strategic analysis & decision making
?to critically examine the nature of strategic analysis & decision making
?to understand the importance of analysing an org.’s external environment
?appreciate the role of an org.’s resources and capabilities as a basis for formulating strategy
2
Global Business Problems
John Wallace
California State Polytechnic University-Pomona
Fall 2015
Global Business Problems
IBM 480
California State Poly Univ-Pomona
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Global Business Problems
Table of Contents
“Chapter 1: Foundations of Strategic Marketing Management” by Kerin, Roger
A; Peterson, Robert A
1
“Chapter 2: Financial Aspects of Marketing Management” by Kerin, Roger A;
Peterson, Robert A
33
“Chapter 3: Marketing Decision Making and Case Analysis” by Kerin, Roger A;
Peterson, Robert A
53
“Rediscovering Market Niches in a Traditional Industry” by Tse, David; Ho,
Mary
65
“Coca-Cola’s New Vending Machine (A): Pricing to Capture Value, or Not?”
by King, Charles; Narayandas, Das
75
“Nin Jiom: Selling Traditional Chinese Medicine in Modern Hong Kong” by
Bennett Yim; Vincent Mak
85
“Heineken N.V.: Global Branding and Advertising” by Quelch, John A.
XanEdu Extra
An Excel-formatted spreadsheet containing the exhibits for the case above is available at
http://content.xanedu.com/hs/596015p2.xls
93
“Pepsi Blue” by Quelch, John A. 107
Bibliography 117
i
ii
C H A P T E R 1
Foundations of Strategic
Marketing Management
The primary purpose of marketing is to create long-term and mutually
beneficial exchange relationships between an entity and the publics
(individuals and organizations) with which it interacts. Though this fundamental
purpose of marketing is timeless, the manner in which organizations
undertake it continues to evolve. No longer do marketing managers function
solely to direct day-to-day operations; they must make strategic decisions as well. This
elevation of marketing perspectives to a strategic position in organizations has
resulted in expanded responsibilities for marketing managers. Increasingly, they find
themselves involved in charting the direction of the organization and contributing to
decisions that will create and sustain a competitive advantage and affect long-term
organizational performance.
The transition of the marketing manager from being only an implementer to
being a maker of organization strategy has resulted in (1) the creation of the chief
marketing officer (CMO) position in many organizations and (2) the popularity of
strategic marketing management as a course of study and practice. Today, almost onehalf
of Fortune 1000 companies have a CMO. Although responsibilities vary across
companies, a common expectation is that a CMO will assume a leadership role in
defining the mission of the business; analysis of environmental, competitive, and business
situations;developing business objectives and goals;and defining customer value
propositions and the marketing strategies that deliver on these propositions. The skill
set required of CMOs includes an analytical ability to interpret extensive market and
operational information, an intuitive sense of customer and competitor motivations,
and creativity in framing strategic marketing initiatives in light of implementation
considerations and financial targets and results.1 Strategic marketing management
consists of five complex and interrelated processes.
1. Defining the organization’s business, mission, and goals
2. Identifying and framing organizational growth opportunities
3. Formulating product-market strategies
4. Budgeting marketing, financial, and production resources
5. Developing reformulation and recovery strategies
The remainder of this chapter discusses each of these processes and their relationships
to one another.
1
1
2 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
¦ DEFINING THE ORGANIZATION’S BUSINESS, MISSION, AND GOALS
The practice of strategic marketing management begins with a clearly stated business
definition, mission, and set of goals or objectives. A business definition outlines the
scope of a particular organization’s operations. Its mission is a written statement of
organizational purpose. Goals or objectives specify what an organization intends to
achieve. Each plays an important role in describing the character of an organization
and what it seeks to accomplish.
Business Definition
Determining what business an organization is in is neither obvious nor easy. In many
instances, a single organization may operate several businesses, as is the case with
large Fortune 500 companies. Defining each of these businesses is a necessary first
step in strategic marketing management.
Contemporary strategic marketing perspectives indicate that an organization
should define a business by the type of customers it wishes to serve, the particular
needs of those customer groups it wishes to satisfy, and the means or technology by
which the organization will satisfy these customer needs.2 By defining a business
from a customer or market perspective, an organization is appropriately viewed as a
customer-satisfying endeavor, not a product-producing or service-delivery enterprise.
Products and services are transient, as is often the technology or means used to produce
or deliver them. Basic customer needs and customer groups are more enduring.
For example, the means for delivering prerecorded music has undergone significant
change over the past 30 years. During this period, the dominant prerecorded music
technologies and products evolved from plastic records, to eight-track tapes, to cassettes,
to compact discs. Today, digital downloading of music is growing. By comparison,
the principal consumer buying segment(s) and needs satisfied have varied little.
Much of the recent corporate restructuring and refocusing has resulted from
senior company executives asking the question,“What business are we in?” The experience
of Encyclopaedia Britannica is a case in point.3 The venerable publishing company
is best known for its comprehensive and authoritative 32-volume, leather-bound
book reference series first printed in 1768. In the late 1990s, however, the company
found itself in a precarious competitive environment. CD-ROMs and the Internet had
become the study tools of choice for students, and Microsoft’s Encarta CD-ROM and
IBM’s CD-ROM joint venture with World Book were attracting Britannica’s core
customers. The result? Book sales fell 83 percent between 1990 and 1997. Britannica’s
senior management was confident that the need for dependable and trustworthy information
among curious and intelligent customers remained. However, the technology
for satisfying these needs had changed. This realization prompted Britannica to redefine
its business. According to a company official:“We’re reinventing our business.
We’re not in the book business.We’re in the information business.” By early 2006, the
company had become a premier information site on the Internet. Britannica’s subscription
service (eb.com) markets archival information to schools and public and
business libraries. Its consumer Web site (britannica.com) is a source of information for
about 200,000 subscribers and its search engine provides some 150,000 Web sites
selected by expert Britannica staffers for information quality and accuracy.
Business Mission
An organization’s business mission complements its business definition. As a written
statement, a mission underscores the scope of an organization’s operations apparent
in its business definition and reflects management’s vision of what the organization
2
DEFINING THE ORGANIZATION’S BUSINESS, MISSION, AND GOALS 3
seeks to do. Although there is no overall definition for all mission statements, most
statements describe an organization’s purpose with reference to its customers, products
or services, markets, philosophy, and technology. Some mission statements are
generally stated, such as that for Xerox Corporation:
Our strategic intent is to help people find better ways to do great work—by constantly
leading in document technologies, products and services that improve our customers’work
processes and business results.
Others are more specifically written, like that for Hendison Electronics Corporation.
Hendison Electronics Corporation aspires
to serve the discriminating purchasers of home entertainment products who
approach their purchase in a deliberate manner with heavy consideration of longterm
benefits.We will emphasize home entertainment products with superior performance,
style, reliability, and value that require representative display, professional
selling, trained service, and brand acceptance—retailed through reputable electronic
specialists to those consumers whom the company can most effectively service.
Mission statements also apply to not-for-profit organizations. For instance, the
mission of the American Red Cross is
to improve the quality of human life; to enhance self-reliance and concern for others;
and to help people avoid, prepare for, and cope with emergencies.
A carefully crafted mission statement that succinctly conveys organizational purpose
can provide numerous benefits to an organization, including focus to its marketing
effort. It can (1) crystallize management’s vision of the organization’s long-term
direction and character; (2) provide guidance in identifying, pursuing, and evaluating
market and product opportunities; and (3) inspire and challenge employees to do
those things that are valued by the organization and its customers. It also provides
direction for setting business goals or objectives.
Business Goals
Goals or objectives convert the organization’s mission into tangible actions and
results that are to be achieved, often within a specific time frame. For example, the 3M
Company emphasizes research and development and innovation in its business mission.
This view is made tangible in one of the company’s goals: 30 percent of 3M’s
annual revenues must come from company products that are less than four years old.4
Goals or objectives divide into three major categories: production, financial, and
marketing. Production goals or objectives apply to the use of manufacturing and
service capacity and to product and service quality. Financial goals or objectives focus
on return on investment, return on sales, profit, cash flow, and shareholder wealth.
Marketing goals or objectives emphasize market share, marketing productivity, sales
volume, profit, customer satisfaction, customer value creation, and customer lifetime
value. When production, financial, and marketing goals or objectives are combined,
they represent a composite picture of organizational purpose within a specific time
frame;accordingly, they must complement one another.
Goal or objective setting should be problem-centered and future-oriented.
Because goals or objectives represent statements of what the organization wishes to
achieve in a specific time frame, they implicitly arise from an understanding of the
current situation. Therefore, managers need an appraisal of operations or a situation
analysis to determine reasons for the gap between what was or is expected and what
has happened or will happen. If performance has met expectations, the question
arises as to future directions. If performance has not met expectations, managers must
diagnose the reasons for this difference and enact a remedial program. Chapter 3 provides
an expanded discussion on performing a situation analysis.
3
4 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
¦ IDENTIFYING AND FRAMING ORGANIZATIONAL GROWTH OPPORTUNITIES
Once the character and direction of the organization have been outlined in its
business definition, mission, and goals or objectives, the practice of strategic marketing
management enters an entrepreneurial phase. Using business definition, mission,
and goals as a guide, the search for and evaluation of organizational growth opportunities
can begin.
Converting Environmental Opportunities
into Organizational Opportunities
Three questions help marketing managers decide whether certain environmental
opportunities represent viable organizational growth opportunities:
• What might we do?
• What do we do best?
• What must we do?
Each of these questions assists in identifying and framing organizational growth
opportunities. They also highlight major concepts in strategic marketing management.
The what might we do question introduces the concept of environmental
opportunity. Unmet or changing consumer needs, unsatisfied buyer groups, and new
means or technology for delivering value to prospective buyers represent sources of
environmental opportunities for organizations. In this regard, environmental opportunities
are boundless. However, the mere presence of an environmental opportunity
does not mean that an organizational growth opportunity exists. Two additional questions
must be asked.
The what do we do best question introduces the concept of organizational capability,
or distinctive competency. Distinctive competency describes an organization’s
unique strengths or qualities, including skills, technologies, or resources that distinguish
it from other organizations.5 In order for any of an organization’s strengths or
qualities to be considered truly distinctive and a source of competitive advantage, two
criteria must be satisfied. First, the strength must be imperfectly imitable by competitors.
That is, competitors cannot replicate a skill (such as the direct-marketing competency
of Dell Inc.) easily or without a sizable investment of time, effort, and money.
Second, the strength should make a significant contribution to the benefits perceived
by customers and, by doing so, provide superior value to them. For example, the ability
to engage in technological innovation that is wanted and provides value to customers
is a distinctive competency. Consider the Safety Razor Division of the Gillette Company.
6 Its distinctive competencies lie in three areas: (1) shaving technology and development,
(2) high-volume manufacturing of precision metal and plastic products, and
(3) marketing of mass-distributed consumer package goods. These competencies were
responsible for the Gillete Fusion and Venus razor, which have sustained Gillette’s dominance
of the men’s and women’s wet-shaving market.
Finally, the what must we do question introduces the concept of success requirements
in an industry or market. Success requirements (also called “key success factors”)
are basic tasks that an organization must perform in a market or industry to
compete successfully. These requirements are subtle in nature and often overlooked.
For example, distribution and inventory control are critical success factors in the cosmetics
industry. Firms competing in the personal computer industry recognize that
the requirements for success include low-cost production capabilities, access to distribution
channels, and continuous innovation.
The linkage among environmental opportunity, distinctive competency, and
success requirements will determine whether an organizational opportunity exists.
4
IDENTIFYING AND FRAMING ORGANIZATIONAL GROWTH OPPORTUNITIES 5
A clearly defined statement of success requirements serves as a device for matching
an environmental opportunity with an organization’s distinctive competencies. If
what must be done is inconsistent with what can be done to capitalize on an environmental
opportunity, an organizational growth opportunity will fail to materialize.
Too often, organizations ignore this linkage and pursue seemingly lucrative environmental
opportunities that are doomed from the start. Exxon Mobil Corporation
learned this lesson painfully after investing $500 million in the office products market
over a 10-year period only to see the venture fail. After the company abandoned this
venture, a former Exxon Mobil executive summed up what had been learned:“Don’t
get involved where you don’t have the skills. It’s hard enough to make money at what
you’re good at.”7 By clearly establishing the linkages necessary for success before taking
any action, an organization can minimize its risk of failure. An executive for L’eggs
hosiery illustrates this point when specifying his new-venture criteria:
[P]roducts that can be sold through food and drugstore outlets, are purchased by
women, . . . can be easily and distinctly packaged, and comprise at least a $500 million
retail market not already dominated by one or two major producers.8
When one considers L’eggs’ past successes, it is apparent that whatever environmental
opportunities are pursued will be consistent with what L’eggs does best, as
illustrated by past achievements in markets whose success requirements are similar.
An expanded discussion of these points is found in Chapter 4.
SWOT Analysis
SWOT analysis is a formal framework for identifying and framing organizational
growth opportunities. SWOT is an acronym for an organization’s Strengths and
Weaknesses and external Opportunities and Threats. It is an easy-to-use framework
for focusing attention on the fact that an organizational growth opportunity results
from a good fit between an organization’s internal capabilities (apparent in its
strengths and weaknesses) and its external environment reflected in the presence of
environmental opportunities and threats. Many organizations also perform a SWOT
analysis as part of their goal- or objective-setting process.
Exhibit 1.1 on page 6 displays a SWOT analysis framework depicting representative
entries for internal strengths and weaknesses and external opportunities and
threats. A strength is something that an organization is good at doing or some characteristic
that gives the organization an important capability. Something an organization
lacks or does poorly relative to other organizations is a weakness. Opportunities represent
external developments or conditions in the environment that have favorable
implications for the organization. Threats, on the other hand, pose dangers to the welfare
of the organization.
A properly conducted SWOT analysis goes beyond the simple preparation of lists.
Attention needs to be placed on evaluating strengths,weaknesses, opportunities, and
threats and drawing conclusions about how each might affect the organization. The
following questions might be asked once strengths, weaknesses, opportunities, and
threats have been identified:
1. Which internal strengths represent distinctive competencies? Do these
strengths compare favorably with what are believed to be market or industry
success requirements? Looking at Exhibit 1.1, for example, does “proven innovation
skill”strength represent a distinctive competency and a market success
requirement?
2. Which internal weaknesses disqualify the organization from pursuing certain
opportunities? Look again at Exhibit 1.1, and note that the organization acknowledges
that it has a “weak distribution network and a subpar saleforce.”How might
5
6 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
E X H I B I T 1 . 1
Sample SWOT Analysis Framework and Representative Examples
Selected Representative Selected Representative
Internal External
Factors Strengths Weaknesses Factors Opportunities Threats
Experienced Lack of Upturn in the Adverse shifts
Management management management Economic business cycle; in foreign
talent depth evidence of exchange
growing per- rates
sonal disposable
income
Well thought Weak distribu- Complacency Entry of
Marketing of by buyers; tion network; Competition among domestic lower-cost
effective subpar sales competitors foreign
advertising force competitors
program
Available man- Higher overall Unfulfilled Growing
Manufacturing ufacturing production costs Consumer customer preference for
capacity relative to key trends needs on high private-label
competitors and low end products
of product
category suggesting
a product
line
expansion
possibility
Proven inno- Poor track Patent protec- Newer
R&D vation skills record in Technology tion of com- substitute
bringing inno- plementary technologies
vations to the technology imminent
marketplace ending
Little debt Weak cash Falling trade Increased U.S.
Finance relative to flow position Legal/ barriers in regulation of
industry regulatory attractive product-testing
average foreign markets procedures
and labeling
Unique, high- Too narrow a New distribu- Low-entry
Offerings quality product line Industry/ tion channels barriers for
products market evolving that new
structure reach a broader competitors
customer
population
this organizational weakness affect the opportunity described as “new distribution
channels evolving that reach a broader customer population”?
3. Does a pattern emerge from the listing of strengths,weaknesses, opportunities,
and threats? Inspection of Exhibit 1.1 reveals that low-entry barriers into the
market/industry may contribute to the entry of lower-cost foreign competitors.
This does not bode well for domestic competitors labeled as “complacent”and
the organization’s acknowledged high production costs.
6
FORMULATING PRODUCT-MARKET STRATEGIES 7
¦ FORMULATING PRODUCT-MARKET STRATEGIES
In practice, organizational opportunities frequently emerge from an organization’s
existing markets or from newly identified markets. Opportunities also arise for existing,
improved, or new products and services. Matching products and markets to form
product-market strategies is the subject of the next set of decision processes.
Product-market strategies consist of plans for matching an organization’s existing
or potential offerings with the needs of markets, informing markets that the offerings
exist, having offerings available at the right time and place to facilitate exchange, and
assigning prices to offerings. In short, a product-market strategy involves selecting
specific markets and profitably reaching them through an integrated program called a
marketing mix.
Exhibit 1.2 classifies product-market strategies according to the match between
offerings and markets.9 The operational implications and requirements of each strategy
are briefly described in the following subsections.
Market-Penetration Strategy
A market-penetration strategy dictates that an organization seeks to gain greater
dominance in a market in which it already has an offering. This strategy involves
attempts to increase present buyers’ usage or consumption rates of the offering, to
attract buyers of competing offerings, or to stimulate product trial among potential
customers. The mix of marketing activities might include lower prices for the offerings,
expanded distribution to provide wider coverage of an existing market, and
heavier promotional efforts extolling the “unique” advantages of an organization’s
offering over competing offerings. For example, following the acquisition of Gatorade
from Quaker Oats, PepsiCo has announced that it expects to increase Gatorade’s
already dominant share of the sports drink market through broader distribution, new
flavors, and more aggressive advertising.10
Several organizations have attempted to gain dominance by promoting more frequent
and varied usage of their offering. For example, the Florida Orange Growers
Association advocates drinking orange juice throughout the day rather than for breakfast
only. Airlines stimulate usage through a variety of reduced-fare programs and various
family-travel packages designed to reach the primary traveler’s spouse and
children.
Marketing managers should consider a number of factors before adopting a penetration
strategy. First, they must examine market growth. A penetration strategy is usually
more effective in a growth market. Attempts to increase market share when volume
is stable often result in aggressive retaliatory actions by competitors. Second, they must
consider competitive reaction. Procter & Gamble implemented a penetration strategy
E X H I B I T 1 . 2
Product-Market Strategies
Markets
Existing New
Market Market
penetration development
Offerings
New offering
development Diversification
Existing
New
7
8 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
for its Folgers coffee in selected East Coast cities, only to run head-on into an equally
aggressive reaction from Kraft Foods’ Maxwell House Division. According to one
observer of the competitive situation:
When Folger’s mailed millions of coupons offering consumers 45 cents off on a onepound
can of coffee, Maxwell House countered with newspaper coupons of its own.
When Folger’s gave retailers 15 percent discounts from the list price . . . , Maxwell
House met them head-on. [Maxwell House] let Folger’s lead off with a TV blitz. . . .
Then [Maxwell House] saturated the airwaves.11
The result of this struggle was no change in market share for either firm. Third,
marketing managers must consider the capacity of the market to increase usage or
consumption rates and the availability of new buyers. Both are particularly relevant
when viewed from the perspective of the conversion costs involved in capturing buyers
from competitors, stimulating usage, and attracting new users.
Market-Development Strategy
A market-development strategy dictates that an organization introduce its existing
offerings to markets other than those it is currently serving. Examples include introducing
existing products to different geographical areas (including international
expansion) or different buying publics. For example, Harley-Davidson engaged in a
market-development strategy when it entered Japan, Germany, Italy, and France.
Lowe’s, the home improvement chain, employed this strategy when it focused attention
on attracting women shoppers to its stores.
The mix of marketing activities used must often be varied to reach different markets
with differing buying patterns and requirements. Reaching new markets often
requires modification of the basic offering, different distribution outlets, or a change
in sales effort and advertising.
Like the market-penetration strategy, market development involves a careful consideration
of competitor strengths and weaknesses and competitor retaliation potential.
Moreover, because the firm seeks new buyers, it must understand their number,
motivation, and buying patterns in order to develop marketing activities successfully.
Finally, the firm must consider its strengths, in terms of adaptability to new markets, in
order to evaluate the potential success of the venture.
Market development in the international arena has grown in importance and usually
takes one of four forms: (1) exporting, (2) licensing, (3) joint venture, or (4) direct
investment.12 Each option has advantages and disadvantages. Exporting involves marketing
the same offering in another country either directly (through sales offices) or
through intermediaries in a foreign country. Because this approach typically requires
minimal capital investment and is easy to initiate, it is a popular option for developing
foreign markets. Procter & Gamble, for instance, exports its deodorants, soaps, fragrances,
shampoos, and other health and beauty products to Eastern Europe and
Russia. Licensing is a contractual arrangement whereby one firm (licensee) is given the
rights to patents, trademarks, know-how, and other intangible assets by its owner
(licensor) in return for a royalty (usually 5 percent of gross sales) or a fee. For example,
Cadbury Schweppes PLC, a London-based multinational firm, licensed Hershey Foods
to sell its candies in the United States for a fee of $300 million. Licensing provides a
low-risk, quick, and capital-free entry into a foreign market. However, the licensor usually
has no control over production and marketing by the licensee. A joint venture,
often called a strategic alliance, involves investment by both a foreign firm and a local
company to create a new entity in the host country. The two companies share ownership,
control, and profits of the entity. Joint ventures are popular because one company
may not have the necessary financial, technical, or managerial resources to enter a market
alone. This approach also often ensures against trade barriers being imposed on the
foreign firm by the government of the host company. Japanese companies frequently
8
FORMULATING PRODUCT-MARKET STRATEGIES 9
engage in joint ventures with American and European firms to gain access to foreign
markets. A problem frequently arising from joint ventures is that the partners do not
always agree on how the new entity should be run. Direct investment in a manufacturing
and/or assembly facility in a foreign market is the most risky option and requires
the greatest commitment. However, it brings the firm closer to its customers and may
be the most profitable approach for developing foreign markets. For these reasons,
direct investment must be evaluated closely in terms of benefits and costs. Direct
investment often follows one of the three other approaches to foreign-market entry.
For example, Mars, Inc. originally exported its M&Ms, Snickers, and Mars bars to Russia
but now operates a $200 million candy factory outside Moscow.
Product-Development Strategy
A product-development strategy dictates that the organization create new offerings for
existing markets. The approach taken may be to develop totally new offerings (product
innovation) to enhance the value to customers of existing offerings (product augmentation),
or to broaden the existing line of offerings by adding different sizes, forms, flavors,
and so forth (product line extension). Apple Computer’s iPod is an example of
product innovation. Product augmentation can be achieved in numerous ways. One is
to bundle complementary items or services with an existing offering. For example,
embedded software, application aids, and training programs for buyers enhance the
value of personal computers. Another way is to improve the functional performance of
the offering. Digital camera manufacturers have done this by improving photo quality.
Many types of product-line extensions are possible. Personal-care companies market
deodorants in powder, spray, and gel forms; Gatorade is sold in more than 20 flavors;
and Frito-Lay offers its Lay’s potato chips in a number of package sizes.
Companies successful at developing and commercializing new offerings lead
their industries in sales growth and profitability. The likelihood of success is increased
if the development effort results in offerings that satisfy a clearly understood buyer
need. In the toy industry, for instance, these needs translate into products with three
qualities: (1) lasting play value, (2) the ability to be shared with other children, and
(3) the ability to stimulate a child’s imagination.13 Successful commercialization
occurs when the offering can be communicated and delivered to a well-defined buyer
group at a price it is willing and able to pay.
Important considerations in planning a product-development strategy concern
the market size and volume necessary for the effort to be profitable, the magnitude
and timing of competitive response, the impact of the new product on existing offerings,
and the capacity (in terms of human and financial investment and technology) of
the organization to deliver the offerings to the market(s). More important, successful
new offerings must have a significant “point of difference” reflected in superior product
or service characteristics that deliver unique and wanted benefits to consumers.
