the Boston Consulting Group approach is that of experience effects. Based upon a series of studies by the BCG and PIMS, building upon the earlier work on learning curves, the experience effect holds that with increases in cumulative volume of production the unit costs of production will fall. The empirical support for the experience effect or experience ‘curve’ as it has become widely known is persuasive. The sources of the decreases in unit costs associated with accumulated volume of production have been identified in three basic areas by Day and Montgomery:
1 Learning Encompassing all the elements of human input into production including increasing skills and changing the way work is organized to produce. This can also hold for marketing activities such as new product development.
2 Technological improvement New production processes, product standardization and automation of human inputs can also yield substantial experience effects, particularly in capital intensive industries.
3 Economies of scale Savings from increased efficiency due to size are another source of the experience effect.
One of the most significant strategic implications of the experience curve effect is in the relationship between profitability and market share. Simple economics suggests that if the experience curve effect holds true then it affords the potential for the firm with the greatest market share (and thus most rapidly accumulating volume) to enjoy the lowest costs per unit and therefore to be the most profitable supplier in the industry. This relationship between profitability and market share has subsequently been illustrated in the PIMS studies in the USA (Buzzell and Gale).
Again the basis for the experience curve concept has grown out of studies in the manufacturing sector, although one of the foundation studies reported by Headley gave an experience ‘slope’ for a US supplier of life insurance policies. However, in spite of the lack of empirical validations of experience curve effects in the service sector, the logic may well apply in the professional service sector, particularly in the area of learning effects on the part of professional and administrative staff, and technological development and the ‘industrialization’ of service, e.g. computer audits, computer-aided design in engineering and architecture, computer-based diagnosis in medicine, etc.
The Boston Consulting Group combined the concepts of product life cycle and experience curves in a portfolio planning model that has been widely used by strategic and marketing planners and consultants and appears in many organizations’ planning manuals. The product portfolio matrix is used in multi-business or multi-product/service firms in order to aid investment decisions within the business and in order to attempt to ensure stable earnings and growth in the future.
Such a portfolio approach forces planners to examine each service or strategic business unit both in the context of its own environment and in its contribution to the overall goals of the firm. In the BCG approach relative market share, based upon experience effects and the PIMS results, is a proxy for profitability. The ‘relative’ part of this proxy measurement is relative to the market share enjoyed by the market leader. The second dimension of the matrix is market growth rate which is a proxy for product life cycle which can help predict the cash requirement of the various SBUs or products/services. Sarah writes for allpro line and various sports and business sites.