Two examples from General Mills illustrate this view.14 The company introduced Fringos,
a sweetened cereal flake about the size of a corn chip. Consumers were supposed
to snack on them, but they didn’t. The point of difference was not significant enough
to get consumers to switch from competing snacks such as popcorn, potato chips, or
tortilla chips. On the other hand, General Mills’ Big G Milk ’n Cereal Bar, which combines
cereal and a milk-based layer, has succeeded because it satisfies convenienceoriented
consumers who desire to “eat and go.”
The potential for cannibalism must be considered with a product-development
strategy. Cannibalism occurs when sales of a new product or service come at the
expense of sales of existing products or services already marketed by the firm. For
example, it is estimated that 75 percent of Gillette’s Gillete Fusion razor volume came
from the company’s other razors and shaving systems. Cannibalism of this degree is
likely to occur in many product-development programs. The issue faced by the manager
9
10 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
is whether it detracts from the overall profitability of the organization’s total mix of
offerings. At Gillette, the cannibalism rate for Fusion is viewed favorably since its gross
profit margin is significantly higher than the company’s other razors.15
Diversification
Diversification involves the development or acquisition of offerings new to the organization
and the introduction of those offerings to publics not previously served by
the organization. Many firms have adopted this strategy in recent years to take advantage
of perceived growth opportunities.Yet diversification is often a high-risk strategy
because both the offerings (and often their underlying technology) and the public or
market served are new to the organization.
Consider the following examples of failed diversification. Anheuser-Busch
recorded 17 years of losses with its Eagle Snacks Division and incurred a $206 million
write-off when the division was finally shut down. Gerber Products Company, which
holds 70 percent of the U.S. baby-food market, has been mostly unsuccessful in diversifying
into child-care centers, toys, furniture, and adult food and beverages. Coca-
Cola’s many attempts at diversification—acquiring wine companies, a movie studio,
and a pasta manufacturer, and producing television game shows—have also proven to
be largely unsuccessful. These examples highlight the importance of understanding
the link between market success requirements and an organization’s distinctive competency.
In each of these cases, a bridge was not made between these two concepts
and, thus, an organizational opportunity was not realized.16
Still, diversifications can be successful. Successful diversifications typically result
from an organization’s attempt to apply its distinctive competency in reaching new
markets with new offerings. By relying on its marketing expertise and extensive distribution
system, Procter & Gamble has had success with offerings ranging from cake
mixes to disposable diapers to laundry detergents.
Strategy Selection
A recurrent issue in strategic marketing management is determining the consistency of
product-market strategies with the organization’s definition, mission and capabilities,
market capacity and behavior, environmental forces, and competitive activities. Proper
analysis of these factors depends on the availability and evaluation of relevant information.
Information on markets should include data on size, buying behavior, and requirements.
Information on environmental forces such as social, legal, political,
demographic, and economic changes is necessary to determine the future viability of
the organization’s offerings and the markets served. In recent years, for example, organizations
have had to alter or adapt their product-market strategies because of political
actions (deregulation), economic fluctuations (income shifts and changes in disposable
personal income), sociodemographic trends (increasing racial and ethnic diversity),
attitudes (value consciousness), technological advances (the growth of the Internet),
and population shifts (city to suburb and northern to southern United States)—to
name just a few of the environmental changes. Competitive activities must be monitored
to ascertain their existing or possible strategies and performance in satisfying
buyer needs.
In practice, the strategy selection decision is based on an analysis of the costs and
benefits of alternative strategies and their probabilities of success. For example, a
manager may compare the costs and benefits involved in further penetrating an existing
market to those associated with introducing the existing product to a new market.
It is important to make a careful analysis of competitive structure; market growth,
decline, or shifts; and opportunity costs (potential benefits not obtained). The product
or service itself may dictate a strategy change. If the product has been purchased
10
FORMULATING PRODUCT-MARKET STRATEGIES 11
by all of the buyers it is going to attract in an existing market, opportunities for
growth beyond replacement purchases are reduced. This situation would indicate a
need to search out new buyers (markets) or to develop new products or services for
present markets.
The probabilities of success of the various strategies must then be considered.
A. T. Kearney, a management consulting firm, has provided rough probability estimates
of success for each of the four basic strategies.17 The probability of a successful diversification
is 1 in 20. The probability of successfully introducing an existing product into a
new market (market-development strategy) is 1 in 4. There is a 50–50 chance of success
for a new product being introduced into an existing market (product-development strategy).
Finally, minor modification of an offering directed toward its existing market (market-
penetration strategy) has the highest probability of success.
A useful technique for gauging potential outcomes of alternative marketing strategies
is to array possible actions, the response to these actions, and the outcomes in the
form of a decision tree, so named because of the branching out of responses from
action taken. This implies that for any action taken, certain responses can be anticipated,
each with its own specific outcomes. Exhibit 1.3 shows a decision tree.
As an example, consider a situation in which a marketing manager must decide
between a market-penetration strategy and a market-development strategy. Suppose the
manager recognizes that competitors may react aggressively or passively to either strategy.
This situation can be displayed vividly using the decision-tree scheme, as shown in
Exhibit 1.4. This representation allows the manager to consider actions, responses, and
outcomes simultaneously. The decision tree shows that the highest profits will result if a
E X H I B I T 1 . 3
Decision-Tree Format
Action Response Outcome
R1 O1
A1
R2 O2
R1 O3
A2
R2 O4
E X H I B I T 1 . 4
Sample Decision Tree
Action Response Outcome
Aggressive competition Estimated profit
Market-penetration of $2 million
strategy
Passive competition Estimated profit
of $3 million
Aggressive competition Estimated profit
Market-development of $1 million
strategy
Passive competition Estimated profit
of $4 million
11
12 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
market-development strategy is enacted and competitors react passively. The manager
must resolve the question of competitive reaction because an aggressive response will
plunge the profit to $1 million, which is less than either outcome under the marketpenetration
strategy. The manager must rely on informed judgment to assess subjectively
the likelihood of competitive response. Chapter 3 provides a more detailed
description of decision analysis and its application.
The Marketing Mix
Matching offerings and markets requires recognition of the other marketing activities
available to the marketing manager. Combined with the offering, these activities form
the marketing mix.
A marketing mix typically encompasses activities controllable by the organization.
These include the kind of product, service, or idea offered (product strategy), how it will
be communicated to buyers (communication strategy), the method for distributing the
offering to buyers (channel strategy), and the amount buyers will pay for the offering
(price strategy). Each of these individual strategies is described later in this book. Here it
is sufficient to note that each element of the marketing mix plays a complementary role
in stimulating a market’s (buyers’) willingness and ability to buy and creating customer
value. For example,communications—personal selling, advertising, sales promotion, and
public relations—inform and assure buyers that the offering will meet their needs.
Marketing channels satisfy buyers’ shopping patterns and purchase requirements in
terms of point-of-purchase information and offering availability. Price represents the
value or benefits provided by the offering to buyers.
Formulating the Marketing Mix The appropriate marketing mix for a product or
service depends on the success requirements of the market at which it is directed. The
“rightness” of the marketing mix depends on the market served. Consider the case of
Cover Girl Cosmetics in China. The marketing mix for Cover Girl in China shares only
one common element with its marketing mix in other countries—the brand name. All
product shades, textures, and colors had to be adjusted to ensure they looked
appealing on Chinese skin. Products have been packaged in small containers that
resemble pieces of colorful candy, unlike other markets. The advertising and sales
effort is localized expressly for the Chinese and on-site beauty consultants assist buyers
in Chinese department stores—not in self-service drug or grocery stores as in Cover
Girl’s other markets. Cover Girl pricing reflects local competitive conditions.
According to Cover Girl’s marketing director, “You can’t just import cosmetics here.
Companies have to understand what beauty means to Chinese women and what they
look for, and product offerings, distribution, pricing and communication has to be
adjusted accordingly to be right for the market.”18
Internet-based technologies have created another market setting, called the marketspace.
Companies that succeed in the new marketspace deliver customer value
through the interactive capabilities of these technologies, which allow for greater
flexibility in managing marketing mix elements. For example, online sellers routinely
adjust prices to changing environmental conditions, purchase situations, and purchase
behaviors of online buyers. Also, interactive two-way Internet-enabled capabilities
in marketspace allow a customer to tell a seller exactly what his or her buying
interests and requirements are, making possible the transformation of a product or
service into a customized solution for the buyer. In addition, the purpose and role of
marketing communications and marketing channels in this market setting change as
described in Chapters 6 and 7, respectively.
In addition to being consistent with the needs of markets served, a marketing mix
must be consistent with the organization’s capacity, and the individual activities
must complement one another. Several questions offer direction in evaluating an
12
BUDGETING MARKETING, FINANCIAL, AND PRODUCTION RESOURCES 13
organization’s marketing mix. First, is the marketing mix internally consistent? Do the
individual activities complement one another to form a whole, as opposed to fragmented
pieces? Does the mix fit the organization, the market, and the environment
into which it will be introduced? Second, are buyers more sensitive to some marketing
mix activities than to others? For example, are they more likely to respond favorably
to a decrease in price or an increase in advertising or sales promotion? Third,
what are the costs of performing marketing mix activities and the costs of attracting
and retaining buyers? Do these costs exceed their benefits? Can the organization
afford the marketing mix expenditures? Finally, is the marketing mix properly timed?
For example, are communications scheduled to coincide with product availability? Is
the entire marketing mix timely with respect to the buying cycle of consumers, competitor
actions, and the ebb and flow of environmental forces?
Implementing the Marketing Mix Implementation of the marketing mix is as much
an art as a science. Successful implementation requires an understanding of markets,
environmental forces, organizational capacity, and marketing mix activities with a
healthy respect for competitor reactions. These topics are raised again in Chapter 10.
An example of an implementation with less than successful results is that of A&P’s
WEO (Where Economy Originates) program. Prior to implementing the program,
A&P had watched its sales volume plateau with shrinking profits, while other grocery
retailers continued to increase sales volume and profits. When the WEO program was
initiated, it emphasized discount pricing (price strategy) with heavy promotional
expenditures (communication strategy). The program increased sales volume by $800
million but produced a profit loss of over $50 million. In the words of one industry
observer at the time:
Its competitors are convinced that A&P’s assault with WEO was doomed from the
start. Too many of its stores are relics of a bygone era. Many are in poor locations [distribution
strategy]. . . . They are just not big enough to support the tremendous volume
that is necessary to make a discounting operation profitable [capacity] . . . stores
lack shelf space for stocking general merchandise items, such as housewares and children’s
clothing [product strategy].19
The product-market strategy employed by A&P could be classified as a market-penetration
strategy. Its implementation, however, could be questioned in terms of internal
consistency, costs of the marketing mix activities, and fit with organizational capacity.
Moreover, the retail grocery industry was plagued at the time by rising food and energy
costs. Both environmental factors had a destructive effect on A & P’s strategy success.
¦ BUDGETING MARKETING, FINANCIAL, AND PRODUCTION RESOURCES
The fourth phase in the strategic marketing management process is budgeting. A
budget is a formal, quantitative expression of an organization’s planning and strategy
initiatives expressed in financial terms. A well-prepared budget meshes and balances
an organization’s financial, production, and marketing resources so that overall organizational
goals or objectives are attained.
An organization’s master budget consists of two parts: (1) an operating budget
and (2) a financial budget. The operating budget focuses on an organization’s income
statement. Since the operating budget projects future revenues and expenses, it is
sometimes referred to as a pro forma income statement or profit plan. The financial
budget focuses on the effect that the operating budget and other initiatives (such as
capital expenditures) will have on the organization’s cash position. For example, the
13
14 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
master budget for General Motors includes an income statement that details revenues,
expenses, and profit for existing Hummer models. Its financial budget included the
capital expenditures for the new midsize Hummer H3 model.
In addition to the operating and financial budget, many organizations prepare
supplemental special budgets, such as an advertising and sales budget, and related
reports tied to the master budget. For example, a report showing how revenues,
costs, and profits change under different marketing decisions and competitive
and economic conditions is often prepared. As indicated, budgeting is more than
an accounting and finance function. It is an essential element of strategic marketing
management as well.
A complete description of the budgetary process is beyond the scope of this section.
However, Chapter 2,“Financial Aspects of Marketing Management,”provides an overview
of cost concepts and behavior. It also describes useful analytical tools for dealing with the
financial dimensions of strategic marketing management, including cost-volume-profit
analysis, discounted cash flow, customer lifetime value analysis, and the preparation of
pro forma income statements.
¦ DEVELOPING REFORMULATION AND RECOVERY STRATEGIES
Reformulation and recovery strategies form the cornerstone of adaptive behavior in
organizations. Strategies are rarely timeless. Changing markets, economic conditions,
and competitive behavior require periodic, if not sudden, adjustments in marketing
strategy.
Marketing audit and control procedures are fundamental to the development
of reformulation and recovery strategies. The marketing audit has been defined as
follows:
A marketing audit is a comprehensive, systematic, independent, and periodic examination
of a company’s—or business unit’s—marketing environment, objectives, strategies
and activities with a view of determining problem areas and opportunities and
recommending a plan of action to improve the company’s marketing performance.20
The audit process directs the manager’s attention to both the strategic fit of the
organization with its environment and the operational aspects of the marketing program.
Strategic aspects of the marketing audit address the synoptic question,“Are we
doing the right things?” Operational aspects address an equally synoptic question—
“Are we doing things right?”
The distinction between strategic and operational perspectives, as well as the
implementation of each, is examined in Chapter 9. Suffice it to say here that marketing
audit and control procedures underlie the processes of defining the organization’s
business, mission, and goals or objectives, identifying external opportunities and
threats and internal strengths and weaknesses, formulating product-market strategies
and marketing mix activities, and budgeting resources. The intellectual process of
developing reformulation and recovery strategies during the planning process serves
two important purposes. First, it forces the manager to consider the “what if” questions.
For example,“What if an unexpected environmental threat arises that renders a
strategy obsolete?” or “What if competitive and market response to a strategy is inconsistent
with what was originally expected?” Such questions focus the manager’s attention
on the sensitivity of results to assumptions made in the strategy-development
process. Second, preplanning of reformulation and recovery strategies, or contingency
plans, leads to a faster reaction time in implementing remedial action. Marshaling and
reorienting resources is a time- consuming process itself without additional time lost in
planning.
14
MARKETING ETHICS AND SOCIAL RESPONSIBILITY 15
¦ DRAFTING A MARKETING PLAN
A marketing plan embodies the strategic marketing management process. It is a formal,
written document that describes the context and scope of an organization’s marketing
effort to achieve defined goals or objectives within a specific future time period.
Marketing plans go by a variety of names depending on their particular focus. For
example, there are business marketing plans, product marketing plans, and brand marketing
plans. At Frito-Lay, Inc., for instance, a marketing plan is drafted for a particular
business (snack chips), for a product class (potato chips, tortilla chips, corn chips), and
for specific brands (Lay’s potato chips, Doritos tortilla chips, Fritos corn chips). Marketing
plans also have a time dimension. Short-run marketing plans typically focus on a
one-year period and are called annual marketing plans. Long-run marketing plans often
have a three- to five-year planning horizon.
A formal, written marketing plan represents a distillation of and the attention and
thought given the five interrelated analytical processes in this chapter. It is the tangible
result of an intellectual effort. As a written document, a marketing plan also exhibits
certain stylistic elements. Although there is no “generic”marketing plan that applies to
all organizations and all situations, marketing plans follow a general format. The appendix
at the end of this chapter provides an actual example of a condensed marketing
plan for Paradise Kitchens®, Inc., a company that produces and markets a unique line
of single-serve and microwavable Southwestern/Mexican-style frozen chili products.
This example illustrates both the substance and style of a five-year marketing plan.
¦ MARKETING ETHICS AND SOCIAL RESPONSIBILITY
On a final note, it must be emphasized that matters of ethics and social responsibility
permeate every aspect of the strategic marketing management process. Indeed, most
marketing decisions involve some degree of moral judgment and reflect an organization’s
orientation toward the publics with which it interacts. Enlightened marketing
executives no longer subscribe to the view that if an action is legal, then it is also ethical
and socially responsible. These executives are sensitive to the fact that the marketplace
is populated by individuals and groups with diverse value systems. Moreover,
they recognize that their actions will be judged publicly by others with different values
and interests.
Enlightened ethical and socially responsible decisions arise from the ability of marketers
to discern the precise issues involved and their willingness to take action even
when the outcome may negatively affect their standing in an organization or the company’s
financial interests. Although the moral foundations on which marketing decisions
are made will vary among individuals and organizations, failure to recognize issues
and take appropriate action is the least ethical and most socially irresponsible approach.
A positive approach to ethical and socially responsible behavior is illustrated by
Anheuser-Busch, which has spent more than $500 million since 1982 to promote
responsible drinking of alcoholic beverages through community-based programs and
national advertising campaign. Anheuser-Busch executives acknowledge the potential
for alcohol abuse and are willing to forgo business generated by misuse of the company’s
products. These executives have discerned the issues and have recognized an
ethical obligation to present and potential customers. They have also recognized the
company’s social responsibility to the general public by encouraging safe driving and
responsible drinking habits.21
15
16 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
N O T E S
1. Roger A. Kerin, “Strategic Marketing and the CMO,” Journal of Marketing (October
2005):12–14;and Gail McGovern and John A. Quelch,“The Fall and Rise of the CMO,”Strategy &
Business (Winter 2004):44–48ff.
2. Derek E. Abell, Defining the Business: The Starting Point of Strategic Planning
(Upper Saddle River, NJ: Prentice Hall, 1980); and Roger A. Kerin, Vijay Mahajan, and P. Rajan
Varadarajan, Contemporary Perspectives on Strategic Market Planning (Boston: Allyn and
Bacon, 1990).
3. “New Britannica Keeps Pace with Change,” Encyclopaedia Britannica News Release,
March 23, 2005.
4. Eric von Hippel, Stephan Thomke, and Mary Sonnack,“Creating Breakthroughs at 3M,”
Harvard Business Review (September–October 1999):47–56.
5. Robert A. Pitts and David Lei, Strategic Management: Building and Sustaining Competitive
Advantage, 4th ed. (St. Paul, MN:West Publishing Company, 2006): 6.
6. “Gillette Safety Razor Division,” Harvard Business School case #9-574-058; and
“Gillette’s Edge,”BRANDWEEK (May 28, 2001): 5.
7. “Exxon’s Flop in Field of Office Gear Shows Diversification Perils,”Wall Street Journal
(September 3, 1985): 1ff.
8. “Hanes Expands L’eggs to the Entire Family,”Business Week (June 14, 1975): 57ff.
9. This classification is adapted from H. Igor Ansoff, Corporate Strategy (New York:
McGraw-Hill, 1964): Chapter 6. For an extended discussion on product-market strategies, see
Roger A. Kerin,Vijay Mahajan, and P. Rajan Varadarajan, Contemporary Perspectives on Strategic
Market Planning (Boston: Allyn and Bacon, 1990): Chapter 6.
10. “In Lean Times, Big Companies Make a Grab for Market Share,”Wall Street Journal
(September 5, 2003): A1, A6.
11. H. Menzies,“Why Folger’s Is Getting Creamed Back East,”Fortune (July 17, 1978): 69.
12. Philip R. Cateora and John L. Graham, International Marketing, 12th ed. (Burr Ridge,
IL:McGraw-Hill/Irwin, 2005): Chapter 11.
13. “Hasbro, Inc.,” in Eric N. Berkowitz, Roger A. Kerin, Steven N. Hartley, and William
Rudelius (eds.), Marketing, 5th ed. (Chicago: Richard D. Irwin, 1997):656–657.
14. Greg Burns,“Has General Mills Had Its Wheaties?”Business Week (May 8, 1995):68–69;
and Julie Forster,“The Lucky Charm of Steve Sanger,”Business Week (March 26, 2001):75–76.
15. “Gillette’s New Edge,”Business Week (February 6, 2006): 44.
16. Failed diversification attempts, along with advice on diversification, are detailed in
Chris Zook with James Allen, Profit from the Core (Cambridge, MA: Harvard Business School
Press, 2001).
17. These estimates were reported in “The Breakdown of U.S. Innovation,”Business Week
(February 16, 1976): 56ff.
18. “P&G Introduces Cover Girl: U.S. Beauty Brand Gets Local Color,” AdAgeChina.com,
downloaded October 25, 2005.
19. Robert F. Hartley, Marketing Mistakes, 5th ed. (New York: John Wiley & Sons, 1992).
Items in brackets added for illustrative purposes.
20. Philip Kotler and Kevin Lane Keller, Marketing Management, 12th ed. (Upper Saddle
River, NJ: Prentice Hall, 2006): 719.
21. “Our Commitment to Preventing Alcohol Abuse and Underage Drinking,”
beeresponsible.com, downloaded January 10, 2006.
16
17
A P P E N D I X A
A Sample Marketing Plan
Crafting a marketing plan is hard but satisfying work. When completed, a marketing
plan serves as a roadmap that details the context and scope of marketing activities
including, but not limited to, a mission statement, goals and objectives, a situation
analysis, growth opportunities, target market(s) and marketing (mix) program, a
budget, and an implementation schedule.
As a written document, the plan conveys in words the analysis, ideas, and aspirations
of its author pertaining to a business, product, and/or brand marketing effort.
How a marketing plan is written communicates not only the substance of the marketing
effort but also the professionalism of the author.Writing style will not overcome
limitations in substance. However, a poorly written marketing plan can detract from
the perceived substance of the plan.
¦ WRITING AND STYLE CONSIDERATIONS
Given the importance of a carefully crafted marketing plan, authors of marketing plans
adhere to certain guidelines. The following writing and style guidelines generally apply:
• Use a direct, professional writing style. Use appropriate business and
marketing terms without jargon. Present and future tenses with active voice
are generally better than past tense and passive voice.
• Be positive and specific. At the same time, avoid superlatives (“terrific,”
“wonderful”). Specifics are better than glittering generalities. Use numbers for
impact, justifying computations and projections with facts or reasonable
quantitative assumptions where possible.
• Use bullet points for succinctness and emphasis. As with the list you are reading,
bullets enable key points to be highlighted effectively and with great efficiency.
• Use “A-level”(the first level) and “B-level”(the second level) headings under
major section headings to help readers make easy transitions from one topic to
another. This also forces the writer to organize the plan more carefully. Use
these headings liberally, at least once every 200 to 300 words.
• Use visuals where appropriate. Illustrations, graphs, and charts enable large
amounts of information to be presented succinctly.
• Shoot for a plan 15 to 35 pages in length, not including financial projections
and appendices. An uncomplicated small business may require only 15 pages,
while a new business startup may require more than 35 pages.
• Use care in layout, design, and presentation. Laser or ink-jet printers give a
more professional look than do dot matrix printers. A bound report with a
cover and clear title page adds professionalism.
This appendix is adapted from Roger A. Kerin, Steven W. Hartley, Eric N. Berkowitz, and William Rudelius,
Marketing, 8th ed. (Burr Ridge, IL:McGraw-Hill/Irwin, 2006). Used with permission.
17
18 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
¦ SAMPLE FIVE-YEAR ANNOTATED MARKETING PLAN FOR PARADISE
KITCHENS®, INC.
The marketing plan that follows for Paradise Kitchens®, Inc. is based on an actual plan
developed by the company. To protect proprietary information about the company, a
number of details and certain data have been altered, but the basic logic of the plan
has been preserved.Various appendices are omitted due to space limitations.
Notes in the margins next to the Paradise Kitchens®, Inc. marketing plan fall into
two categories:
1. Substantive notes elaborate on the rationale or significance of an element in
the marketing plan.
2. Writing style, format, and layout notes explain the editorial or visual rationale
for the element.
As you read the marketing plan, you might consider adding your own notes in the
margins related to the discussion in the text. For example, you may wish to compare
the application of SWOT analysis and reference to “points of difference” in the Paradise
Kitchens®, Inc. marketing plan with the discussion in Chapter 1. As you read
additional chapters in the text, you may return to the marketing plan and insert additional
notes pertaining to terminology used and techniques employed.
18
A SAMPLE MARKETING PLAN 19
FIVE-YEAR MARKETING PLAN
Paradise Kitchens?, Inc.
Table of Contents
1. Executive Summary
2. Company Description
Paradise Kitchens®, Inc. was started by cofounders Randall F.
Peters and Leah E. Peters to develop and market Howlin’Coyote®
Chili, a unique line of single serve and microwavable Southwestern/
Mexican style frozen chili products. The Howlin’Coyote? line
of chili was first introduced into the Minneapolis–St. Paul market
and expanded to Denver two years later and Phoenix two years
after that.
To the Company’s knowledge, Howlin’Coyote? is the only
premium-quality, authentic Southwestern/Mexican-style, frozen
chili sold in U.S. grocery stores. Its high quality has gained fast,
widespread acceptance in these markets. In fact, same-store sales
doubled in the last year for which data are available. The Company
believes the Howlin’Coyote? brand can be extended to other
categories of Southwestern/Mexican food products such as tacos,
enchiladas, and burritos.
Paradise Kitchens believes its high-quality, high-price strategy
has proven successful. This marketing plan outlines how the
Company will extend its geographic coverage from 3 markets to
20 markets by the year 2010.
3. Strategic Focus and Plan
This section covers three aspects of corporate strategy that
influence the marketing plan: (1) the mission, (2) goals, and
(3) core competence/sustainable competitive advantage of
Paradise Kitchens.
MISSION
The mission and vision of Paradise Kitchens are to market lines
of high-quality Southwestern/Mexican food products at premium
prices that satisfy consumers in this fast-growing food segment
while providing challenging career opportunities for employees
and above-average returns to stockholders.
The Table of Contents
provides quick access to
the topics in the plan,
usually organized by
section and subsection
headings.
Seen by many experts as
the single most important
element in the plan, the
Executive Summary, with a
maximum of two pages,
“sells”the document to
readers through its clarity
and brevity.
The Company Description
highlights the recent
history and recent
successes of the
organization.
The Strategic Focus and
Plan sets the strategic
direction for the entire
organization, a direction
with which proposed
actions of the marketing
plan must be consistent.
This section is not included
in all marketing plans.
The Mission Statement
focuses the activities of
Paradise Kitchens for the
stakeholder groups to be
served.
19
20 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
The Situation Analysis is a
snapshot to answer the
question,“Where are we
now?”
GOALS
For the coming five years, Paradise Kitchens seeks to achieve
the following goals:
• Nonfinancial goals
1. To retain its present image as the highest-quality line of
Southwestern/Mexican products in the food categories in
which it competes.
2. To enter 17 new metropolitan markets.
3. To achieve national distribution in two convenience store
or supermarket chains by 2005 and five by 2006.
4. To add a new product line every third year.
5. To be among the top three chili lines—regardless of
packaging (frozen, canned) in one-third of the metro
markets in which it competes by 2006 and two-thirds by
2008.
• Financial goals
1. To obtain a real (inflation adjusted) growth in earnings
per share of 8 percent per year over time.
2. To obtain a return on equity of at least 20 percent.
3. To have a public stock offering by the year 2006.
CORE COMPETENCY AND SUSTAINABLE COMPETITIVE ADVANTAGE
In terms of core competency, Paradise Kitchens seeks to
achieve a unique ability (1) to provide distinctive, high-quality
chilies and related products using Southwestern/Mexican recipes
that appeal to and excite contemporary tastes for these products
and (2) to deliver these products to the customer’s table using
effective manufacturing and distribution systems that maintain the
Company’s quality standards.
To translate these core competencies into a sustainable
competitive advantage, the Company will work closely with key
suppliers and distributors to build the relationships and alliances
necessary to satisfy the high taste standards of our customers.
4. Situation Analysis
This situation analysis starts with a snapshot of the current
environment in which Paradise Kitchens finds itself by providing a
brief SWOT (strengths,weaknesses, opportunities, threats) analysis.
After this overview, the analysis probes ever-finer levels of detail:
industry, competitors, company, and consumers.
The Goals section sets both
the financial and
nonfinancial targets—
where possible in
quantitative terms—against
which the company’s
performance will be
measured.
Lists use parallel
construction to improve
readability—in this case a
series of infinitives starting
with “To . . .”
20
A SAMPLE MARKETING PLAN 21
SWOT ANALYSIS
Figure 1 shows the internal and external factors affecting the
market opportunities for Paradise Kitchens. Stated briefly, this
SWOT analysis highlights the great strides taken by the Company
since its products first appeared on grocers’ shelves. In the
Company’s favor internally are its strengths of an experienced
management team and board of directors, excellent acceptance of
its lines in the three metropolitan markets in which it competes,
and a strong manufacturing and distribution system to serve these
limited markets. Favorable external factors (opportunities) include
the increasing appeal of Southwestern/Mexican foods, the
strength of the upscale market for the Company’s products, and
food-processing technological breakthroughs that make it easier
for smaller food producers to compete.
Figure 1. SWOT Analysis for Paradise Kitchens
Internal Factors Strengths Weaknesses
Management Experienced and Small size can
entrepreneurial restrict options
management
and board
Offerings Unique, high-quality, Many lower-quality,
high-price lower-price
products competitors
Marketing Distribution in three No national
markets with awareness or
excellent acceptance distribution;restricted
shelf space in the
freezer section
Personnel Good work force, Big gap if key
though small; employee leaves
little turnover
Finance Excellent growth in Limited resources
sales revenues may restrict growth
opportunities when
compared to giant
competitors
Manufacturing Sole supplier ensures Lack economies of
high quality scale of huge
competitors
R&D Continuing efforts to Lack of canning and
ensure quality microwavable foodin
delivered products processing expertise
The SWOT Analysis
identifies strengths,
weaknesses, opportunities,
and threats to provide a
solid foundation as a
springboard to identify
subsequent actions in the
marketing plan.
Each long table, graph, or
photo is given a figure
number and title. It then
appears as soon as possible
after the first reference in
the text, accommodating
necessary page breaks. This
also avoids breaking long
tables like this one in the
middle. Short tables or
graphs that are less than
11/2 inches are often inserted
in the text without figure
numbers because they
don’t cause serious
problems with page breaks.
21
22 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
Figure 1. SWOT Analysis for Paradise Kitchens (continued )
External Factors Opportunities Threats
Consumer/Social Upscale market, likely Premium price may
to be stable; limit access to
Southwestern/Mexican mass markets;
food category is consumers value a
fast-growing segment strong brand name
due to growth in
Hispanic American
population and desire
for spicier foods
Competitive Distinctive name and Not patentable;
packaging in competitors can
its markets attempt to duplicate
product;others better
able to pay slotting
fees
Technological Technical break- Competitors have
throughs enable gained economies
smaller food produ- in canning and
cers to achieve many microwavable
economies available to food processing
large competitors
Economic Consumer income is Many households
high;convenience im- “eating out,”and
portant to U.S. bringing prepared
households take-out into home
Legal/Regulatory High U.S. Food & Mergers among large
Drug Admin. standards competitors being
eliminate fly-by-night approved by
competitors government
Among unfavorable factors, the main weakness is the limited size
of Paradise Kitchens relative to its competitors in terms of the depth
of the management team, available financial resources, and national
awareness and distribution of product lines. Threats include the
danger that the Company’s premium prices may limit access to mass
markets and competition from the “eating-out”and “take-out”markets.
INDUSTRY ANALYSIS: TRENDS IN SPICY AND MEXICAN FOODS
Frozen Foods. According to Grocery Headquarters,
consumers are flocking to the frozen-food section of grocery
retailers. The reasons: hectic lifestyles demanding increased
convenience and an abundance of new, tastier, and nutritious
products. By 2004, total sales of frozen food in grocery retailers,
drugstores, and mass merchandisers, such as Target and Costco
(excluding Wal-Mart), reached $27.6 billion. Prepared frozen meals,
which are defined as meals or entrees that are frozen and require
minimal preparation, accounted for $7.3 billion, or 26 percent of
the total frozen-food market, which is shown in Figure 2.
The Industry Analysis
section provides the
backdrop for the
sub-sequent, more detailed
analysis of competition, the
company, and the company’s
customers.Without
an in-depth understanding
of the industry, the remaining
analysis may be misdirected.
Even though relatively
brief, this in-depth
treatment of the Spicy
Southwestern/Mexican
food industry in the United
States demonstrates to the
plan’s readers the company’s
understanding of the
industry in which it competes.
It gives readers confidence
that the company
thoroughly understands its
own industry.
22
A SAMPLE MARKETING PLAN 23
Figure 2. Some Frozen Entrees Included in the Prepared Frozen-
Food Product Category, 2004
Frozen dinners $1,323 18%
Italian entrees 1,231 17
Meat entrees 721 10
Mexican entrees 506 7
Oriental entrees 479 7
Poultry entrees 1,617 22
Seafood entrees 190 3
Other entrees 1,281 16
Total $7,348 100%
Handheld entrees, such as Hot Pockets ($1.1 billion), comprise
a significant portion of the “Other entrees”category. However,
frozen pizza/snacks, which are not included in this category,
accounted for an additional $3.3 billion in frozen-food sales in
2004. Heavy consumers of frozen meals, those who eat five or
more meals every two weeks, tend to be kids, teens, and young
adults 35–44 years old.
Mexican Foods. Currently, Mexican foods such as burritos,
enchiladas, and tacos are used in two-thirds of American
households. These trends reflect a generally more favorable attitude
on the part of all Americans toward spicy foods that include red
chili peppers. Grocery marketers and retailers have tried to
capitalize on this trend by developing meals targeted to those who
desire this type of food. Considering the current desire for
convenience, several major food processors, such as Hormel,Tyson
Foods, and ConAgra, as well as Hispanic-owned firms, such as Goya
(Mission Foods), Ruiz Foods, and Don Miguel’s, have introduced
many new frozen Mexican food entrees over the past few years.
The growing Hispanic population in the U.S., about 36 million and
almost $600 billion in purchasing power in 2004, partly explains
the increasing demand for Mexican food.
COMPETITORS IN THE CHILI MARKET
The chili market represents over $500 million in annual sales.
On average, consumers buy five to six servings annually. The
products fall primarily into two groups:canned chili (70 percent of
sales) and dry chili (25 percent of sales). The remaining 5 percent
of sales go to frozen chili products. Besides Howlin’Coyote®,
Stouffer’s offers a frozen chili product (Slowfire Classic’s Chunky
Beef & Bean Chili) as part of its broad line of frozen dinners and
entrees. Major canned chili brands include Hormel,Wolf, Dennison,
Stagg, Austin’s, and Castleberry’s. Their retail prices range from
$1.49 to $2.49. In the fall of 2004, Campbell’s, the world’s largest
maker of soup, and Bush Brothers, a privately held marketer of
baked beans, will enter the canned chili market. However, Bush
will use a glass bottle to package its Homestyle Chili brand.
As with the Industry
Analysis, the Competitor
Analysis demonstrates that
the company has a realistic
understanding of who its
major competitors are and
what their marketing
strategies are. Again, a
realistic assessment gives
confidence to readers that
subsequent marketing
actions in the plan rest on a
solid foundation.
This summary of sales of
key entrees in the prepared
frozen-food product
category, showing Mexican
entrees are significant,
provides a variety of future
opportunities for Paradise
Kitchens.
23
24 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
Bluntly put, the major disadvantage of the segment’s dominant
product, canned chili, is that it does not taste very good. A taste test
described in an issue of Consumer Reports magazine ranked 26
canned chili products “poor”to “fair” in overall sensory quality. The
study concluded,“Chili doesn’t have to be hot to be good. But
really good chili, hot or mild, doesn’t come out of a can.”
Dry mix brands include such familiar spice brands as
McCormick (which has 40 percent of this market), Lawry’s,
French’s, and Durkee, along with smaller offerings such as Wick
Fowler’s and Carroll Shelby’s. Their retail prices range from $0.99
to $1.49. The Consumer Reports study was more favorable about
dry chili mixes, ranking them from “fair” to “very good.”
COMPANY ANALYSIS
Currently, Howlin’Coyote? products compete in the chili and
Mexican frozen entree segments of the Southwestern/Mexican
food market. While the chili obviously competes as a stand-alone
product, its exceptional quality means it can complement such
dishes as burritos, nachos, and enchiladas and can be readily used
as a smothering sauce for pasta, rice, or potatoes. This flexibility of
use is relatively rare in the prepared food marketplace.With
Howlin’Coyote®, Paradise Kitchens is broadening the position of
frozen chili in a way that can lead to impressive market share for
the new product category.
The Company now uses a single outside producer with which it
works closely to maintain the consistently high quality required in
its products. The greater volume has increased production
efficiencies, resulting in a steady decrease in the cost of goods sold.
The Company Analysis
provides details of the
company’s strengths and
marketing strategies that
will enable it to achieve the
mission and goals identified
earlier.
24
A SAMPLE MARKETING PLAN 25
CUSTOMER ANALYSIS
In terms of customer analysis, this section describes (1) the
characteristics of customers expected to buy Howlin’Coyote?
products and (2) health and nutrition concerns of Americans
today.
Customer Characteristics. Demographically, chili products in
general are purchased by consumers representing a broad range of
socioeconomic backgrounds. Howlin’Coyote? chili is purchased
chiefly by consumers who have achieved higher levels of education
and whose income is $50,000 and higher. These consumers
represent 50 percent of canned and dry mix chili users.
The household buying Howlin’Coyote? has one to three
people in it. Among married couples, Howlin’Coyote? is
predominantly bought by households in which both spouses work.
While women are a majority of the buyers, single men represent a
significant segment. Anecdotally, Howlin’Coyote? has heard from
fathers of teenaged boys who say they keep a freezer stocked with
the chili because the boys devour it.
Because the chili offers a quick way to make a tasty meal, the
product’s biggest users tend to be those most pressed for time.
Howlin’Coyote?’s premium pricing also means that its purchasers
are skewed toward the higher end of the income range. Buyers
range in age from 25 to 54. Because consumers in the western
United States have adopted spicy foods more readily than the rest
of the country, Howlin’Coyote?’s initial marketing expansion
efforts will be concentrated in that region.
This “introductory overview”
sentence tells the
reader the topics covered in
the section—in this case
customer characteristics
and health and nutrition
concerns. While this
sentence may be omitted in
short memos or plans, it
helps readers see where the
text is leading. These
sentences are used
throughout this plan.
The higher-level “A
heading”of Customer
Analysis has a more dominant
typeface and position
than the lower-level “B
heading”of Customer
Characteristics. These
headings introduce the
reader to the sequence and
level of topics covered.
Satisfying customers and
providing genuine value to
them is why organizations
exist in a market economy.
This section addresses the
question of “Who are the
customers for Paradise
Kitchens’products?”
25
26 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
Health and Nutrition Concerns. Coverage of food issues in the
U.S. media is often erratic and occasionally alarmist. Because
Americans are concerned about their diets, studies from organizations
of widely varying credibility frequently receive significant
attention from the major news organizations. For instance, a study
of fat levels of movie popcorn was reported in all the major media.
Similarly, studies on the healthfulness of Mexican food have received
prominent “play”in print and broadcast reports. The high caloric
levels of much Mexican and Southwestern-style food had been
widely reported and often exaggerated. Some Mexican frozen-food
competitors, such as Don Miguel, Mission Foods, Ruiz Foods, and
Jose Ole, plan to offer or have recently offered more “carb-friendly”
and “fat-friendly”products in response to this concern.
Howlin’Coyote® is already lower in calories, fat, and sodium
than its competitors, and those qualities are not currently being
stressed in its promotions. Instead, in the space and time available
for promotions, Howlin’Coyote®’s taste, convenience, and
flexibility are stressed.
5. Product-Market Focus
This section describes the five-year marketing and product
objectives for Paradise Kitchens and the target markets, points of
difference, and positioning of its lines of Howlin’Coyote? chilies.
MARKETING AND PRODUCT OBJECTIVES
Howlin’Coyote?’s marketing intent is to take full advantage of
its brand potential while building a base from which other revenue
sources can be mined—both in and out of the retail grocery
business. These are detailed in four areas below:
• Current markets. Current markets will be grown by
expanding brand and flavor distribution at the retail level. In
addition, same-store sales will be grown by increasing
consumer awareness and repeat purchases.With this
increase in same-store sales, the more desirable broker/warehouse
distribution channel will become available, increasing
efficiency and saving costs.
The chances of success for
a new product are significantly
increased if objectives
are set for the product
itself and if target market
segments are identified for
it. This section makes these
explicit for Paradise
Kitchens. The objectives
also serve as the planned
targets against which
marketing activities are
measured in program
implementation and
control.
This section demonstrates
the company’s insights into
a major trend that has a
potentially large impact.
26
A SAMPLE MARKETING PLAN 27
• New markets. By the end of Year 5, the chili, salsa, burrito,
and enchilada business will be expanded to a total of 20
metropolitan areas. This will represent 70 percent of U.S.
food store sales.
• Food service. Food service sales will include chili products
and smothering sauces. Sales are expected to reach
$693,000 by the end of Year 3 and $1.5 million by the end of
Year 5.
• New products. Howlin’Coyote?’s brand presence will be
expanded at the retail level through the addition of new
products in the frozen-foods section. This will be accomplished
through new product concept screening in Year 1 to
identify new potential products. These products will be
brought to market in Years 2 and 3. Additionally, the brand
may be licensed in select categories.
TARGET MARKETS
The primary target market for Howlin’Coyote? products is
households with one to three people, where often both adults
work, with household income typically above $50,000 per year.
These households contain more experienced, adventurous
consumers of Southwestern/Mexican food and want premium
quality products.
POINTS OF DIFFERENCE
The “points of difference”—characteristics that make Howlin’
Coyote? chilies unique relative to competitors—fall into three
important areas:
• Unique taste and convenience. No known competitor offers
a high-quality,“authentic”frozen chili in a range of flavors.
And no existing chili has the same combination of quick
preparation and home-style taste.
• Taste trends. The American palate is increasingly intrigued
by hot spices, and Howlin’Coyote? brands offer more “kick”
than most other prepared chilies.
• Premium packaging. Howlin’Coyote?’s high-value
packaging graphics convey the unique, high-quality product
contained inside and the product’s nontraditional
positioning.
This section identifies the
specific niches or target
markets toward which the
company’s products are
directed.When appropriate
and when space permits,
this section often includes a
product-market matrix.
An organization cannot
grow by offering only
“me-too products.” The
greatest single factor in a
new product’s failure is the
lack of significant “points of
difference”that set it apart
from competitors’ substitutes.
This section makes
these points of difference
explicit.
27
28 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
POSITIONING
In the past chili products have been either convenient or tasty,
but not both. Howlin’Coyote? pairs these two desirable characteristics
to obtain a positioning in consumers’ minds as very highquality
“authentic Southwestern/Mexican tasting”chilies that can
be prepared easily and quickly.
6. Marketing Program
The four marketing mix elements of the Howlin’Coyote? chili
marketing program are detailed below. Note that “chile” is the
vegetable and “chili” is the dish.
PRODUCT STRATEGY
After first summarizing the product line, the approach to
product quality and packaging is covered.
Product Line. Howlin’Coyote? chili, retailing for $3.99 for an
11-ounce serving, is available in five flavors. The five are:
• Green Chile Chili: braised extra-lean pork with fire-roasted
green chilies, onions, tomato chunks, bold spices, and
jalapeno peppers, based on a Southwestern favorite.
• Red Chile Chili:extra-lean cubed pork, deep-red acho
chilies, and sweet onions;known as the “Texas Bowl of
Red.”
• Beef and Black Bean Chili: lean braised beef with black
beans, tomato chunks, and Howlin’Coyote?’s own blend of
red chilies and authentic spicing.
• Chicken Chunk Chili:hearty chunks of tender chicken, fireroasted
green chilies, black beans, pinto beans, diced onions,
and zesty spices.
• Mean Bean Chili:vegetarian, with nine distinctive bean
varieties and fire-roasted green chilies, tomato chunks,
onion, and a robust blend of spices and rich red chilies.
Unique Product Quality. The flavoring systems of the Howlin’
Coyote? chilies are proprietary. The products’ tastiness is due to
extra care lavished upon the ingredients during production. The
ingredients used are of unusually high quality. Meats are low-fat
cuts and are fresh, not frozen, to preserve cell structure and
moistness. Chilies are fire-roasted for fresher taste, not the canned
variety used by more mainstream products. Tomatoes and
vegetables are select quality. No preservatives or artificial flavors
are used.
Using parallel structure,
this bulleted list presents
the product line efficiently
and crisply.
A positioning strategy helps
communicate the
company’s unique points of
difference of its products to
prospective customers in a
simple, clear way. This
section describes this
positioning.
Everything that has gone
before in the marketing
plan sets the stage for the
marketing mix actions
covered in the marketing
program.
This section describes in
detail three key elements of
the company’s product
strategy: the product line,
its quality and how this is
achieved, and its “cutting
edge”packaging.
28
A SAMPLE MARKETING PLAN 29
Packaging. Reflecting the “cutting edge”marketing strategy of
its producers, Howlin’Coyote? bucks conventional wisdom in
packaging. It avoids placing predictable photographs of the
product on its containers. (Head to any grocer’s freezer and you
will be hardpressed to find a product that does not feature a heavily
stylized photograph of the contents.) Instead, Howlin’Coyote?’s
package shows a Southwestern motif that communicates the
product’s out-of-the-ordinary positioning. This approach signals the
product’s nontraditional qualities: “adventurous”eating with
minimal fuss—a frozen meal for people who do not normally enjoy
frozen meals.
PRICE STRATEGY
Howlin’Coyote? chili is, at $3.99 for an 11-ounce package,
priced comparably to the other frozen offerings and higher
than the canned and dried chili varieties. However, the
significant taste advantages it has over canned chilies and the
convenience advantages over dried chilies justify this pricing
strategy.
PROMOTION STRATEGY
Key promotion programs feature in-store demonstrations,
recipes, and cents-off coupons.
In-Store Demonstrations. In-store demonstrations will be
conducted to give consumers a chance to try Howlin’Coyote?
products and learn about their unique qualities. Demos will be
conducted regularly in all markets to increase awareness and trial
purchases.
Recipes. Because the products’flexibility of use is a key selling
point, recipes will be offered to consumers to stimulate use. The
recipes will be given at all in-store demonstrations, on the back of
packages, and through a mail-in recipe book offer. In addition,
recipes will be included in coupons sent by direct-mail or freestanding
inserts. For new markets, recipes will be included on inpack
coupon inserts.
Cents-Off Coupons. To generate trial and repeat-purchase of
Howlin’Coyote? products, coupons will be distributed in four
ways:
• In Sunday newspaper inserts. Inserts are highly read and will
help generate awareness. Coupled with in-store
Elements of the Promotion
Strategy are highlighted
here with B-headings in
terms of the three key
promotional activities the
company is emphasizing for
its product line: in-store
demonstrations, recipes
featuring its Howlin’
Coyote? chilies, and
cents-off coupons.
This Price Strategy section
makes the company’s price
point very clear, along with
its price position relative to
potential substitutes.When
appropriate and when
space permits, this section
might contain a break-even
analysis.
29
30 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
demonstrations, this has been a very successful technique so
far.
• In-pack coupons. Inside each box of Howlin’Coyote? chili
will be coupons for $1 off two more packages of the chili.
These coupons will be included for the first three months
the product is shipped to a new market. Doing so encourages
repeat purchases by new users.
• Direct-mail chili coupons. Those households that fit the
Howlin’Coyote? demographics described above will be
mailed coupons. This is likely to be an efficient promotion
due to its greater audience selectivity.
• In-store demonstrations. Coupons will be passed out at
in-store demonstrations to give an additional incentive to
purchase.
DISTRIBUTION STRATEGY
Howlin’Coyote? is distributed in its present markets through a
food distributor. The distributor buys the product,warehouses it, and
then resells and delivers it to grocery retailers on a store-by-store
basis. This is typical for products that have moderate sales—
compared with, say, staples like milk or bread. As sales grow,we will
shift to a more efficient system using a broker who sells the products
to retail chains and grocery wholesalers.
7. Financial Data and Projections
PAST SALES REVENUES
Historically, Howlin’Coyote? has had a steady increase in sales
revenues since its introduction in 1997. In 2001, sales jumped, due
largely to new promotion strategies. Sales have continued to rise,
but at a less dramatic rate. The trend in sales revenues appears in
Figure 3.
Figure 3. Sales Revenues for Paradise Kitchens®, Inc.
Another bulleted list adds
many details for the reader,
including methods of
gaining customer
awareness, trial, and repeat
purchases as Howlin’
Coyote? enters new
metropolitan areas.
The Distribution Strategy is
described here in terms of
both (1) the present
method and (2) the new
one to be used when the
increased sales volume
makes it feasible.
All the marketing mix
decisions covered in the
marketing program have
both revenue and expense
effects. These are summarized
in this section of the
marketing plan.
The graph shows more
clearly the dramatic growth
of sales revenue than data
in a table would do.
1997
60 210 360
600
1650
2428
3174
4067
5123
5,500
0
4,000
4,500
5,000
3,500
3,000
2,500
2,000
1,500
1,000
500
1998 1999 2000 2001
Year
Sales Revenues ($1,000)
2002 2003 2004 2005
30
A SAMPLE MARKETING PLAN 31
FIVE-YEAR PROJECTIONS
Five-year financial projections for Paradise Kitchens®, Inc.
appear below:
Projections
Financial Actual Year 1 Year 2 Year 3 Year 4 Year 5
Element Units 2006 2006 2007 2008 2009 2010
Cases sold 1,000 353 684 889 1,249 1,499 1,799
Net sales $1,000 5,123 9,913 12,884 18,111 21,733 26,080
Gross profit $1,000 2,545 4,820 6,527 8,831 10,597 12,717
Selling and
general
and admin.
expenses $1,000 2,206 3,835 3,621 6,026 7,231 8,678
Operating
profit (loss) $1,000 339 985 2,906 2,805 3,366 4,039
These projections reflect the continuing growth in number of
cases sold (with 8 packages of Howlin’Coyote? chili per case) and
increasing production and distribution economies of scale as sales
volume increases.
Because this table is very
short, it is woven into the
text, rather than given a
table number and title.
The Five-Year Financial
Projections section starts
with the judgment forecast
of cases sold and the
resulting net sales. Gross
profit and then operating
profit—critical for the
company’s survival—are
projected. An actual plan
often contains many pages
of computer-generated
spreadsheet projections,
usually shown in an
appendix to the plan.
31
32 CHAPTER 1 FOUNDATIONS OF STRATEGIC MARKETING MANAGEMENT
8. Implementation Plan
Introducing Howlin’Coyote? chilies to 17 new metropolitan
areas is a complex task and requires that creative promotional
activities gain consumer awareness and initial trial among the
target market households identified earlier. The anticipated rollout
schedule to enter these metropolitan markets appears in Figure 4.
Figure 4. Rollout Schedule to Enter New U.S. Markets
New Markets Cumulative Cumulative Percentage
Year Added Markets of U.S.Market
Today (2005) 2 5 16
Year 1 (2006) 3 8 21
Year 2 (2007) 4 12 29
Year 3 (2008) 2 14 37
Year 4 (2009) 3 17 45
Year 5 (2010) 3 20 53
The diverse regional tastes in chili will be monitored carefully
to assess whether minor modifications may be required in the chili
recipes. For example, what is seen as “hot”in Boston may not be
seen as “hot”in Dallas. As the rollout to new metropolitan
areas continues, Paradise Kitchens will assess manufacturing and
distribution trade-offs. This is important in determining whether to
start new production with selected high-quality regional contract
packers.
9. Evaluation and Control
Monthly sales targets in cases have been set for Howlin’
Coyote? chili for each metropolitan area. Actual case sales will be
compared with these targets and tactical marketing programs
modified to reflect the unique sets of factors in each metropolitan
area. The speed of the roll out program may increase or decrease,
depending on Paradise Kitchens’ performance in the successive
metropolitan markets it enters. Similarly, as described above in the
section on the implementation plan, Paradise Kitchens may elect to
respond to variations in regional tastes by using contract packers,
which will reduce transportation and warehousing costs but will
require special efforts to monitor production quality.
10. Appendices
The Implementation Plan
shows how the company
will turn plans into results.
Gantt charts are often used
to set deadlines and assign
responsibilities for the
many tactical marketing
decisions needed to enter a
new market.
The essence of Evaluation
and Control is comparing
actual sales with the
targeted values set in the
plan and taking appropriate
actions. Note that the
section briefly describes a
contingency plan for alternative
actions, depending
on how successful the
entry into a new market
turns out to be.
Various appendices may
appear at the end of the
plan, depending on the
purpose and audience for
them. For example, detailed
financial spreadsheets often
appear in an appendix.
32
C H A P T E R 2
Financial Aspects of
Marketing Management
Marketing managers are accountable for the impact of their actions on
profit and cash flow. Therefore, they need a working knowledge of basic
accounting and finance concepts. This chapter provides an overview of
several concepts from accounting and finance that are useful in marketing
management:(1) variable and fixed costs, (2) relevant and sunk costs, (3) margins,
(4) contribution analysis, (5) liquidity, (6) operating leverage, (7) discounted cash
flow, and (8) customer lifetime value analysis. In addition, considerations when
preparing pro forma income statements are described.
¦ VARIABLE AND FIXED COSTS
An organization’s costs divide into two broad categories: variable costs and fixed
costs.
Variable Costs
Variable costs are expenses that are uniform per unit of output within a relevant time
period (usually defined as a budget year); yet total variable costs fluctuate in direct
proportion to the output volume of units produced. In other words, as volume
increases, total variable costs increase.
Variable costs are divided into two categories, one of which is cost of goods sold.
For a manufacturer or a provider of a service, cost of goods sold covers materials,
labor, and factory overhead applied directly to production. For a reseller (wholesaler
or retailer), cost of goods sold consists primarily of the cost of merchandise. The second
category of variable costs consists of expenses that are not directly tied to production
but that nevertheless vary directly with volume. Examples include sales
commissions, discounts, and delivery expenses.
Fixed Costs
Fixed costs are expenses that do not fluctuate with output volume within a relevant
time period (the budget year) but become progressively smaller per unit of output as
volume increases. The decrease in per-unit fixed cost results from the increase in the
33
33
number of output units over which fixed costs are allocated. Note, however, that no
matter how large volume becomes, the absolute size of fixed costs remains unchanged.
Fixed costs divide into two categories: programmed costs and committed costs.
Programmed costs result from attempts to generate sales volume. Marketing expenditures
are generally classified as programmed costs. Examples include advertising,
sales promotion, and sales salaries. Committed costs are those required to maintain
the organization. They are usually nonmarketing expenditures such as rent and
administrative and clerical salaries.
It is important to understand the concept of fixed cost. Remember that total fixed
costs do not change during a budget year, regardless of changes in volume. Once fixed
expenditures for a marketing program have been made, they remain the same
whether or not the program causes unit volume to change.
Despite the clear-cut classification of costs into variable and fixed categories suggested
here, cost classification is not always apparent in actual practice. Many times
costs have a fixed and a variable component. For example, selling expenses often
have a fixed component (such as salary) and a variable component (such as commissions
or bonus) that are not always evident at first glance.
¦ RELEVANT AND SUNK COSTS
Relevant Costs
Relevant costs are expenditures that (1) are expected to occur in the future as a result
of some marketing action and (2) differ among marketing alternatives being considered.
In short, relevant costs are future expenditures unique to the decision alternatives
under consideration.
The concept of relevant cost can best be illustrated by an example. Suppose a
manager considers adding a new product to the product mix. Relevant costs include
potential expenditures for manufacturing and marketing the product, plus salary
costs arising from the time sales personnel give to the new product at the expense of
other products. If this additional product does not affect the salary costs of sales personnel,
salaries are not a relevant cost.
As a general rule, opportunity costs are also relevant costs. Opportunity costs are
the forgone benefits from an alternative not chosen.
Sunk Costs
Sunk costs are the direct opposite of relevant costs. Sunk costs are past expenditures
for a given activity and are typically irrelevant in whole or in part to future decisions. In
a marketing context, sunk costs include past research and development expenditures
(including test marketing) and last year’s advertising expense. These expenditures,
although real, will neither recur in the future nor influence future expenditures.When
marketing managers attempt to incorporate sunk costs into future decisions affecting
new expenditures, they often fall prey to the sunk cost fallacy—that is, they attempt to
recoup spent dollars by spending still more dollars in the future.
¦ MARGINS
Another useful concept for marketing managers is that of margin, which refers to the
difference between the selling price and the “cost” of a product or service. Margins
are expressed on a total volume basis or on an individual unit basis, in dollar terms or
as percentages. The three described here are gross, trade, and net profit margins.
34 CHAPTER 2 FINANCIAL ASPECTS OF MARKETING MANAGEMENT
34
Gross Margin
Gross margin, or gross profit, is the difference between total sales revenue and total cost
of goods sold, or, on a per-unit basis, the difference between unit selling price and unit
cost of goods sold. Gross margin may be expressed in dollar terms or as a percentage.
Total Gross Margin Dollar Amount Percentage
Net sales $100 100%
Cost of goods sold 40 40
Gross profit margin $60 60%
Unit Gross Margin
Unit sales price $1.00 100%
Unit cost of goods sold 0.40 40
Unit gross profit margin $0.60 60%
Gross margin analysis is a useful tool because it implicitly includes unit selling
prices of products or services, unit costs, and unit volume. A decrease in gross margin
is of immediate concern to a marketing manager because such a change has a direct
impact on profits, providing that other expenditures remain unchanged. Changes in
total gross margin should be examined in depth to determine whether the change
was brought about by fluctuations in unit volume, changes in unit price or unit cost of
goods sold, or a modification in the sales mix of the firm’s products or services.
Trade Margin
Trade margin is the difference between unit sales price and unit cost at each level of
a marketing channel (for example, manufacturer ? wholesaler ? retailer). A trade
margin is frequently referred to as a markup or mark-on by channel members, and it
is often expressed as a percentage.
Trade margins are occasionally confusing, since the margin percentage can be
computed on the basis of cost or selling price. Consider the following example. Suppose
a retailer purchases an item for $10 and sells it at a price of $20—that is, a $10
margin. What is the retailer’s margin percentage?
Retailer margin as a percentage of cost is
Retailer margin as a percentage of selling price is
Differences in margin percentages show the importance of knowing the base (cost or
selling price) on which the margin percentage is determined. Trade margin percentages
are usually determined on the basis of selling price, but practices do vary
among firms and industries.
Trade margins affect the pricing of individual items in two ways. First, suppose a
wholesaler purchases an item for $2.00 and seeks to achieve a 30 percent margin on
this item based on selling price.What would be the selling price?
$2.00 70 percent of selling price
or
Selling price $2.00/0.70 $2.86
$
$
10
20
× 10050 percent
$
$
10
10
× 100100 percent
MARGINS 35
35
Second, suppose a manufacturer suggests a retail list price of $6.00 on an item for
ultimate resale to the consumer. The item will be sold through retailers whose policy
is to obtain a 40 percent margin based on selling price. For what price must the manufacturer
sell the item to the retailer?
where x is the retailer margin. Solving for x indicates that the retailer must obtain
$2.40 for this item. Therefore, the manufacturer must set the price to the retailer at
$3.60 ($6.00 $2.40).
The manufacturer’s problem of suggesting a price for ultimate resale to the consumer
becomes more complex as the number of intermediaries between the manufacturer
and the final consumer increases. This complexity can be illustrated by
expanding the above example to include a wholesaler between the manufacturer and
retailer. The retailer receives a 40 percent margin on the sales price. If the retailer
must receive $2.40 per unit, the wholesaler must sell the item for $3.60 per unit. In
order for the wholesaler to receive a 20 percent margin, for what price must the manufacturer
sell the unit to the wholesaler?
where x is the wholesaler margin. Solving for x shows that the wholesaler’s margin
is $0.72 for this item. Therefore, the manufacturer must set the price to the wholesaler
at $2.88.
This example shows that a manager must work backward from the ultimate price
to the consumer through the marketing channel to arrive at a product’s selling
price. Assuming that the manufacturer’s cost of goods sold is $2.00,we can calculate
the following margins, which incidentally show the manufacturer’s gross margin of
30.6 percent.
Gross Margin
Unit Cost of Unit Selling as a Percentage
Goods Sold Price of Selling Price
Manufacturer $2.00 $2.88 30.6%
Wholesaler 2.88 3.60 20.0
Retailer 3.60 6.00 40.0
Consumer 6.00
Net Profit Margin (Before Taxes)
The last margin to be considered is the net profit margin before taxes. This margin is
expressed as a dollar figure or a percentage. Net profit margin is the remainder after
cost of goods sold, other variable costs, and fixed costs have been subtracted from
sales revenue. The place of net profit margin in an organization’s income statement is
illustrated by the following:
Dollar Amount Percentage
Net sales $100,000 100%
Cost of goods sold 30,000 30
Gross profit margin $70,000 70%
Selling expenses 20,000 20
Fixed expenses 40,000 40
Net profit margin $10,000 10%
x
$36.60
20 percent wholesaler margin on selling price
x
$6.00
40 percent of selling price
36 CHAPTER 2 FINANCIAL ASPECTS OF MARKETING MANAGEMENT
36
Net profit margin dollars represent a major source of funding for the organization. As
will be shown later, net profit influences the working capital position of the organization;
hence, the dollar amount ultimately affects the organization’s ability to pay its
cost of goods sold plus its selling and administrative expenses. Furthermore, net profit
also affects the organization’s cash flow position.
¦ CONTRIBUTION ANALYSIS
Contribution analysis is an important concept in marketing management.
Contribution is the difference between total sales revenue and total variable costs, or,
on a per-unit basis, the difference between unit selling price and unit variable cost.
Contribution analysis is particularly useful in assessing relationships among costs,
prices, and volumes of products and services with respect to profit.
Break-Even Analysis
Break-even analysis is one of the simplest applications of contribution analysis. Breakeven
analysis identifies the unit or dollar sales volume at which an organization neither
makes a profit nor incurs a loss. Stated in equation form:
Total revenue total variable costs total fixed costs
Since break-even analysis identifies the level of sales volume at which total costs
(fixed and variable) and total revenue are equal, it is a valuable tool for evaluating an
organization’s profit goals and assessing the riskiness of actions.
Break-even analysis requires three pieces of information: (1) an estimate of unit
variable costs, (2) an estimate of the total dollar fixed costs to produce and market the
product or service unit (note that only relevant costs apply), and (3) the selling price
for each product or service unit.
The formula for determining the number of units required to break even is as
follows:
The denominator in this formula (unit selling price minus unit variable costs) is called
contribution per unit. Contribution per unit is the dollar amount that each unit sold
“contributes”to the payment of fixed costs.
Consider the following example. A manufacturer plans to sell a product for $5.00.
The unit variable costs are $2.00, and total fixed costs assigned to the product are
$30,000. How many units must be sold to break even?
Fixed costs $30,000
Contribution per unit unit selling price unit variable cost
$5 $2 $3
Unit break-even volume $30,000/$3 10,000 units
This example shows that for every unit sold at $5.00, $2.00 is used to pay variable
costs. The balance of $3.00 “contributes”to fixed costs.
A related question is what the manufacturer’s dollar sales volume must be to
break even. The manager need only multiply unit break-even volume by the unit selling
price to determine the dollar break-even volume:10,000 units × $5 $50,000.
Unit break-even volume
total dollar fixed costs
unit selling priceunit variable costs
CONTRIBUTION ANALYSIS 37
37
A manager can calculate a dollar break-even point directly without first computing
unit break-even volume. First, the contribution margin must be determined from
the formula:
Using the figures from our example,we find that the contribution margin is 60 percent:
Then the dollar break-even point is computed as follows:
Break-even dollar volume
total fixed costs
$30,000
$50,000
contribution margin 0.60
In many cases it is useful to develop a graphic representation of a break-even
analysis. Exhibit 2.1 provides a visual solution to the problem posed previously. The
horizontal line at $30,000 represents fixed costs. The upward-sloping line beginning
at $30,000 represents the total cost, which is equal to the sum of fixed plus variable
costs. This line has a slope equal to $2.00—each unit increase in volume results in a
$2.00 increase in the total cost. The upward-sloping line beginning at zero represents
revenue and has a slope of $5.00—each unit increase in sales produces a $5.00
increase in revenue. The distance between the revenue line and the total cost line
represents dollars of profit (above the break-even point) or loss (below the breakeven
point).
Contribution margin
$5 2
percent
$
$5
60
Contribution margin
unit selling price unit
variable cost
unit selling price
38 CHAPTER 2 FINANCIAL ASPECTS OF MARKETING MANAGEMENT
E X H I B I T 2 . 1
Break-Even Analysis Chart
$100
90
80
70
60
50
40
30
20
10
0 5 10
Unit Volume (thousands of units)
Total Revenue or
Total Cost ($ thousands)
Fixed Costs
Total Cost
(fixed and variable)
Total Revenue
Variable Costs
Profit
15 20
Loss
Break-Even Point
38
Sensitivity Analysis
Contribution analysis can be applied in a number of different ways, depending on the
manager’s needs. The following illustrations show how the break-even points in our
example can be varied by changing selling price, variable costs, and fixed costs.
1. What would break-even volume be if fixed costs were increased to $40,000
while the selling price and variable costs remained unchanged?
Fixed costs $40,000
Contribution per unit $3
Unit break-even volume $40,000/$3 13,333 units
Dollar break-even volume $40,000/0.60 $66,667
Note that the difference between the dollar break-even volume calculated from the
contribution margin and the result of simply multiplying unit selling price by unit
break-even volume (13,333 × $5 $66,665) is due to rounding.
2. What would break-even volume be if selling price were dropped from $5.00
to $4.00 while fixed and variable costs remained unchanged?
Fixed costs $30,000
Contribution per unit $2
Unit break-even volume $30,000/$2 15,000 units
Dollar break-even volume $30,000/0.50 $60,000
3. Finally, what would break-even volume be if the unit variable cost per unit
were reduced to $1.50, selling price remained at $5.00, and fixed costs were
$30,000?
Fixed costs $30,000
Contribution per unit $3.50
Unit break-even volume $30,000/$3.50 8,571 units
Dollar break-even volume $30,000/0.70 $42,857
Contribution Analysis and Profit Impact
No manager is content to operate at the break-even point in unit or dollar sales volume.
Profits are necessary for the continued operation of an organization. A modified
break-even analysis is used to incorporate a profit goal.
To modify the break-even formula to incorporate a dollar profit goal, we need
only regard the profit goal as an additional fixed cost, as follows:
Suppose a firm has fixed costs of $200,000 budgeted for a product or service, the
unit selling price is $25.00, and the unit variable costs are $10.00. How many units
must be sold to achieve a dollar profit goal of $20,000?
Fixed costs profit goal $200,000 $20,000 $220,000
Contribution per unit $25 $10 $15
Unit volume to achieve dollar profit goal $220,000/$15
$14,667 units
total dollar fixed costsdollar profit goal
contribution per unit
Unit volume to achieve
dollar profit goal
CONTRIBUTION ANALYSIS 39
39
Many firms specify their profit goal as a percentage of sales rather than as a
dollar amount (“Our profit goal is a 20 percent profit on sales”). This objective can be
incorporated into the break-even formula by subtracting the profit goal from the
contribution-per-unit. If the goal is to achieve a 20 percent profit on sales, each dollar of
sales must “contribute” $0.20 to profit. In our example, each unit sold for $25.00 must
contribute $5.00 to profit (.20 × $25.00). The break-even formula incorporating a percent
profit on sales goal is as follows:
The unit volume break-even point to achieve a 20 percent profit goal is 20,000 units:
Fixed costs $200,000
Contribution per unit unit profit goal $25 $10 $5 $10
Unit volume to achieve profit goal $200,000/$10
20,000 units
Contribution Analysis and Market Size
An important consideration in contribution analysis is the relationship of break-even
unit or dollar volume to market size. Consider the situation in which a manager has
conducted a break-even analysis and found the unit volume break-even point to be
50,000 units. This number has meaning only when compared with the potential size
of the market segment sought. If the market potential is 100,000 units, the manager’s
product or service must capture 50 percent of the market sought to break even. An
important question to be resolved is whether such a percentage can be achieved. A
manager can assess the feasibility of a venture by comparing the break-even volume
with market size and market-capture percentage.
Contribution Analysis and Performance Measurement
A second application of contribution analysis lies in performance measurement. For
example, a marketing manager may wish to examine the performance of products.
Consider an organization with two products, X and Y. A description of each product’s
financial performance follows:
Product X Product Y Total
(10,000 volume) (20,000 volume) (30,000 volume)
Unit price $ 10 $ 3
Sales revenue 100,000 60,000 $160,000
Unit variable cost 4 1.50
Total variable cost 40,000 30,000 70,000
Unit contribution 6 1.50
Total contribution 60,000 30,000 90,000
Fixed costs 45,000 10,000 55,000
Net profit $ 15,000 $20,000 $ 35,000
The net profit figure shows that Product Y is more profitable than Product X.
Product X is four times more profitable than Product Y on a unit-contribution basis,
however, and generates twice the contribution dollars to overhead. The difference in
profitability comes from the allocation of fixed costs to the products. In measuring
Unit volume to achieve profit goal
total do
llar fixed costs
contribution per unitunit profit goal
40 CHAPTER 2 FINANCIAL ASPECTS OF MARKETING MANAGEMENT
40
performance, it is important to consider which products contribute most heavily to
the organization’s total fixed costs ($55,000 in this example) and then to total profit.
Should a manager look only at net profit, a decision might be made to drop Product
X. Product Y would then have to cover total fixed costs, however. If the fixed costs
remain at $55,000 and only Product Y is sold, this organization will experience a net
loss of $25,000, assuming no change in Product Y volume.
Assessment of Cannibalization
A third application of contribution analysis is in the assessment of cannibalization
effects. Cannibalization is the process by which one product or service sold by a firm
gains a portion of its revenue by diverting sales from another product or service also
sold by the firm. For example, sales of Brand X’s new gel toothpaste may be at the
expense of sales of Brand X’s existing opaque white toothpaste. The problem facing a
marketing manager is to assess the financial effect of cannibalization.
Consider the following data:
Existing Opaque New Gel
White Toothpaste Toothpaste
Unit selling price $1.00 $1.10
Unit variable costs 0.20 0.40
Unit contribution $0.80 $0.70
The gel toothpaste can be sold at a slightly higher price, given its formulation and
taste, but the variable costs are also higher. Hence, the gel toothpaste has a lower contribution
per unit. Therefore, for every unit of the gel toothpaste sold instead of a unit
of the opaque white toothpaste, the firm “loses” $0.10. Suppose further that the company
expects to sell 1 million units of the new gel toothpaste in the first year after
introduction and that, of that amount, 500,000 units will be diverted from the opaque
white toothpaste, of which the company had expected to sell 1 million units. The task
of the marketing manager is to determine how the introduction of the new gel toothpaste
will affect Brand X’s total contribution dollars.
One approach to assessing the financial impact of cannibalization is shown here:
1. Brand X expects to lose $0.10 for each unit diverted from the opaque white
toothpaste to the gel toothpaste.
2. Given that 500,000 units will be cannibalized from the opaque white toothpaste,
the total contribution lost is $50,000 ($0.10 × 500,000 units).
3. However, the new gel toothpaste will sell an additional 500,000 units at a contribution
per unit of $0.70, which means that $350,000 ($0.70 × 500,000
units) in additional contribution will be generated.
4. Therefore, the net financial effect is a positive increase in contribution dollars
of $300,000 ($350,000 $50,000).
Another approach to assessing the cannibalization effect is as follows:
1. The opaque white toothpaste alone had been expected to sell 1 million units
with a unit contribution of $0.80. Therefore, contribution dollars without the
gel would equal $800,000 ($0.80 × 1,000,000 units).
2. The gel toothpaste is expected to sell 1 million units with a unit contribution
of $0.70.
3. Given the cannibalism rate of 50 percent (that is, one-half of the gel’s volume
is diverted from the opaque white toothpaste), the combined contribution
can be calculated as follows:
CONTRIBUTION ANALYSIS 41
41
Unit Unit Contribution
Product Volume Contribution Dollars
Opaque white toothpaste 500,000 $0.80 $400,000
Gel toothpaste:
Cannibalized volume 500,000 0.70 350,000
Incremental volume __5__0_0_,0_0_0_ 0.70 ____3_5_0_,0_0_0_
Total 1,500,000 $1,100,000
Less original forecast volume for
opaque white toothpaste 1_,_0__0_0_,0_0_0_ 0.80 ____8_0_0_,0_0_0_
Total 500,000 $300,000
Both approaches arrive at the same conclusion: Brand X will benefit by $300,000
from the introduction of the gel toothpaste. The manager should use whichever
approach he or she is more comfortable with in an analytic sense.
It should be emphasized, however, that the incremental fixed costs associated
with advertising and sales promotion or any additions or changes in manufacturing
capacity must be considered to complete the analysis. If the fixed costs approximate
or exceed $300,000, the new product should be viewed in a very different light.
¦ LIQUIDITY
Liquidity refers to an organization’s ability to meet short-term (usually within a
budget year) financial obligations. A key measure of an organization’s liquidity position
is its working capital. Working capital is the dollar value of an organization’s
current assets (such as cash, accounts receivable, prepaid expenses, inventory)
minus the dollar value of current liabilities (such as short-term accounts payable for
goods and services, income taxes).
A manager should be aware of the impact of marketing actions on working capital.
Marketing expenditures precede sales volume; therefore, cash outlays for marketing
efforts reduce current assets. If marketing expenditures cannot be met out of
cash, accounts payable are incurred. In either case, working capital is reduced. In a
positive vein, a marketing manager’s creation of sales volume, with corresponding
increases in net profit, contributes to working capital. Since the timing of marketing
expenditures and sales volume is often lagged, a marketing manager must be wary of
marketing efforts that unnecessarily deplete working capital and must assess the likelihood
of potential sales, given a specified expenditure level.
¦ OPERATING LEVERAGE
A financial concept closely akin to break-even analysis is operating leverage.
Operating leverage refers to the extent to which fixed costs and variable costs are
used in the production and marketing of products and services. Firms that have high
total fixed costs relative to total variable costs are defined as having high operating
leverage. Examples of firms with high operating leverage include airlines and heavyequipment
manufacturers. Firms with low total fixed costs relative to total variable
costs are defined as having low operating leverage. Firms typically having low operating
leverage include residential contractors and wholesale distributors.
The higher a firm’s operating leverage, the faster its total profits will increase
once sales exceed break-even volume. By the same token, however, those firms with
high operating leverage will incur losses at a faster rate once sales volume falls below
the break-even point.
42 CHAPTER 2 FINANCIAL ASPECTS OF MARKETING MANAGEMENT
42
Exhibit 2.2 illustrates the effect of operating leverage on profit. The base case
shows two firms that have identical break-even sales volumes. The cost structures of
the two firms differ, however, with one having high fixed and low variable costs and
the other having low fixed and high variable costs. Note that when sales volume is
increased 10 percent, the firm with high fixed and low variable costs achieves a much
higher profit than the firm with low fixed and high variable costs. When sales volume
declines, however, just the opposite is true. That is, the firm with high fixed and low
variable costs incurs losses at a faster rate than the firm with high variable and low
fixed costs once sales fall below the break-even point.
The message of operating leverage should be clear from this example. Firms with
high operating leverage benefit more from sales gains than do firms with low operating
leverage. At the same time, firms with high operating leverage are more sensitive
to sales-volume declines, since losses will be incurred at a faster rate. Knowledge of a
firm’s cost structure will, therefore, prove valuable in assessing the gains and losses
from changes in sales volume brought about by marketing efforts.
¦ DISCOUNTED CASH FLOW
Another useful concept from finance is discounted cash flow. Discounted cash flow
incorporates the theory of the time value of money, or present-value analysis. The idea
behind the present value of money is that a dollar received next year is not equivalent to
a dollar received today because the use of money has a value reflected by risk, inflation,
and opportunity cost.To illustrate, if $500 can be invested today at 10 percent, $550 will
be received a year later ($500 10% of $500). In other words, $550 to be received next
year has a present value of $500 if 10 percent can be earned ($550/1.10 = $500). Following
this line of reasoning, the estimated results of an investment (e.g., a business) can
be stated as a cash equivalent at the present time (i.e., its present value). Discounted
cash flows are future cash flows expressed in terms of their present value.
The discounted cash flow technique employs this reasoning by evaluating the present
value of a business’s net cash flow (cash inflows minus cash outflows). A simplified
view of cash flow is “cash flow from operations,”which is net income plus depreciation
charges, because depreciation is a noncash charge against sales to determine net
income. The present value of a stream of cash flows is obtained by selecting an interest
or discount rate at which these flows are to be valued, or discounted, and the timing of
each. The interest or discount rate is often defined by the opportunity cost of capital—
the cost of earnings opportunities forgone by investing in a business with its attendant
risk as opposed to investing in risk-free securities such as U.S. Treasury bills.
DISCOUNTED CASH FLOW 43
E X H I B I T 2 . 2
Effect of Operating Leverage on Profit
Base Case 10% Increase in Sales 10% Decrease in Sales
High-Fixed- High-Variable- High-Fixed- High-Variable- High-Fixed- High-Variable-
Cost Firm Cost Firm Cost Firm Cost Firm Cost Firm Cost Firm
Sales $100,000 $100,000 $110,000 $110,000 $90,000 $90,000
Variable costs 20,000 80,000 22,000 88,000 18,000 72,000
Fixed costs ___8_0_,0_0_0_ ___2_0_,0_0_0_ ___8_0_,0_0_0_ ___2_0_,0_0_0_ ___8_0_,0_0__0_ __2_0_,_0_0_0_
Profit $0 $0 $8,000 $2,000 ($8,000) ($2,000)
43
A simple application of discounted cash flow analysis illustrates the mechanics
involved. Suppose, for example, that a firm is considering investing $105,000 in one of
two businesses. The firm has forecast cash flows for each business over the next five
years. The discount rate adopted by the firm is 15 percent. Given the discount rate of
15 percent, the cash flow when the investment is made is a negative $105,000 (no
cash inflows, only outflows). The first-year cash flow for Business A is discounted by
the factor 1/(1 0.15),1 or $25,000 × 0.870 $21,750. The second-year cash flow for
Business A is discounted by the factor 1/(1 0.15),2 or $35,000 × 0.756 $26,460,
and so forth. Exhibit 2.3 shows the complete analysis for Businesses A and B for the
five-year planning horizon.
Three points are of particular interest. First, an important series of numbers is the
cumulative cash flow. This series shows that the cumulative cash flows from Business B
are greater than from Business A. Second, the payback period is two years for Business
B, as opposed to about three years for Business A. In other words, Business B will recover
its investment sooner than will Business A. Finally, the discounted cash flows incorporating
the time value of money are clearly indicated. Business A will produce a higher cash
flow in later years than will Business B. However, the present value of these cash flows,
when discounted, is less than the value of the cash flows that Business B will produce.
From a decision-making perspective, both businesses produce a positive net
present value. This is important given the decision rule when interpreting net present
value: An investment should be accepted if the net present value is positive and
rejected if it is negative. In which business should the firm invest its capital? Assuming
that the firm wishes to create value for its shareholders, the option with the higher
net present value (Business B) is preferred.
A valuable characteristic of present-value analysis is that the discount factors and
discounted cash are additive. If the projected cash flows from an investment are equal
over a specified time period, summing the discount factors for each of the time periods
(say three years) and multiplying this figure by the annual cash flow estimate will
give the present value.
Suppose, for example, that a firm can expect a constant cash flow of $10 million
per year for three years, and the discount rate is 15 percent. The present value of this
cash flow can be computed as follows (in millions of dollars):
0.870 $10 $8.70
0.756 $10 $7.56
0.658 $10 $6.58
2.284 $10 $22.84
44 CHAPTER 2 FINANCIAL ASPECTS OF MARKETING MANAGEMENT
E X H I B I T 2 . 3
Application of Discounted Cash Flow Analysis with a 15 Percent Discount Factor
Business A Business B
Discount Cumulative Discounted Cumulative Discounted
Year Factor Cash Flow Cash Flow Cash Flow Cash Flow Cash Flow Cash Flow
0 1.000 ($105,000) ($105,000) ($105,000) ($105,000) ($105,000) ($105,000)
1 0.870 25,000 (80,000) 21,750 50,000 (55,000) 43,500
2 0.756 35,000 (45,000) 26,460 55,000 0 41,580
3 0.658 50,000 5,000 32,900 60,000 60,000 39,480
4 0.572 70,000 75,000 40,040 65,000 125,000 37,180
5 0.497 90,000 165,000 ____4_4__,7_3_0_ 70,000 195,000 _____3_4_,7_9_0_
Totals $60,880 $91,530
44
Any basic finance textbook covers discounted cash flow in depth and should be consulted
for further study. As a word of caution, the application of discounted cash flow
analysis is deceptively simple. Determining appropriate discount rates and projecting
future cash flows is not an easy task. Conservative estimates and the use of several
“what if”scenarios will ensure that the discounted cash flow technique will highlight
investment opportunities that create value for the firm and its shareholders.
¦ CUSTOMER LIFETIME VALUE
Many contemporary marketing managers apply present-value analysis to identify the
financial consequences of an organization’s long-term customer relationships. They
do this by estimating customer lifetime value. Customer lifetime value (CLV) is the
present value of future cash flows arising from a customer relationship. Recall from
the previous discussion on present-value analysis, the present value of any stream of
future cash flows is designed to measure the single lump-sum dollar value today of
future cash flows. CLV is simply that lump-sum dollar value of a customer relationship.
Once known, the estimated CLV sets the upper bound for how much a company
would be willing to pay to attract and retain a customer.
A variety of approaches are used to estimate CLV. The approach described here
includes the basic variables used and their relationships in arriving at CLV. The CLV
calculation requires three pieces of information: (1) the per-period (month or year)
cash margin per customer ($M), defined as sales revenue minus variable costs and
other traceable cash expenditures necessary to keep the customer; (2) the retention
rate (r), defined as the per-period probability that the customer will be retained, and
(3) the interest rate (i ) used for discounting future cash flows. A formula for calculating
CLV, assuming a constant per-period margin, a constant per-period retention rate,
and an infinite time horizon, can be written as follows:
Customer Lifetime Value M
$
1
1 i r
?
? ?
?
? ?
CUSTOMER LIFETIME VALUE 45
These simplifying assumptions are made for expository purposes. More complex
CLV formulas incorporate changing margins and retention rates per-period and limited
(5-year or 10-year) time horizons. Their description is beyond the scope of this
discussion. However, if per-period margins vary little across periods, per-period retention
rates are 80 percent or less, and the interest rate for discounting future cash flows
is 20 percent or less, the simplifying assumptions result in a CLV estimate that is close
to that derived from more complex CLV formulations.
To illustrate the CLV calculation, consider a credit card company. It has a cardmember
with an annual margin of $2,000. The typical retention rate for cardmembers
is 80 percent. The applicable interest rate to discount future cash flows is 10 percent.
Therefore, this cardmember has a CLV of $6,666.67:
If the credit card company increases the cardmember retention rate to 90 percent
(which represents a 12.5 percent increase), then the CLV would almost double to
$10,000.00:
This example demonstrates the favorable financial effect of increasing the retention
rate, or loyalty, among profitable customers.
CLV$2,000 $10,000.00
1
1 .10 .90
?
? ?
?
? ?
CLV $2,000
1
1 .10 80
$6.666.67
.
?
? ?
?
? ?
45
Suppose the credit card company observes that cardmember activity grows over
time and the margin increases at a constant rate (g) of 6 percent per year. The CLV formula
can be modified slightly to include this constant margin growth rate:
Customer Lifetime
Value with constant $M
margin growth
Therefore, for a cardmember with an initial $2,000 margin that grows at a constant
rate of 6 percent per year, an 80 percent retention rate, and a company discount rate
of 10 percent, the CLV is $8,333.33:
CLV (constant margin growth) $2,000 $8,333.33
This example illustrates the favorable financial effect of increasing business from a
profitable customer.
Marketing efforts play a major role in two of the three determinants of CLV:
(1) customer margin, including margin growth, and (2) customer retention. For
example, margin results from the price(s) paid for a company’s offering(s) as well as
the amount purchased. Companies attempt to increase margin by cross-selling related
offerings to customers and up-selling; that is, selling customers more expensive offerings.
Retention obviously results from customer satisfaction with a company’s offerings.
In addition, companies often use loyalty programs that reward loyal customers
for buying repeatedly and in substantial amounts.
Some companies modify the CLV formula to include the cost of acquiring a customer.
In this instance, the acquisition cost (AC) is subtracted to arrive at a net present
value CLV as shown below:
Customer Lifetime
Value including Acquisition $M AC
Cost
Even though the CLV calculation is straightforward, its application requires considerable
insight into a company’s customer relationships. Per-period margin and
retention rates can be determined either through analysis of the company’s customer
database or industry norms. Still, the task is challenging. For example, while the revenue
from a customer is relatively easy to identify, tracing acquisition and retention
cash expenditures to a specific customer is often difficult.
¦ PREPARING A PRO FORMA INCOME STATEMENT
Because marketing managers are accountable for the profit impact of their actions, they
must translate their strategies and tactics into pro forma, or projected, income statements.
A pro forma income statement displays projected revenues, budgeted expenses,
and estimated net profit for an organization, product, or service during a specific planning
period, usually a year. Pro forma income statements include a sales forecast and a
listing of variable and fixed costs that can be programmed or committed.
Pro forma income statements can be prepared in different ways and reflect varying
levels of specificity. Exhibit 2.4 shows a typical layout for a pro forma income
statement consisting of six major categories or line items:
1. Sales—forecasted unit volume times unit selling price.
2. Cost of goods sold—costs incurred in buying or producing products and
services. Generally speaking, these costs are constant per unit within certain
volume ranges and vary with total unit volume.
1
1ir
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1
1.10.80.06
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1
1irg
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46 CHAPTER 2 FINANCIAL ASPECTS OF MARKETING MANAGEMENT
46
3. Gross margin (sometimes called gross profit)—represents the remainder
after cost of goods sold has been subtracted from sales.
4. Marketing expenses—generally, programmed expenses budgeted to produce
sales. Advertising expenses are typically fixed. Sales expenses can be fixed,
such as a salesperson’s salary, or variable, such as sales commissions. Freight
or delivery expenses are typically constant per unit and vary with total unit
volume.
5. General and administrative expenses—generally, committed fixed costs for
the planning period, which cannot be avoided if the organization is to operate.
These costs are frequently called overhead.
6. Net income before (income) taxes (often called net profit before taxes)—the
remainder after all costs have been subtracted from sales.
A pro forma income statement reflects a marketing manager’s expectations
(sales) given certain inputs (costs). This means that a manager must think specifically
about customer response to strategies and tactics and focus attention on the organization’s
financial objectives of profitability and growth when preparing a pro forma
income statement.
¦ SUMMARY
This chapter provides an overview of basic accounting and financial concepts. A word of
caution is necessary, however. Financial analysis of marketing actions is a necessary but
insufficient criterion for justifying marketing programs. A careful analysis of other variables
impinging on the decision at hand is required. Thus, judgment enters the picture.
“Numbers”serve only to complement general marketing analysis skills and are not an end
in themselves. In this regard, it is wise to consider some words of Albert Einstein:“Not
everything that counts can be counted, and not everything that can be counted counts.”
SUMMARY 47
E X H I B I T 2 . 4
Pro Forma Income Statement for the 12-Month Period
Ended December 31, 2006
Sales $1,000,000
Cost of goods sold 500,000
Gross margin $500,000
Marketing expenses
Sales expenses $170,000
Advertising expenses 90,000
Freight or delivery expenses 40,000 300,000
General and administrative expenses
Administrative salaries $120,000
Depreciation on buildings and equipment 20,000
Interest expense 5,000
Property taxes and insurance 5,000
Other administrative expenses 5,000 155,000
Net profit before (income) tax $45,000
47
EXERCISES
1. Executives of Studio Recordings, Inc. produced the latest compact disc by the
Starshine Sisters Band, titled Sunshine/Moonshine. The following cost information
pertains to the new CD:
CD package and disc (direct material and labor) $1.25/CD
Songwriters’ royalties $0.35/CD
Recording artists’ royalties $1.00/CD
Advertising and promotion $275,000
Studio Recordings, Inc.’s overhead $250,000
Selling price to CD distributor $9.00
Calculate the following:
a. Contribution per CD unit
b. Break-even volume in CD units and dollars
c. Net profit if 1 million CDs are sold
d. Necessary CD unit volume to achieve a $200,000 profit
2. Video Concepts, Inc. (VCI) markets video equipment and film through a variety
of retail outlets. Presently, VCI is faced with a decision as to whether it
should obtain the distribution rights to an unreleased film titled Touch of
Orange. If this film is distributed by VCI directly to large retailers,VCI’s investment
in the project would be $150,000.VCI estimates the total market for the
film to be 100,000 units. Other data available are as follows:
Cost of distribution rights for film $125,000
Label design 5,000
Package design 10,000
Advertising 35,000
Reproduction of copies (per 1,000) 4,000
Manufacture of labels and packaging (per 1,000) 500
Royalties (per 1,000) 500
VCI’s suggested retail price for the film is $20 per unit. The retailer’s margin is
40 percent.
a. What is VCI’s unit contribution and contribution margin?
b. What is the break-even point in units? In dollars?
c. What share of the market would the film have to achieve to earn a
20 percent return on VCI’s investment the first year?
3. The group product manager for ointments at American Therapeutic Corporation
was reviewing price and promotion alternatives for two products: Rash-
Away and Red-Away. Both products were designed to reduce skin irritation,
but Red-Away was primarily a cosmetic treatment whereas Rash-Away also
included a compound that eliminated the rash.
The price and promotion alternatives recommended for the two products
by their respective brand managers included the possibility of using additional
promotion or a price reduction to stimulate sales volume. A volume,
price, and cost summary for the two products follows:
Rash-Away Red-Away
Unit price $2.00 $1.00
Unit variable costs 1.40 0.25
48 CHAPTER 2 FINANCIAL ASPECTS OF MARKETING MANAGEMENT
48
Unit contribution $0.60 $0.75
Unit volume 1,000,000 units 1,500,000 units
Both brand managers included a recommendation to either reduce price
by 10 percent or invest an incremental $150,000 in advertising.
a. What absolute increase in unit sales and dollar sales will be necessary
to recoup the incremental increase in advertising expenditures for
Rash-Away? For Red-Away?
b. How many additional sales dollars must be produced to cover each
$1.00 of incremental advertising for Rash-Away? For Red-Away?
c. What absolute increase in unit sales and dollar sales will be necessary
to maintain the level of total contribution dollars if the price of each
product is reduced by 10 percent?
4. After spending $300,000 for research and development, chemists at Diversified
Citrus Industries have developed a new breakfast drink. The drink, called
Zap, will provide the consumer with twice the amount of vitamin C currently
available in breakfast drinks. Zap will be packaged in an 8-ounce can and will
be introduced to the breakfast drink market, which is estimated to be equivalent
to 21 million 8-ounce cans nationally.
One major management concern is the lack of funds available for marketing.
Accordingly, management has decided to use newspapers (rather than television)
to promote Zap in the introductory year and distribute Zap in major
metropolitan areas that account for 65 percent of U.S. breakfast drink volume.
Newspaper advertising will carry a coupon that will entitle the consumer to
receive $0.20 off the price of the first can purchased. The retailer will receive
the regular margin and be reimbursed for redeemed coupons by Diversified
Citrus Industries. Past experience indicates that for every five cans sold during
the introductory year, one coupon will be returned. The cost of the newspaper
advertising campaign (excluding coupon returns) will be $250,000.
Other fixed overhead costs are expected to be $90,000 per year.
Management has decided that the suggested retail price to the consumer
for the 8-ounce can will be $0.50. The only unit variable costs for the product
are $0.18 for materials and $0.06 for labor. The company intends to give retailers
a margin of 20 percent off the suggested retail price and wholesalers a
margin of 10 percent of the retailers’ cost of the item.
a. At what price will Diversified Citrus Industries be selling its product
to wholesalers?
b. What is the contribution per unit for Zap?
c. What is the break-even unit volume in the first year?
d. What is the first-year break-even share of market?
5. Video Concepts, Inc. (VCI) manufactures a line of DVD recorders (DVDs) that
are distributed to large retailers. The line consists of three models of DVDs. The
following data are available regarding the models:
DVD Selling Price Variable Cost Demand/Year
Model per Unit per Unit (units)
Model LX1 $175 $100 2,000
Model LX2 250 125 1,000
Model LX3 300 140 500
VCI is considering the addition of a fourth model to its line of DVDs. This
model would be sold to retailers for $375. The variable cost of this unit is $225.
EXERCISES 49
49
The demand for the new Model LX4 is estimated to be 300 units per year. Sixty
percent of these unit sales of the new model is expected to come from other
models already being manufactured by VCI (10 percent from Model LX1,
30 percent from Model LX2, and 60 percent from Model LX3).VCI will incur a
fixed cost of $20,000 to add the new model to the line. Based on the preceding
data, should VCI add the new Model LX4 to its line of VCRs? Why?
6. Max Leonard, vice president of Marketing for Dysk Computer, Inc., must
decide whether to introduce a midpriced version of the firm’s DC6900 personal
computer product line—the DC6900-X. The DC6900-X would sell for
$3,900, with unit variable costs of $1,800. Projections made by an independent
marketing research firm indicate that the DC6900-X would achieve a
sales volume of 500,000 units next year, in its first year of commercialization.
One-half of the first year’s volume would come from competitors’ personal
computers and market growth. However, a consumer research study indicates
that 30 percent of the DC6900-X sales volume would come from the higherpriced
DC6900-Omega personal computer, which sells for $5,900 (with unit
variable costs of $2,200). Another 20 percent of the DC6900-X sales volume
would come from the economy-priced DC6900-Alpha personal computer,
priced at $2,500 (with unit variable costs of $1,200). The DC6900-Omega unit
volume is expected to be 400,000 units next year, and the DC6900-Alpha is
expected to achieve a 600,000-unit sales level. The fixed costs of launching
the DC6900-X have been forecast to be $2 million during the first year of commercialization.
Should Mr. Leonard add the DC6900-X model to the line of
personal computers? Why?
7. A sports nutrition company is examining whether a new high-performance
sports drink should be added to its product line. A preliminary feasibility
analysis indicated that the company would need to invest $17.5 million in a
new manufacturing facility to produce and package the product. A financial
analysis using sales and cost data supplied by marketing and production personnel
indicated that the net cash flow (cash inflows minus cash outflows)
would be $6.1 million in the first year of commercialization, $7.4 million in
year 2, $7.0 million in year 3, and $5.5 million in year 4.
Senior company executives were undecided whether to move forward
with the development of the new product. They requested that a discounted
cash flow analysis be performed using two different discount rates:20 percent
and 15 percent.
a. Should the company proceed with development of the product if the
discount rate is 20 percent? Why?
b. Does the decision to proceed with development of the product
change if the discount rate is 15 percent? Why?
8. Net-4-You is an Internet Service Provider that charges its 1 million customers
$19.95 per month for its service. The company’s variable costs are $.50 per
customer per month. In addition, the company spends $.50 per month per
customer, or $6 million annually, on a customer loyalty program designed to
retain customers. As a result, the company’s monthly customer retention rate
was 78.8 percent. Net-4-You has a monthly discount rate of 1 percent.
a. What is the customer lifetime value?
b. Suppose the company wanted to increase its customers’ monthly retention
rate and decided to spend an additional $.20 per month per customer
to upgrade its loyalty program benefits. By how much must
Net-4-You increase its monthly customer retention rate so as not to
reduce customer lifetime value resulting from a lower customer margin?
50 CHAPTER 2 FINANCIAL ASPECTS OF MARKETING MANAGEMENT
50
9. The annual planning process at Century Office Systems, Inc. had been arduous
but produced a number of important marketing initiatives for the next year. Most
notably, company executives had decided to restructure its product-marketing
team into two separate groups: (1) Corporate Office Systems and (2) Home
Office Systems. Angela Blake was assigned responsibility for the Home Office
Systems group, which would market the company’s word-processing hardware
and software for home and office-at-home use by individuals. Her marketing
plan, which included a sales forecast for next year of $25 million,was the result
of a detailed market analysis and negotiations with individuals both inside and
outside the company. Discussions with the sales director indicated that 40 percent
of the company sales force would be dedicated to selling products of the
Home Office Systems group. Sales representatives would receive a 15 percent
commission on sales of home office systems. Under the new organizational
structure, the Home Office Systems group would be charged with 40 percent of
the budgeted sales force expenditure. The sales director’s budget for salaries and
fringe benefits of the sales force and noncommission selling costs for both the
Corporate and Home Office Systems groups was $7.5 million.
The advertising and promotion budget contained three elements: trade
magazine advertising, cooperative newspaper advertising with Century Office
Systems, Inc. dealers, and sales promotion materials including product
brochures, technical manuals, catalogs, and point-of-purchase displays. Trade
magazine ads and sales promotion materials were to be developed by the
company’s advertising and public relations agency. Production and media
placement costs were budgeted at $300,000. Cooperative advertising copy
for both newspaper and radio use had budgeted production costs of
$100,000. Century Office Systems, Inc.’s cooperative advertising allowance
policy stated that the company would allocate 5 percent of company sales to
dealers to promote its office systems. Dealers always used their complete
cooperative advertising allowances.
Meetings with manufacturing and operations personnel indicated that
the direct costs of material and labor and direct factory overhead to produce
the Home Office System product line represented 50 percent of sales. The
accounting department would assign $600,000 in indirect manufacturing
overhead (for example, depreciation, maintenance) to the product line and
$300,000 for administrative overhead (clerical, telephone, office space, and so
forth). Freight for the product line would average 8 percent of sales.
Blake’s staff consisted of two product managers and a marketing assistant.
Salaries and fringe benefits for Ms. Blake and her staff were $250,000 per year.
a. Prepare a pro forma income statement for the Home Office Systems
group given the information provided.
b. Prepare a pro forma income statement for the Home Office Systems
group given annual sales of only $20 million.
c. At what level of dollar sales will the Home Office Systems group break
even?
EXERCISES 51
51
52
C H A P T E R 3
Marketing Decision
Making and Case Analysis
Skill in decision making is a prerequisite to being an effective marketing
manager. Indeed, Nobel laureate Herbert Simon viewed managing and
decision making as being one and the same.1 Another management theorist,
Peter Drucker, has said that the burden of decision making can be
lessened and better decisions can result if a manager recognizes that “decision making
is a rational and systematic process and that its organization is a definite sequence of
steps, each of them in turn rational and systematic.”2
One objective of this chapter is to introduce a systematic process for decision making;
another is to introduce basic considerations in case analysis. Just as decision making
and managing can be viewed as being identical in scope, so the decision-making process
and case analysis go hand in hand. For this reason,many companies today use case studies
when interviewing an applicant to assess his or her decision-making skills.They have
found that the applicant’s approach to the case demonstrates strategic thinking, analytical
ability and judgment, along with a variety of communication skills, including listening,
questioning, and dealing with confrontation.3
¦ DECISION-MAKING PROCESS
Although no simple formula exists that can assure a correct solution to all problems at
all times, use of a systematic decision-making process can increase the likelihood of
arriving at better solutions.4 The decision-making process described here is called
DECIDE:5
Define the problem.
Enumerate the decision factors.
Consider relevant information.
Identify the best alternative.
Develop a plan for implementing the chosen alternative.
Evaluate the decision and the decision process.
A definition and a discussion of the implications of each step follow.
53
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54 CHAPTER 3 MARKETING DECISION MAKING AND CASE ANALYSIS
Define the Problem
The philosopher John Dewey observed that “a problem well defined is half solved.”
What this statement means in a marketing setting is that a well-defined problem
outlines the framework within which a solution can be derived. This framework
includes the objectives of the decision maker, a recognition of constraints, and a
clearly articulated success measure, or goal, for assessing progress toward solving the
problem.
Consider the situation faced by El Nacho Foods, a marketer of Mexican foods. The
company had positioned its line of Mexican foods as a high-quality brand and used
advertising effectively to convey that message. Shortly after the company’s introduction
of frozen dinners, two of its competitors began cutting the price of their frozen dinner
entrees. The firm lost market share and sales as a result of these price reductions; this
loss led to reductions in the contribution dollars available for advertising and sales
promotion. How might the problem be defined in this situation? One definition of the
problem leads to the question: “Should we reduce our price?”A much better definition of
the problem leads one to ask: “How can we maintain our quality brand image (objective)
and regain our lost market share (success measure), given limited funds for advertising
and sales promotion (constraint)?”
The first problem definition asks for a response to an immediate issue facing
the company. It does not articulate the broader and more important considerations
of competitive positioning. Hence, the problem statement fails to capture the
significance of the issue raised. The second definition provides a broader perspective
on the immediate issue posed and allows the manager greater latitude in seeking
solutions.
In a case study, the analyst is frequently given alternative courses of action to consider.
The narrow approach to case analysis is simply to compare these different
options. Such an approach often leads to the selection of alternative A or alternative B
without regard to the significance of the choice in the broader context of the situation
facing the company or the decision maker.
Enumerate the Decision Factors
Two sets of decision factors must be enumerated in the decision-making process:
(1) alternative courses of action, and (2) uncertainties in the competitive environment.
Alternative courses of action are controllable decision factors because the
decision maker has complete command of them. Alternatives are typically productmarket
strategies or changes in the various elements of the organization’s marketing
mix (described in Chapter 1). Uncertainties, on the other hand, are uncontrollable
factors that the manager cannot influence. In a marketing context, they often include
actions of competitors, market size, and buyer response to marketing action.
Assumptions often have to be made concerning these factors. These assumptions
need to be spelled out, particularly if they will influence the evaluation of alternative
courses of action.
The experience of Cluett Peabody and Company, the maker of Arrow shirts,
illustrates how the combination of an action and uncertainties can spell disaster.
Arrow departed from its normal practice of selling classic men’s shirts to offer a new
line featuring bolder colors, busier patterns, and higher prices (action). The firm
soon realized that men’s tastes had changed to more conservative styles (environmental
uncertainties). The result? The company posted a $4.5 million loss. According
to the company president,“We tried to be exciting, and we really didn’t look at
the market.”6
Case analysis provides an opportunity to relate alternatives to uncertainties, and
these factors must be related if decision making is to be effective. No expected outcome,
financial or otherwise, of a chosen course of action can realistically be considered
apart from the environment into which it is introduced.
54
DECISION-MAKING PROCESS 55
Consider Relevant Information
The third step in the decision-making process is the consideration of relevant information.
Relevant information, like the relevant costs discussed in Chapter 2, consists
of information that relates to the alternatives identified by the manager as being likely
to affect future events. More specifically, relevant information might include characteristics
of the industry, consumers, or competitive environment, characteristics of
the organization (such as competitive strengths and position), and characteristics of
the alternatives themselves.
Identifying relevant information is difficult both for the practicing manager and for
the case analyst. There is frequently an overabundance of facts, figures, and viewpoints
available in any decision-making setting. In fact, it has been said that “The truly successful
managers and leaders of the [twenty-first] century will . . . be characterized not by
how they can access information, but how they can access the most relevant information
and differentiate it from the exponentially multiplying masses of nonrelevant information.”
7 Determining what matters and what does not is a skill that is best gained
through experience. Analyzing many and varied cases is one way to develop this skill.
Two notes of caution are necessary. First, the case analyst must resist the temptation
to consider everything in a case as “fact.”Many cases, including actual marketing situations,
contain conflicting data. Part of the task in any case analysis is to exercise judgment
in assessing the validity of the data presented. Second, in many instances relevant
information must be created. An example of creating relevant information is the blending
together of several pieces of data, as in the calculation of a simple break-even point.
It should be clear at this point that even though the consideration of relevant
information is the third step in the decision-making process, relevant information will
also affect the two previous steps. As the manager or case analyst becomes more
deeply involved in considering and evaluating information, the problem definition
may be modified or the decision factors may change.
Upon the conclusion of the first three steps, the manager or case analyst has completed
a situation analysis. The situation analysis should produce an answer to the
synoptic question,“Where are we now?”(Specific questions relating to situation analysis
are found in Exhibit 3.4 on page 60.)
Identify the Best Alternative
Identifying the best alternative is the fourth step in the decision-making process. The
selection of a course of action is not simply a matter of choosing Alternative A over
other alternatives but, rather, of evaluating identified alternatives and the uncertainties
apparent in the problem setting.
A framework for identifying the best alternative is decision analysis, which was
introduced in Chapter 1. In its simplest form, decision analysis matches each alternative
identified by the manager with the uncertainties existing in the environment and
assigns a quantitative value to the outcome associated with each match. Managers
implicitly use a decision tree and a payoff table to describe the relationship among alternatives,
uncertainties, and potential outcomes. The use of decision analysis and the
application of decision trees and payoff tables can be illustrated by referring back to the
situation faced by El Nacho Foods.
Suppose that at the conclusion of Step 2 in the DECIDE process (that is, enumerating
decision factors), El Nacho executives identified two alternatives: (1) reduce the
price on frozen dinners, or (2) maintain the price. They also recognized two uncertainties:
(1) Competitors could maintain the lower price, or (2) competitors could reduce
the price further. Suppose further that at the conclusion of Step 3 in the DECIDE
process (considering relevant information), El Nacho executives examined the
changes in market share and sales volume that would be brought about by the pricing
actions. They also calculated the contribution per unit of frozen dinners for each alternative
for each competitor response. They performed a contribution analysis because
55
56 CHAPTER 3 MARKETING DECISION MAKING AND CASE ANALYSIS
the problem was defined in terms of contribution to advertising and sales promotion in
Step 1 of the DECIDE process (defining the problem).
Given two alternatives, two competitive responses, and a calculated contribution
per unit for each combination, they identified four unique financial outcomes. These
outcomes are displayed in the decision tree shown in Exhibit 3.1.
It is apparent from the decision tree that the largest contribution will be generated
if El Nacho maintains its price on frozen dinners and competitors maintain their
lower price. If El Nacho maintains its price and competitors reduce their price further,
however, the lowest contribution among the four outcomes identified will be
generated. The choice of an alternative obviously depends on the likelihood of occurrence
of uncertainties in the environment.
A payoff table is a useful tool for displaying the alternatives, uncertainties, and
outcomes facing a firm. In addition, a payoff table includes another dimension—
management’s subjective determination of the probability of the occurrence of an
uncertainty. Suppose, for example, that El Nacho management believes that competitors
are also operating with slim contribution margins and, hence, are most likely to
maintain the lower price regardless of El Nacho’s action. They believe that there is a
10 percent chance that competitors will reduce the price of frozen dinners even further.
8 Since only two uncertainties have been identified, the subjective probability of
competitors’ maintaining their price is 90 percent (note that the probabilities
assigned to the uncertainties must total 1.0, or 100 percent). Given these probabilities,
the payoff table for El Nacho Foods is shown in Exhibit 3.2.
The payoff table allows the manager or case analyst to compute the “expected
monetary value” for each alternative. The expected monetary value is calculated by
multiplying the outcome for each uncertainty by its probability of occurrence and
E X H I B I T 3 . 1
Decision Tree for El Nacho Foods
Company Competitive Financial
Action Response Outcome
Maintain price $150,000
Reduce price
Reduce price further $110,000
Maintain price $175,000
Maintain price
Reduce price further $90,000
E X H I B I T 3 . 2
Payoff Table for El Nacho Foods
Uncertainties
Competitors Competitors
Maintain Price Reduce Price
(Probability = 0.9) (Probability = 0.1)
Reduce price $150,000 $110,000
Alternatives
Maintain price $175,000 $90,000
56
DECISION-MAKING PROCESS 57
then totaling across the uncertainties for each alternative. The expected monetary
value of an alternative can be viewed as the value that would be obtained if the manager
were to choose the same alternative many times under the same conditions.
The expected monetary value of the price-reduction alternative equals the probability
that competitors will maintain prices,multiplied by the financial contribution if
competitors maintain prices, plus the probability that competitors will further reduce
prices, multiplied by the financial contribution if competitors further reduce prices.
The calculation is
(0.9)($150,000) (0.1)($110,000) $135,000 $11,000 $146,000
The expected monetary value of maintaining the price is
(0.9)($175,000) (0.1)($90,000) $157,500 $9,000 $166,500
The higher average contribution of $166,500 for maintaining the price indicates
that El Nacho’s management should maintain the price. The contribution is higher
because competitors are expected to maintain their prices nine times out of ten. Under
the same conditions (same outcomes, same probability estimates), El Nacho would
achieve an average contribution of $146,000 if the price-reduction alternative were chosen.
A rational management would, therefore, select the price-maintenance alternative.
Familiarity with decision analysis is important for four reasons. First, decision analysis
is a fundamental tool for considering “what if” situations. By organizing alternatives,
uncertainties, and outcomes in this manner, a manager or case analyst becomes sensitive
to the dynamic processes present in a competitive environment. Second, decision analysis
forces the case analyst to quantify outcomes associated with specific actions. Third,
decision analysis is useful in a variety of settings. For example,Warner-Lambert Canada,
Ltd. applied decision analysis when deciding to manufacture and distribute Listerine
throat lozenges in Canada; Ford Motor Company used decision analysis in deciding
whether to produce its own tires; and Pillsbury used it in determining whether to
switch from a box to a bag for a certain grocery product.9 Fourth, an extension of decision
analysis can be used in determining the value of “perfect”information.
Exhibit 3.3 shows how the expected monetary value of “perfect” information
(EMVPI) can be calculated using the El Nacho Foods example. Simply speaking,
E X H I B I T 3 . 3
Decision Analysis and the Value of Information
Payoff Table Uncertainties
Competitors Competitors
Maintain Price Reduce Price
(Probability = 0.9) (Probability = 0.1)
A1:Reduce price $150,000 $110,000
Alternatives
A2: Maintain price $175,000 $90,000
Calculation of Expected Monetary Value (EMV):
EMVA1 = 0.9($150,000) 0.1($110,000) = $146,000
EMVA2 = 0.9($175,000) 0.1($90,000) = $166,500
Calculation of Expected Monetary Value of Perfect Information (EMVPI):
EMVcertainty = 0.9($175,000) 0.1($110,000) = $168,500
EMVPI = EMVcertainty EMVbest alternative
EMVPI = $168,500 $166,500 = $2,000
57
58 CHAPTER 3 MARKETING DECISION MAKING AND CASE ANALYSIS
EMVPI is the difference between what El Nacho would achieve in contribution dollars
if its management knew for certain what competitors would do and the average
contribution dollars realized without such information. In other words, if El Nacho
knew for certain that competitors would maintain their price, the “maintain price”
alternative would be selected. If El Nacho management knew for certain that competitors
would reduce their price, however, the “reduce price” alternative would be
chosen. Assuming El Nacho management faced this decision 10 times and knew what
competitor reaction would be each time, El Nacho management would make the
appropriate decision each time. The result would be an expected monetary value of
$168,500. The difference of $2,000 between $168,500 and $166,500 (the best alternative
without such information) is viewed as the upper limit to pay for “perfect”
information. EMVPI is a useful guide for determining how much money should be
spent for marketing research information to identify the best alternative or course of
action.
Develop a Plan for Implementing the Chosen Alternative
The selection of a course of action must be followed by development of a plan for its
implementation. Simply deciding what to do will not make it happen. The execution
phase is critical, and planning for it forces the case analyst to consider resource allocation
and timing questions. For example, if a new product launch is recommended, it is
important to consider how managerial, financial, and manufacturing resources will be
allocated to this course of action. If a price reduction is recommended, it will be
important to monitor whether the reduced prices are reaching the final consumer
and not being absorbed by resellers in the marketing channel. Timing is crucial, since
a marketing plan takes time to develop and implement.
As a final note, it is important to recognize that strategy formulation and implementation
are not necessarily separate sequential processes. Rather, an interactive
give-and-take occurs between formulation and implementation until the case analyst
realizes that “what might be done can be done,” given organizational strengths and
market requirements. Another reading of the discussion on the marketing mix in
Chapter 1 will highlight these points.
Evaluate the Decision and the Decision Process
The last step in the decision-making process is evaluating the decision made and the
decision process itself.With respect to the decision itself, two questions should be
asked. First,Was a decision made? This seemingly odd question addresses a common
shortcoming of case analyses, whereby a case analyst does not make a decision but,
rather,“talks about”the situation facing the organization.
The second question is, Was the decision appropriate, given the situation
identified in the case setting? This question speaks to the issue of insufficient information
on the one hand and the failure to consider and interpret information on the
other. In many marketing cases, and indeed in some actual business situations, some
of the information needed to make a decision is simply not available. When information
is incomplete, assumptions must be made. A case analyst is often expected to
make assumptions to fill in gaps, but such assumptions should be logically developed
and articulated. Merely making assumptions to make the “solution” fit a preconceived
notion of the correct answer is a death knell in case analysis and business practice.
The case analyst should constantly monitor how he or she applies the decisionmaking
process. The mere fact that one’s decision was right is not a sufficient reason
to think that the decision process was appropriate. For example, we have all found
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PREPARING AND PRESENTING A CASE ANALYSIS 59
ourselves lost while trying to locate a home or business from an address. Eventually
we somehow find it but are again at a loss when later asked to direct someone else to
the same address. Analogously, the case analyst may arrive at the “correct”solution but
be unable to outline (map) the process involved.
After completing a class discussion of a case, a written case assignment, or a
group presentation, the case analyst should critically examine his or her performance
by answering the following questions:
1. Did I define the problem adequately?
2. Did I identify all pertinent alternatives and uncertainties? Were my assumptions
realistic?
3. Did I consider all information relevant to the case?
4. Did I recommend the appropriate course of action? If so,was my logic consistent
with the recommendation? If not, were my assumptions different from
the assumptions made by others? Did I overlook an important piece of information?
5. Did I consider how my recommendation could be implemented?
Honest answers to these questions will improve the chances of making better decisions
in the future.
¦ PREPARING AND PRESENTING A CASE ANALYSIS
How do I prepare and present a case? This question is voiced by virtually every student
exposed to the case method for the first time. One of the most difficult tasks in
preparing a case for presentation—or, more generally, resolving an actual marketing
problem—is structuring your thinking process to address relevant forces confronting
the organization in question. The previous discussion of the decision-making process
should be of help in this regard. The remainder of this chapter provides some useful
hints to assist you in preparing and presenting a marketing case.
Approaching the Case
On your first reading of a marketing case, you should concentrate on becoming
acquainted with the situation in which the organization finds itself. This first reading
should provide some insights into the problem requiring resolution, as well as background
information on the environment and organization.
Then read the case again, paying particular attention to key facts and assumptions.
At this point, you should determine the relevance and reliability of the qualitative
and quantitative data provided in the context of what you see as the issues or
problems facing the organization.Valuable insights often arise from analyzing two or
more bits of qualitative and quantitative information concurrently. It is essential that
extensive note taking occurs during the second reading.Working by writing is very
important; simply highlighting statements or numbers in the case is not sufficient.
Behavioral scientists estimate that the human mind can focus on only eight facts at a
time and that our mental ability to link these facts in a meaningful way is limited without
assistance.10 Experienced analysts and managers always work out ideas on
paper—whether they are working alone or in a group.
There are three pitfalls you should avoid during the second reading. First, do not
rush to a conclusion. If you do so, information is likely to be overlooked or possibly distorted
to fit a preconceived notion of the answer. Second, do not “work the numbers”
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60 CHAPTER 3 MARKETING DECISION MAKING AND CASE ANALYSIS
until you understand their meaning and derivation. Third, do not confuse supposition
with fact. Many statements are made in a case, such as “Our firm subscribes to the marketing
concept.” Is this a fact, based on an appraisal of the firm’s actions and performance,
or a supposition?
Formulating the Case Analysis
The previous remarks should provide some direction in approaching a marketing
case. The marketing case analysis worksheet shown in Exhibit 3.4 provides a framework
for organizing information. Four analytical categories are shown, with illustrative
questions pertaining to each. You will find it useful to consider each analytical
category when preparing a case.
Nature of the Industry, Market, and Buyer Behavior The first analytical category
focuses on the organization’s environment—the context in which the organization
operates. Specific topics of interest include (1) an assessment of the structure,
conduct, and performance of the industry and competition, and (2) an understanding
of who the buyers are and why, where, when, how, what, and how much they buy.
The Organization It is important to develop an understanding of the organization’s
financial, human, and material resources, its strengths and weaknesses, and the
reasons for its success or failure. Of particular importance is an understanding of what
the organization wishes to do. The “fit”between the organization and its environment
represents the first major link drawn in case analysis. This link is the essence of the
E X H I B I T 3 . 4
Marketing Case Analysis Worksheet
Specific Points of Inquiry
Nature of the industry, 1. What is the nature of industry structure, conduct, and performance?
market, and buyer 2. Who are the competitors, and what are their strengths and weaknesses?
behavior 3. How do buyers buy in this industry or market?
4. Can the market be segmented? How? Can the segments be quantified?
5. What are the requirements for success in this industry?
The organization 1. What are the organization’s mission, objectives, and distinctive competency?
2. What is its offering to the market? How can its past and present performance be
characterized? What is its potential?
3. What is the situation in which the manager or organization finds itself?
4. What factors have contributed to the present situation?
A plan of action 1. What actions are available to the organization?
2. What are the costs and benefits of action in both qualitative and
quantitative terms?
3. Is there a disparity between what the organization wants to do, should do, can do,
and must do?
Potential outcomes 1. What will be the buyer, trade, and competitive response to each course of action?
2. How will each course of action satisfy buyer, trade, and organization requirements?
3. What is the potential profitability of each course of action?
4. Will the action enhance or reduce the organization’s ability to compete in the future?
60
PREPARING AND PRESENTING A CASE ANALYSIS 61
situation analysis, since it is an interpretation of where the organization currently
stands. A SWOT analysis like that described in Chapter 1 might be helpful in
organizing your thoughts at this point.
A Plan of Action You should be prepared to identify possible courses of action on
the basis of the situation analysis. More often than not, several alternatives are
possible, and each should be fully articulated. Each course of action typically has
associated costs and revenues. These should be carefully calculated on the basis of
realistic estimates of the magnitude of effort expected in their pursuit.
Potential Outcomes Finally, the potential outcomes of all courses of action
identified should be evaluated. On the basis of the appraisal of outcomes, one course
of action or strategy should be recommended. The evaluation, however,must indicate
not only why the recommendation was preferred, but also why other actions were
dismissed.
Though it is always useful to consider each of the analytical categories just
described, the method in which they are arranged may vary. There is no one way to
analyze a case, just as there is no single correct way to attack a marketing problem.
Just be sure to cover the bases.
Formulating the Case Analysis in Teams Just as organizations now rely on teams to
examine marketing issues, student teams are often assigned a case to analyze. A case
analysis by a team will also consider the four analytical categories just discussed.
However, a team-based case analysis introduces additional considerations that can
affect the quality of a team experience and the analysis itself.
If the instructor asks you to form your own team, care should be taken in choosing
team members. Forming teams on the basis of friendships is common but not
always wise. Rather, try to create a balanced team where various skills complement
one another (financial skills, oral presentation skills, writing skills, and so on). Seek
out individuals who are committed and dependable.
The behavior of a team can also affect the quality of marketing decision making
and a case analysis.11 Care should be taken to avoid “groupthink”—the tendency for
groups that work together over a period of time to produce poorly reasoned decisions.
Groupthink is evident when social pressures and conflict avoidance overtake
the desire to rigorously question analyses and alternatives in favor of seeking conformity
and consensus. Common outcomes of groupthink are an incomplete survey
of issues and alternatives, failure to consider the risks of the group’s decision, failure
to reappraise initially rejected alternatives, limited recognition and evaluation of case
information, and failure to work out contingency plans due to overconfidence in the
likelihood of success of a chosen course of action and the correctness of a decision.12
Alfred Sloan, the legendary chairman of General Motors, was acutely aware of groupthink
in his executive ranks. He was often heard to say,“I take it we are all in complete
agreement on the decision here. Then I propose we postpone further discussion of
the matter until our next meeting to give ourselves time to develop disagreement and
perhaps gain some understanding of what the decision is all about.”13 Case study
teams might do the same to avoid the pitfalls of groupthink.
Communicating the Case Analysis
Three means exist for communicating case analyses: (1) class discussion, (2) oral presentation,
and (3) written report.
Class Discussion Discussing case studies in the classroom setting can be an exciting
experience, provided that each student actively prepares for and participates in the
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62 CHAPTER 3 MARKETING DECISION MAKING AND CASE ANALYSIS
discussion. Preparation involves more than simply reading the case prior to the
scheduled class period—the case should be carefully analyzed, using the four
analytical categories described earlier. Four to five hours of preparation are usually
required for each assigned case. The notes developed during the preparation should
be brought to class.
Similarly, participation involves more than talking. Other students should be carefully
watched and listened to during a class discussion. Attentiveness to the views of
others is necessary in order to build on previous comments and analyses. Most class
discussions follow a similar format. Class analysis begins with a discussion of the organization
and its environment. This discussion is followed first by a discussion of the
alternative courses of action and then by a consideration of possible implementation
strategies. Knowing where the class is in the discussion is important both for organizing
the multitude of ideas and analyses presented and for preparing remarks for the
subsequent steps in the class discussion.
Immediately after the class discussion, you should prepare a short summary of
the analysis developed in class. This summary, which should include the specific facts,
ideas, analyses, and generalizations developed, will be useful in comparing and contrasting
case situations.
Oral Presentation An oral presentation of a case requires a slightly different set of
skills. Usually, a group of three to five students conducts a rigorous analysis of a case and
presents it to classmates. Role-playing may be featured: Class members may serve as an
executive committee witnessing the presentation of a task force or project team.
A polished delivery is very important in oral presentations.14 Thus, the group
should rehearse its presentation, with group members seriously critiquing one
another’s performance. Oral presentations provide an opportunity to verbalize your
analysis and recommendations and visually enhance your remarks with carefully
crafted and informative transparencies, electronic slides, or other visual aids. At a minimum,
slides or transparencies should cover each of the following areas:
1. An opening slide showing the “title” of the presentation and names of the
presenters.
2. A slide that outlines the presentation (perhaps with presenters’ names by
each topic).
3. One or more slides detailing the key problems and strategic issues that management
needs to address.
4. A series of slides covering your analysis of the company’s situation or
problem.
5. A series of slides containing your recommendations and the supporting arguments
and reasoning for each recommendation—one slide for each recommendation
and the associated reasoning has a lot of merit.
Remember that slides and transparencies help to communicate your ideas to
the audience. They are not meant to substitute for the oral presentation. Slides and
transparencies may be referred to but should never be read to the audience. Also
keep in mind that too many graphics, images, colors, and transitions may divert the
attention of the audience and disrupt the flow of the presentation. Finally, keep in
mind that dazzling slides and transparencies will not hide a superficial or flawed case
analysis from a perceptive audience.
Written Report What you need to do to generate a written analysis of a case
assignment is similar to what you should do to prepare for class discussion. The only
difference is in the submission of the analysis; a written report should be carefully
organized, legible (preferably typed), and grammatically correct.
62
NOTES 63
There is no one correct approach to organizing a written case analysis. However,
it is usually wise to think about the report as having three major sections: (1) identification
of the strategic issues and problems, (2) analysis and evaluation, and (3) recommendations.
The first section should contain a focused paragraph that defines the problem
and specifies the constraints and options available to the organization. Material in the
second section should provide a carefully developed assessment of the industry, market
and buyer behavior, the organization, and the alternative courses of action. Analysis
and evaluation should represent the bulk of the written report. This section should
not contain a restatement of case information;it should contain an assessment and interpretation
of the facts, qualitative and quantitative data, and management views. The last
section should consist of a set of recommendations. These recommendations should be
documented with references to the previous section and should be operational given
the case situation. By all means, commit to a decision!
A case and a written student analysis of it are presented in the appendix at the
end of the book. It is recommended that you carefully analyze the case before reading
the student analysis.
N O T E S
1. Leigh Buchanon and Andrew O’Connell,“A Brief History of Decision Making,”Harvard
Business Review (January 2006):32–41.
2. “What Executives Should Remember: Classic Advice from Peter Drucker,” Harvard
Business Review (February 2006):144–152.
3. Melissa Raffoni, “Use Case Interviewing to Improve Your Hiring,” Harvard Management
Update (July 1999): 10.
4. Loren Gary,“Want Better Results? Boost Your Problem-Solving Power,” Harvard Management
Update (October 2004): 1–4.
5. DECIDE acronym copyright © by William Rudelius. Used with permission.
6. “Cluett Peabody & Co. Loses Shirt Trying to Jazz Up the Arrow Man,” Wall Street
Journal (July 28, 1988): 24.
7. Mark David Nevins and Stephen A. Stumpf, “21st-Century Leadership: Redefining
Management Education,”Strategy & Business (Third Quarter, 1999):41–51.
8. An issue that frequently arises in developing these subjective probabilities is how to
select them. One source is past experience, in the form of statistics such as A.T. Kearney’s probabilities
of success for alternative strategies, presented in Chapter 1. Alternatively, case information
can be used to develop probability estimates. At the very least, when two possible
uncertainties exist, a subjective probability of .5 can be assigned to each. This means that the
two uncertainties have an equal chance of occurring. These probabilities can then be revised
up or down, depending on case information.
9. These examples and a further reading on decision analysis can be found in Peter C.
Bell, Management Science/Operations Research: A Strategic Perspective (Cincinnati, OH:
South-Western Publishing, 1999): Chapter 3.
10. Amitai Etzioni, “Humble Decision Making,” Harvard Business Review (July–August
1989):122–126.
11. Jared Sandberg, “Some Ideas Are So Bad That Only Team Efforts Can Account for
Them,”Wall Street Journal (September 29, 2004): B1.
12. Max Bazerman, Judgment in Managerial Decision Making, 6th ed. (New York: John
Wiley & Sons, 2006).
13. This quote appears in David A. Garvin and Michael A. Roberto, “What You Don’t
Know About Making Decisions,”Harvard Business Review (September 2001):108–116.
14. This discussion is based on material in Arthur A. Thompson Jr. and A. J. Strickland,
Strategic Management: Concepts and Cases, 13th ed. (Burr Ridge, IL: McGraw-Hill/Irwin,
2004):C12–C13.
63
64
Mary Ho prepared this case under the supervision of Prof. David Tse for class discussion. This case is not intended to show
effective or ineffective handling of decision or business processes.
© 2003 by The Asia Case Research Centre, The University of Hong Kong. No part of this publication may be reproduced or
transmitted in any form or by any means – electronic, mechanical, photocopying, recording, or otherwise (including the Internet)
– without the permission of The University of Hong Kong.
Ref. 03/156C
1
DAVID TSE
REDISCOVERING MARKET NICHES IN A
TRADITIONAL INDUSTRY
Jingdezhen, the ?Porcelain Metropolis? of China, was due to mark its 1,000th anniversary in
2004. Situated in the northeastern part of Jiangxi Province in a small basin rich in kaolin, the
city was surrounded by beautiful mountains and lakes [see Exhibit 1 for a map of Jiangxi].
For centuries, Jingdezhen produced and exported the finest porcelain treasures in the world.
By the late 20th century, however, it was in danger of losing its past glory. Although the
city?s factories still churned out more than a million pieces of porcelain a day, it was facing
more competitors at home and abroad than at any time in its history. In the domestic market,
porcelain productions in Jingdezhen lagged behind other cities such as Tangshan, Liuyang
and Chaozhou. In the overseas market, firms in Jingdezhen were losing their price advantage
to makers based in Malaysia, Thailand and Vietnam. The declining quality of Jingdezhen
porcelain had disappointed a number of porcelain experts and collectors. Jan-Erik Nilsson, a
Swedish porcelain expert who ran a Website for collectors, commented:
Though fine artistry abounds, Jingdezhen?s quality still lags ? as does its
domestic competitors? ? compared with manufacturers in Japan, France,
Mexico and elsewhere. Shapes are uneven, designs are outdated and the raw
input, mixed porcelain known as paste, is less pure than that used in the past
and currently in the West.1
As Jingdezhen?s world dominance succumbed to commercial espionage and competition, a
number of state-owned porcelain factories had closed down. Nevertheless, Deng Niandong, a
strategic investor from Beijing, was eager to restore the city?s reputation for artistic chinaware.
In 1995, he founded Jiangdong Crystal-color Art and Crafts Co. Ltd. (JCAC). The Company
partnered with the best porcelain factories in Jingdezhen to produce a new kind of ceramic
ware with modern characteristics. These ceramics were unique in their firmness, resilience
and fade resistance. Their patterns gave an impression of embroidery, which resembled the
sheen of brocade or velvet. JCAC was awarded a patent for this invention from the state
1 Bodeen, C., ?China?s porcelain capital aims to repair its fractured glory?, Associated Press, 2000.
HKU249
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2
government. The patent empowered JCAC to take legal action if necessary, to prevent the
unlicensed manufacture, use or sale of its high-tech invention. The right also gave JCAC
breathing space to further develop its ceramics business based on its invention, and allowed
other companies to exploit the invention and pay royalties to JCAC under a licensing
agreement. With the state?s endorsement and support, JCAC was poised for further growth in
the domestic and overseas markets. The Company?s high-end products were presented by
Chinese leaders and officials as gifts to foreign dignitaries, and were exported to many
overseas countries.
While JCAC was enjoying its success, however, a number of small and medium-sized
porcelain manufacturers in Jingdezhen were still struggling to make a profit. Competition
among them was intense, and price wars had severely reduced profit margins. Faced with
challenges from domestic and foreign rivals, these firms were hard pressed to formulate new
marketing strategies and explore market niches in this traditional industry.
The Art of Porcelain
Types of Porcelain
?As white as jade, as bright as mirror, as thin as paper, and sounding like a
chime.?
This was how foreign merchants described the porcelain made in the city of Jingdezhen in
East China about 2,000 years ago. Porcelain was a kind of ceramic ware highly valued for its
beauty and strength. It was often called China, or chinaware, because it was first produced in
Jingdezhen (formerly known as Changnanzhen). Porcelain was characterised by its whiteness,
delicacy and translucence. Since it was the hardest of all ceramic products, porcelain could
be used for electrical insulators and laboratory equipment. However, porcelain was known
primarily as a material for high-quality vases and tableware, as well as for figurines and other
decorative objects. Porcelain that was used for such purposes produced a bell-like ring when
struck.
Porcelain differed from other types of ceramics in its ingredients and in the process by which
it was made. Unlike earthenware and stoneware, porcelain was basically produced from a
mixture of two ingredients ? kaolin and petuntse. This mixture was fired at temperatures of
about 1,250°C to 1,450°C. At these high temperatures, the petuntse melted and formed a
nonporous, natural glass. The kaolin, which was highly resistant to heat, did not melt and
therefore allowed the item to hold its shape. The process was complete when the petuntse
fused itself to the kaolin.
There were three major types of porcelain: (1) hard-paste porcelain, (2) soft-paste porcelain,
and (3) bone china.2 The differences between these types of porcelains were due to the
material from which they were made. Hard-paste porcelain, which was sometimes referred to
as true porcelain or natural porcelain, had always been the model and ideal of porcelain
makers. It was the type of porcelain first developed by the Chinese from kaolin and petuntse,
and had far better resistance to heat than other kinds of porcelain. Soft-paste porcelain was
sometimes called artificial porcelain. It was first developed in Europe in an attempt to imitate
Chinese hard-paste porcelain. Bone china was made by adding bone ash to kaolin and
2 Artistic Tile & Stone, ?A History of Porcelain?, URL: http://www.artistictile.net/pages/Info/Info_Porcelain.html, September
2002.
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3
petuntse. Though not as hard as true porcelain, bone china was more durable than soft-paste
porcelain. Nearly all the world?s bone china was produced by English porcelain makers.
However, bone china of very good quality could also be found in Tangshan, China.
The Production Process
A piece of porcelain was shaped on potter?s wheel or in a mould [see Exhibit 2 for a
description of how a blue and white porcelain was made]. After this stage, the porcelain
worker could decorate it by surface modifications, painting or transfer printing. Porcelain
painting in Europe differed greatly from porcelain painting in China. Chinese decorators
separated different colours with a dark outline, but European artists blended colours together
with no separating line. In addition, Europeans used decorations solely for their artistic value,
but Chinese decorations were symbolic. Since 1756, transfer printing was revolutionised and
enabled workers to decorate items much faster than they could do manually. In this process, a
design was engraved on a copper plate, inked with ceramic colour, and transferred to tissue
paper. While the colour was still wet, the tissue paper was pressed against a porcelain object,
leaving the design on its surface.
The History of Oriental Porcelain
For centuries, the Chinese produced the world?s finest porcelain. The first true porcelain
was probably made during the Eastern Han Dynasty (25-220). During the Song dynasty
(960-1279), Chinese emperors built royal factories in Changnanzhen to produce porcelain
for the imperial court. In the Jingde Period (1004-1007), Emperor Zhenzong recognised the
significance of the city and renamed it as ?Jingdezhen?. Since then, Jingdezhen became the
?Porcelain Metropolis?. By the 1100s, the Chinese secret of making porcelain had spread to
Korea and Europe, and in the 1500s, it also spread to Japan. By the 1700s, porcelain
manufactured in many parts of Europe began to compete with Chinese porcelain. At that
time, France, Germany, Italy and England were the major production centres for European
porcelain. In 20th century, advanced technology enabled the porcelain industry to produce
porcelain in large quantities. Extensive porcelain-making was carried out not only in Europe
and Japan but also in the United States. Some notable examples of contemporary porcelain
were American Lenox, German Rosenthal, Japanese Noritake and English Wedgwood.3 4
The Declining Prominence of Jingdezhen
Between 1350 and 1750, Jingdezhen was the centre of world porcelain production. According
to Scholar T. Volker, author of a study on the 17th-century porcelain trade, over three million
pieces of porcelain reached Europe between 1350 and 1750. 5 At that time, demand from
Europe was almost insatiable. Until about 1900, porcelain makers in Jingdezhen had never
worried about their businesses. In 1987, the city was the second-largest porcelain exporting
base in China. It boasted a ceramics institute, a museum and a number of kaolin quarries and
porcelain factories. By 1993, however, it was not even in the top five. Low technology, a
lack of innovation and the small scale of production had hindered the city?s production
growth. In 1999, porcelain exports from the city were worth only US$30 million, about onetenth
that of Dehua city in Fujian Province. According to a senior researcher at the Jiangxi
Academy of Social Sciences, the ceramics industry in Jingdezhen already lagged behind other
production bases such as Tangshan in Hebei Province, Liuyang in Hunan Province and
3 Most of the famous English Wedgwood ware was not porcelain, but earthenware or stoneware. Nevertheless, its classical
Greek figures and reliefs were very popular and had a great influence on porcelain designs throughout Europe.
4 ARTISTIC, A History of Porcelain Tile to your Imagination, http://www.artistictileandstone.com/(accessed 3 September 2007)
5 Bodeen, C., (2000).
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4
Chaozhou in Guangdong Province. In 2002, Jingdezhen earned only about five per cent of its
revenue from ceramics.6
Difficulties and Threats
The small scale of operations had often been cited as one of the major reasons for the fall of
the porcelain capital. In the 1990s, Jingdezhen saw the closure of all but two of its 32 stateowned
porcelain factories. Unlike industrial or construction ceramics, artistic porcelain did
not require the same production equipment and entry barriers were low. Thus, workers who
were laid off from the state-owned firms could easily start their own businesses, and this had
resulted in the emergence of more than 4,000 small porcelain firms in Jingdezhen.
In 2000, over half of city?s urban population of 120,000 was engaged in the production and
sale of porcelain.7 Influenced by the traditions of porcelain production in state-owned firms,
the new porcelain entrepreneurs tended to make exquisite antique-style chinaware. These
imitations were accurate reproductions in every detail, ranging from animated figurines to
large jars and man-sized vases. Some skilled craftsmen could make high-quality replicas
using old pieces of clay found in ancient kilns. According to an article from The Toronto Star,
some of these fine reproductions could deceive even the best experts.8 Indeed, porcelain
makers in Jingdezhen had been copying their predecessors through the centuries. Lei Rui
Chen, a ceramics scholar who ran the Jingdezhen Museum, believed this was a historical
cycle.
In the Ming dynasty, they did reproductions of the Yuan dynasty, and so on,
down the line?You can say it?s trying to capture beauty for the next
generation. 9
Most of the porcelain makers in Jingdezhen suffered the same marketing handicaps: they
were unable to offer uniquely designed products and differentiate themselves from their
competitors. Because of the lack of innovation, products from every porcelain maker in
Jingdezhen looked almost the same. There was little noticeable difference between their
products, as they all had similar designs, colours and patterns. Many makers continued to
spend four to six weeks to produce a ?standard? vase that could only be sold for a very low
price.10 Price wars were common and reduced profit margins significantly. This indirectly
affected the businesses? ability to upgrade their equipment and techniques, and expand their
production.
Due to soaring production costs in Japan, Taiwan and South Korea, many overseas buyers
still looked for products in Jingdezhen because they were highly competitive in price. To
their disappointment, however, a number of these buyers could not find suitable producers for
the products they wanted. In one case, a US company was sourcing US$10 million worth of
porcelain products from Jingdezhen. To ensure the quality and consistency of the products,
the company was hoping that the order could be filled by a single porcelain maker. However,
there was no business capable of handling the order so the US company was forced to give
the contract to another firm in Liuyang in Hunan Province.11 Poor quality and a lack of
consistency had led to the failure of many similar orders. With an objective of competing on
price alone, a number of porcelain makers produced low-end products from low-quality
6 Foong, W. F., (2002), ?Culture is Good Business?, Malaysia: Cite (M) Sdn. Bhd., p.97.
7 Anonymous, ?Porcelain Capital Plans to Regain Legendary Lustre?, China Daily, 10 September, 2000.
8 Cohn, M., ?Faking It in Porcelain?, The Toronto Star, 1 October, 2000.
9 Cohn, M., (2000).
10 Foong, W. F., (2002), p.96.
11 China Daily, (2000).
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5
materials. As the Swedish expert Nilsson pointed out, these products often had uneven
shapes and outdated designs.
Some porcelain makers in Jingdezhen failed to respond to the changes in the expectations of
the mass foreign and domestic markets. While the manufacturers were still following the
tradition of producing large pieces of antique-style products, domestic customers were
looking for household china that could suit the interiors of modern homes. In the early 1990s,
a few porcelain makers began to import advanced equipment to produce household china.
However, household china from Jingdezhen was of lower quality compared with products
from Fujian, Shangdong and Tangshan. The products made in Jingdezhen were often rough
to the touch due to their uneven edges or surfaces. If used as tableware, they could scratch
the table or damage a lacquer tray; and if they were being stacked, they could scratch the
other pieces. Wu Guanzheng, a government official from Guangxi, had the following
comment on the quality of porcelain made in Jingdezhen:
If we compare the quality of household china piece by piece, Jingdezhen will
not lose out to its competitors. However, if we compare the products on a per
hundred or per thousand basis, Jingdezhen will certainly lose.12
The Jingdezhen Ceramics Institute, China?s national college of ceramics, was staffed by
highly qualified and respected ceramic art teachers and research fellows. The ceramic works
of its faculty members were selected for many exhibitions in China and abroad. The Institute
offered one of the finest ceramic art and design programmes in the world, and had developed
highly skilled graduates for the ceramics industry. Due to low profit margins, however, many
porcelain-makers in Jingdezhen were unable to offer attractive remuneration packages for
these skilful artists. Consequently, some of the best artists were lured away by more
profitable firms in other parts of China. The failure to retain these skilful workers had
affected the development of the industry in Jingdezhen.
JCAC
JCAC was one of the few ceramic-makers in China that had differentiated itself from its rivals
by the quality and artistic style of its products. The company manufactured top-of-the-line
luxury ceramics in Jingdezhen and limited its distribution to the government and high-end
retailers. The pigments imported by JCAC ceramics made the products unique in terms of
their firmness, resilience and fade resistance. Their patterns gave an impression of
embroidery, which could not be found on traditional ceramics. The use of high-tech
equipment ensured that JCAC?s products were of consistently high quality.
State endorsement of JCAC?s products had further enhanced the strength of the brand.
Chinese state leaders and embassies often presented them as national gifts to foreign
dignitaries. JCAC also boasted a huge client base. Most of its products were exported
overseas, while some were sold to local high-end retailers and department stores. Because of
the special status associated with the products, JCAC had deliberately set a high price to
support their perceived value.
A number of porcelain-makers in Jingdezhen doubted that JCAC?s success was sustainable.
Although JCAC claimed that its products were unique in design and quality, many traditional
artists were sceptical about their true artistic value. Some felt that the shapes of its vases were
below standard. Others thought the only thing that made the vases valuable was the special
meaning attached to them. For example, a vase might have been presented by Premier Jiang
12 Interview with a porcelain expert, Mr. Yiu Hoi Ki, 27 September, 2002.
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03/156C Rediscovering Market Niches in a Traditional Industry
6
Zemin to a prominent dignitary in Europe. Without its exclusive arrangement with the state,
some experts argued that JCAC would not be able to beat its rivals.
Rediscovering Market Niches
Porcelain-makers in Jingdezhen had identified risks and limitations to growth in their current
market position. A number of them were debating whether and how to change. Could they
learn from JCAC and find a way to carve out a market niche?
The Mass Market
A number of factors affected the prices of porcelain products: production costs, prices
charged by competitors, and customer perceptions of product value. Most porcelain-makers
in Jingdezhen set minimal profit margin goals to pursue volume pricing strategies in the mass
market. Their works could be of mediocre quality, since most of them were intended for
daily usage rather than for display purposes. Due to the high uniformity of the products,
customers could shift to other suppliers easily if they were not satisfied with prices offered by
their original supplier. These customers were likely to be frequent switchers and were pricesensitive.
In general, they had little understanding of artistic treasures and could not tell the
difference between the good and the bad. Should porcelain-makers in Jingdezhen find a way
to gain more committed customers, or should they continue to compete on price in order to
secure business from opportunist switchers? Although porcelain products from Jingdezhen
were sold at competitive prices, the companies were already losing their price advantage to
manufacturers based in Malaysia, Thailand and Vietnam.
The Collectors? Market
Art collectors represented a stable consuming group that sought out high-quality art treasures.
They considered collecting porcelain as a kind of value-guaranteed or value-added investment,
and also a symbol of personal identity. Most of the collectors also had a genuine interest in
art treasures.
Collectors of porcelain looked for products that were intrinsically good. These products had
to be of high quality in order to have value. Imperial ware, which was the most prized by
collectors, was made by Jingdezhen?s best craftsmen centuries ago. These imperial porcelain
products were of the highest quality because the makers had thrown out any pieces with
imperfections and submitted only the perfect ones to the court. Therefore, the name ?imperial
porcelain? implied quality and rarity, and therefore high value.
In the late 20th century, however, some sophisticated art collectors had become dissatisfied
with the quality of porcelain made in Jingdezhen. Some of collectors were looking for more
stylish products, but were disappointed to find that most of the designs in Jingdezhen still
followed the conservative tradition. As contemporary collectors placed more emphasis on
design and quality, porcelain firms in Jingdezhen had to find a way to redesign and upgrade
the quality of their products. With the existing scale of operation, however, it was difficult for
small businesses in Jingdezhen to raise capital and upgrade their technology. Moreover, the
small size of the market could not justify huge investments.
The Government
The Chinese State and provincial governments ordered ceramic products from a limited
number of makers, including JCAC and the state-owned Jingdezhen Ceramics Co. Ltd (JCC).
JCC produced high-quality artistic porcelain products, many of which were displayed in
important government establishments, including Zhongnanhai, Diaoyutai State Guesthouse
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03/156C Rediscovering Market Niches in a Traditional Industry
7
and the People?s Great Hall of China. As the government market was monopolised by firms
that were strongly backed by the state, it was almost impossible for small-scale firms in
Jingdezhen to penetrate that market.
The Corporate Market
For most of the Jingdezhen porcelain-makers, the largest corporate customers were
department stores, furniture stores, restaurants and hotels. These customers looked for dailyused
dinnerware and decorative porcelain. Certain customers created their own designs and
preferred to have their orders customised.
JCAC saw lucrative market opportunities in the corporate market, especially the corporate gift
market. The corporate gifts business entailed satisfying corporations? public relations needs
by offering a line of gifts suitable for clients and other business partners during holiday
seasons and on other occasions. Instead of mass-producing products, JCAC limited the
number of its products and put numbers on them. In this way, the products could be
presented as art treasures rather than as commercial products. The implied exclusivity also
justified a high selling price. Could porcelain makers Jingdezhen copy this marketing
technique to boost their sales? How could they expand their distribution network? Given the
lower entry barriers, new entries to the corporate gift market could erode profits from this
sector. This meant that even the first movers might find it difficult to maintain long-term
success.
Developing a Global Brand: The Haier Model
In 2002, a number of porcelain firms in Jingdezhen were reviewing their marketing plans with
an eye towards finding a market niche for their future business. At the same time, JCAC was
aiming to build a global brand for its products. There were, however, only a few Chinese
companies that had succeeded in developing a global brand. One of these was the Chinese
appliance-maker Haier Group, which ranked fifth in global appliance sales behind General
Electric, Whirlpool, Electrolux and Siemens. Haier?s strategy blended the theories of ancient
Chinese philosophers and Western management gurus. Drawing from Sun Tzu?s The Art of
War, Haier focused on niche markets and offered products where it faced less competition. 13
The company had outflanked bigger rivals and prospered in selling products such as dormroom-
sized refrigerators and wine cellars. Instead on relying on price competition, Haier
based its products on consumers? needs. The company chose to build factories in key markets,
even though it had meant surrendering some advantage from China?s low labour costs. The
idea was that local managers would know their customers better than far-away Chinese bosses
and would be able to respond more swiftly to shifting tastes. 14 To promote quality, Haier
Group led a complete overhaul of factory practices. Defective refrigerators were destroyed
and employees? pay was linked to the sale of their products.
Given the intense competition in the market, JCAC and other porcelain-makers recognised
that the road to regaining the past glory of Jingdezhen would be long and tough. One of the
obstacles was the stigma attached to Jingdezhen ceramics. Many poor-quality firms had
developed products that gave customers a bad impression about Jingdezhen ceramics. How
could JCAC craft a marketing strategy to revive the brand identity of Jingdezhen ceramics?
13 The Art of War was written in about 500BC in China by Sun Tzu. It is one of the most famous military treatises written
because it is the oldest surviving one and quite possibly the first one ever written. Its principles about military strategy are still
valid and useful in the modern business world.
14 CCMAE , (24 June 2004) Qingdao Refrigerator Factory , http://www.ccmae.com (accessed 3 September 2007)
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03/156C Rediscovering Market Niches in a Traditional Industry
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There were a number of alternatives for JCAC to grow its sales volume and enhance its brand
name. To establish its brand name, JCAC could contact galleries around the world to
establish itself globally. It could also start a few flagship stores in prominent American or
European markets or contact large global gift distributors to expand its volume. Once it had
gained large sales volume and financial power, JCAC might consider acquiring some quality
ceramic- and porcelain-makers in the province. A key question was: Would the Haier model
work for JCAC?
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03/156C Rediscovering Market Niches in a Traditional Industry
9
EXHIBIT 1
JIANGXI PROVINCE AND THE CITY OF JINGDEZHEN
Source: URL: http://www.travelchinaguide.com/cityguides/jiangxi/jingdezhen/
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03/156C Rediscovering Market Niches in a Traditional Industry
John A. Quelch prepared this case as the basis for class discussion rather than to illustrate either effective or ineffective
handling of an administrative situation.
Copyright © 1995 by the President and Fellows of Harvard College. To order copies or request permission to
reproduce materials, call 1-800-545-7685 or write Harvard Business School Publishing, Boston, MA 02163. No
part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in
any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the
permission of Harvard Business School.
1
Heineken N.V.: Global Branding and Advertising
In January 1994, senior managers at Heineken headquarters in Amsterdam were reviewing
two research projects commissioned to clarify Heineken’s brand identity and the implications for
television advertising. Project Comet defined five components of Heineken’s global brand identity
and explored how they should be expressed in Heineken brand communications. Project Mosa,
which involved a different team of executives, identified the expressions of taste and friendship that
had the most appeal and explored how they should be expressed in Heineken television advertising
worldwide.
Heineken’s senior managers were interested in assessing whether or not the conclusions of
the two studies were mutually consistent. They also wished to determine how far they should or
could standardize Heineken’s brand image and advertising worldwide.
Company Background
The Heineken brewery was founded in Amsterdam in 1863 by Gerard Adriaan Heineken.
He was quoted as saying: “I will leave no stone unturned in attempting to continuously supply beer
of the highest quality.” The strain of yeast which continued through the 1990s to give Heineken beer
its special taste was developed in 1886. Heineken beer won a gold medal at the 1889 Paris World’s
Fair and, by 1893, was one of the largest selling beers in the Netherlands.
One hundred years later, in 1993, Heineken N.V. recorded net sales of 9,049 million guilders
and a trading profit of 798 million guilders. Beer accounted for 82% of sales, the remainder being
derived from soft drinks, spirits and wine. The geographical breakdowns of sales (in litres) for
Heinekin and the worldwide beer industry were as follows:
Heineken
1993 Sales %
% Change
vs. 1992
Total 1993
Beer Sales %
Netherlands
Rest of Europe
24
47
} (1.6) } 38
America 13 5.3 38
Asia/Australasia 8 23.7 19
Africa 6 (1.5) 5
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596-015 Heineken N.V.: Global Branding and Advertising
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In 1993, sales of beer brewed under Heineken’s supervision reached 5.6 billion litres, second
in the world only to Anheuser-Busch with 10 billion litres. World beer production in 1993 totaled 120
billion litres.
Sales of the Heineken brand were 1.52 billion litres in 1993. The company’s other brands with
some international distribution were Amstel (formerly made by the second-largest Dutch brewery,
acquired by Heineken in 1968) which sold 630 million litres; Buckler, a nonalcoholic beer, which sold
90 million litres; and Murphy’s Stout, recently acquired and sold principally in Ireland and the
United Kingdom. As a result of acquisitions, Heineken also oversaw the brewing of many local and
regional beer brands marketed by its subsidiaries, such as Bir Bintang, the leading Indonesian brand.
International Presence
The Heineken brand had long been available in markets outside the Netherlands. In 1937,
Heineken granted its first license to a foreign brewer to produce Heineken beer according to the
original formula. While licensing agreements also aimed to specify how the Heineken brand should
be marketed, Heineken could not influence how a licensee marketed its own brands. In
management’s view, some licensees did not maintain a sufficient price premium for the Heineken
brand over their own national brands. By the 1980s, Heineken was seeking majority equity stakes in
its existing and prospective partners to ensure tighter control over production and marketing. The
ideal national brewer partner, from Heineken’s point of view, was one that did not have international
ambitions for its domestic brands.
By 1993, Heineken’s worldwide brewing interests were as follows:
Wholly Owned
Subsidiaries
Majority
Equity Stakes
Minority
Equity Stakes Licensees
Europe 3 5 0 2
American 0 4 10 2
Asia/Australasia 0 2 8 2
Africa 0 4 10 2
In Europe, for example, Heineken owned outright its operations in the Netherlands, France, and
Ireland. It held majority interests in breweries in Greece, Hungary, Italy, Spain, and Switzerland and
licensed production to breweries in Norway and the United Kingdom (Whitbread). Heineken was
not bottled in the large United States market, but was the number one imported beer. In Germany,
the heaviest beer-consuming country in Europe (144 litres per capita), national brands still dominated
the market and Heineken was available only through imports.
In the early 1990s, the brewing industry was becoming increasingly global as the leading
brewers scrambled to acquire equity stakes and sign joint ventures with national breweries. This
trend was especially evident in the emerging markets where population expansion and increased
per-capita consumption promised faster growth than in the developed world. In Europe, in
particular, overcapacity and minimal population growth resulted in price competition, margin
pressures, and efforts to segment further the market with no- or low-alcohol beers, specialty flavored
beers, and “dry” beers.
Despite the increasing globalization of the industry, there remained substantial differences in
per-capita beer consumption, consumer preferences and behaviors, and the mix of competitors from
one market to another. For example, annual per capita consumption ranged from 132 liters in Ireland
and 88 liters in the U.S.A. to 56 liters in Japan and 30 liters in Argentina. Heineken executives
believed that the beer market in each country followed an evolutionary cycle and that, at any time,
94
Heineken N.V.: Global Branding and Advertising 596-015
3
different countries were at different stages of market development. Exhibit 1 depicts the beer market
development cycle while Exhibit 2 notes Heineken’s principal marketing objectives in selected
markets.
At the end of 1993, the Heineken brand held a 24% volume share in the Netherlands, several
share points ahead of its main competitor, Grolsch. As the market leader, Heineken was viewed as a
mainstream brand. Sales volume was declining and the brand image needed some revitalization.
Outside the Netherlands, however, Heineken had consistently been marketed as a premium brand.
In some markets, such as the United States and Hong Kong, Heineken had successfully established a
distinct image for the brand. The image was sometimes narrowly drawn such that Heineken was
seen as appropriate solely for special occasions when making a social statement was important rather
than for daily consumption. In other markets, such as in Latin America, Heineken was viewed as just
one among many European imported beers. But across all markets, the Heineken brand was
acknowledged as a lighter beer of superior quality presented in attractive packaging.
Comparative data on the Heineken brand’s market position in seven European countries are
presented in Exhibit 3. Premium brands accounted for around 25% of beer volume in 1993 and
around 30% of measured media beer advertising. Heineken was the most heavily advertised
premium brand in Europe and worldwide. Over 90% of Heineken advertising took the form of
television commercials.
Project Comet
Managers at Heineken headquarters were concerned that Heineken’s brand image was not
being consistently projected in the brand’s communications around the world. Two television
advertising executions were used in multiple country markets in 1991, but, particularly in the larger
markets, local Heineken managers had the resources to develop their own commercials and justified
their decisions to do so on grounds of unique competitive conditions, industry structures, and/or
consumption behaviors.
Project Comet was established in 1991 by Heineken’s international marketing manager to
recommend how to enhance Heineken’s competitive advantage by more consistently projecting the
brand as “the world’s leading premium beer.” The project team concluded that Heineken’s desired
brand image was “good taste”:
· Because of Heineken’s flavor, its roots, commitment to and pride in brewing a
high-quality lager.
· Because Heineken is a symbol of premiumness, taste, and tradition around the
world.
The team believed that no other brand in the world could claim superior good taste with as much
credibility as Heineken.
The brand’s good taste image would be built on five core brand values:
· Taste
· Premiumness
· Tradition
· Winning spirit
· Friendship
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596-015 Heineken N.V.: Global Branding and Advertising
4
Taste and premiumness were regarded as the price of entry. They had to be communicated in
advertising messages but would not, in themselves, be enough to differentiate Heineken from its
competition. A unique, differentiated image would depend on effective communication of the other
three core brand values. Project team members acknowledge the challenge of communicating all five
values in each advertisement. However, they thought that all five could be reflected in one way or
another through the locations, situations, relationships, casting, lighting, style, and tone used in each
commercial.
The team detailed how each of the core brand values should be portrayed in Heineken brand
commercials:
Taste The product should be shown in slow-pouring shots where its golden color, sparkling texture
and refreshing coolness would celebrate its taste. Actors should be portrayed genuinely enjoying
Heineken with no gulps or “knocking it back.” The slogan used should be competitive but not
comparative.
Premiumness The production quality of every execution should be at the level of excellence to be
expected of a premium brand. In some geographies, Heineken’s premiumness might be a unique
reason for purchase; in such cases, this attribute could be presented as part of the brand promise.
Tradition The genuine aura of the brand should be especially evident in the casting and tone of voice
of each commercial. Heineken should be the preferred brand of people who believed in true values
and whose brand choices reflected their personal value set.
Winning spirit Tone of voice was thought to be especially important in conveying this value “because
winners are confident and relaxed, take a quiet pride in everything they do and do not shout.”
Friendship Heineken should not be portrayed as a solitary beer or a “mass-gathering” drink. The
Heineken group should be a few (even two) people who clearly enjoy their relationship. The
“Heineken moment” should show people as themselves, content, relaxed with each other and
confident. Interactions should be sincere, self-confident, warm and balanced, displaying mutual
respect and free from game-playing.
The project team next tried to develop guidelines for the visual images—the people, the
relationships and the settings—to be included in Heineken commercials.
The Project Comet report concluded as follows:
All of our advertising must be consistent with these guidelines. We also
need impactful advertising. Heineken advertising is therefore never safe. It should
always be leading edge and state of the art, taking calculated risks and initiatives to
achieve the desired effects.
Project Mosa
In late 1993, Heineken’s international advertising manager commissioned focus groups in
eight countries1 to understand (a) what male beer drinkers meant by taste and friendship in relation
to premium beer drinking and (b) which expressions of taste and friendship could be used by the
Heineken brand in advertising. The project team identified in advance the following expressions of
taste which “appealed to the head” and expressions of friendship which “appealed to the heart:”
1The countries were Netherlands, Italy, and Germany in Europe; USA, Argentina and Brazil in the Americas;
and Japan and Hong Kong in Asia.
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Heineken N.V.: Global Branding and Advertising 596-015
5
Taste (Head) Friendship (Heart)
Brand vision Trust
Quality Sports
Brewing skills True friends
Tradition You can count on Heineken as a friend
Availability Respect
Boards with visual and message stimuli depicting each of these expressions were used in the focus
groups to elicit reactions. Examples of these boards are presented in Exhibits 4 and 5. Eight focus
groups were run in each country, four with 21-27 year olds and four with 28-35 year olds. Four
groups in each country explored taste cues, four explored friendship cues.
Members of the focus groups dealing with taste were asked to identify which of several
factors they perceived as strong or weak indicators of beer taste. These responses are summarized in
Exhibit 6 . Members of the other four focus groups dealing with friendship discussed the different
social occasions when a standard versus a premium beer would be appropriate. On this issue, there
was substantial agreement across national markets. The conclusions are summarized in Exhibit 7.
Participants in the focus groups were then exposed to a variety of advertising boards for
Heineken, each of them highlighting a particular attribute. Those in the focus groups dealing with
taste were exposed to twelve boards while those in the friendship focus groups were exposed to ten.
The objective was to elicit consumer reactions to both the visual and message claims presented on
each board and to establish each claim’s relevance to and overall suitability for promoting the
Heineken brand. The overall suitability rankings, first for the four focus groups concentrating on
taste cues and, second, for the focus groups concentrating on friendship cues, are presented in
Exhibits 8 and 9.
97
596-015 -6-
Exhibit 1 Beer Market Evolution for Selected Counties and Regions
98
596-015 -7-
Exhibit 2 Key Heineken Marketing Objectives in Eight Countries
99
596-015 Heineken N.V.: Global Branding and Advertising
8
Exhibit 3 Comparative Heineken Usage Data for Seven European Markets
Netherlands France Greece Ireland Italy Spain
United
Kingdom
Main brand usagea 17 14 44 25 7 5 11
Trial/awareness ratio 92 89 99 91 86 66 90
Regular/total usage ratio 46 40 54 42 28 25 41
Monthly brand penetrationb 60 48 79 57 53 63 60
Market share positionc 1 2 1 2 3 7 7
Advertising share of voice position d 1 2 4 5 4 6 6
Per capita beer consumption (litres)e 90 41 40 123 24 71 103
aPercentage of beer drinkers naming Heineken as their main brand.
bPercentage of beer drinkers who had consumed a Heineken in the previous month.
cOverall market share position. In most markets, Heineken was the largest -selling brand in the premium segment.
dOverall SOV position among beer brands advertised. In all markets except the United Kingdom, Heineken SOV ranked first or
second in the premium segment.
eBased on consumption of all beer, not just Heineken.
100
Exhibit 4 Sample Project Mosa Concept Boards: Taste Expressions
Heineken N.V.: Global Branding and Advertising 596-015
9
“I consider a bad bottle of Heineken
a personal insult”
Alfred H. Heineken
Chairman
Heineken. The clear beer for the
purest taste.
101
Exhibit 5 Sample Project Mosa Concept Boards: Friendship Expressions
596-015 Heineken N.V.: Global Branding and Advertising
10
Nevada, USA. Yorkshire, UK.
Cameroon, West Africa. Papeete, Tahiti.
Wherever you are, you can always count
on Heineken
Heineken. When true friends get together.
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Heineken N.V.: Global Branding and Advertising 596-015
11
Exhibit 6 Indications of Beer Taste: Summary of Focus Group Responses
Netherlands Germany Italy USA
Average 8
Countries
Manufacturing
Ingredients – + – – –
Water quality + + – – 0
Scale of plant + + – + +
Product
Taste experience + + + + +
Balanced taste + + + + +
Aftertaste – – + + 0
Freshness + – – + 0
Foam + + 0 + +
Drinkability + + – – +
Day After + + – – 0
Marketing
Price – + – + 0
Advertising + – + + +
Packaging – + + + +
N ote:A m i nus si gn ( – ) i ndi cates the factor i s an uni m por tant or negative i ndi cator of quali ty.
103
596-015 Heineken N.V.: Global Branding and Advertising
12
Exhibit 7 Standard vs. Premium Beer: Summary of Focus Group Responses
Standard Premium
Company • nuclear family • intimate friends
• large groups • smaller groups
• your wife • girlfriend
• colleagues • boss
Occasions and Moments • after work • meeting people
• at meals • fancy meals
• at home • away from home
• watching TV • new encounters
• thirst-quenching • savouring
• (popular) bars • traveling
• beach • intimate moments and places
• to party • elegant parties
• daytime • nighttime
• after sports • entertaining
• sport events • disco/nightclub
Role of Beer • social participation • ego enhancement/self-esteem
• thirst-quencher • a treat
• alcohol effect • a communication tool
• problem solver • signal function
104
Heineken N.V.: Global Branding and Advertising 596-015
13
Exhibit 8 Taste Expressions: Overall Heineken Suitability
Netherlands Germany Italy USA
Average 8
Countries
Brand Vision – + + – –
Quality
Two years Amsterdam training + + + + +
24 quality checks + + + + +
Bottles returned to Amsterdam + + + + +
Brewing Skills
100% malt 0 + 0 + 0
Smooth taste – + + + 0
Pure taste + – + + 0
Matured longer – 0 – – –
Tradition
Family since 1863 – + – + 0
Original recipe + + 0 + +
Where beer was born + + + + +
Availability
More bars/more countries + 0 – 0 0
Exhibit 9 Friendship Expressions: Overall Heineken Suitability
Netherlands Germany Italy USA
Average 8
Countries
Friendship
Cat and dog 0 0 + – 0
Rugby (sport) + 0 + – 0
True friends + + 0 + +
Always count on Heineken + + + + +
Respect – – – – –
105
106
Harvard Business School 9-598-097
Rev. August 11, 1998
Professor John A. Quelch prepared this case from published sources as the basis for class discussion rather than to illustrate
either effective or ineffective handling of an administrative situation.
Copyright © 1998 by the President and Fellows of Harvard College. To order copies or request permission to
reproduce materials, call 1-800-545-7685, write Harvard Business School Publishing, Boston, MA 02163, or go to
http://www.hbsp.harvard.edu. No part of this publication may be reproduced, stored in a retrieval system,
used in a spreadsheet, or transmitted in any form or by any means—electronic, mechanical, photocopying,
recording, or otherwise—without the permission of Harvard Business School.
1
Pepsi Blue
In late November 1995, Pepsi-Cola International’s (PCI) beverage division announced the
global launch of a new brand identity and logo for Pepsi soft drinks. Plans called for a $500 million
investment to update the look of Pepsi cans and bottles, point-of-sale signage, trucks and vending
machines worldwide. The redesign effort, known as Project Blue, aimed to rejuvenate the Pepsi
image by associating the brand with the color blue in contrast to Coca-Cola’s long-standing
association with the color red.
Company Background
With 1995 revenues of $30.4 billion, PepsiCo was a worldwide food and beverage marketer
that ranked 20 in the Fortune 500 and 30 in market value among all companies in the world. Of total
revenues, 35% were accounted for by beverages, 37% by restaurants (including KFC, Pizza Hut, and
Taco Bell) and 28% by snack foods (including Lay’s, Ruffles, and Doritos).
PepsiCo beverages included soft drinks (such as Pepsi, Diet Pepsi, Pepsi Max, 7-Up, Slice,
and Mountain Dew), teas, bottled water, and juices. Package pictures of PepsiCo beverages are
presented in Exhibit 1. In several noncarbonated beverage categories PepsiCo had formed alliances,
for example, to distribute the ready-to-drink tea products of Thomas J. Lipton Co. and Ocean Spray
fruit juices.
In 1995, PepsiCo’s dollar beverage sales in the United States rose 7%. Volume growth
accounted for one-quarter of this increase. Retail case sales grew faster than sales through fountains
and restaurants (which included the many chains in PepsiCo’s restaurant division). Dollar beverage
sales outside the United States rose 14% in 1995. Volume growth accounted for 45% of this increase,
the remainder stemming from acquisitions and price increases.
In the United States in 1995, PepsiCo accounted for 27% of the retail value of carbonated soft
drink sales and held a 23% volume share. The corresponding figures for Coca-Cola were 35% and
30%. Coca-Cola’s share lead in the United States was greater in vending machines and restaurants
than in retail stores. Both companies had been subject to share pressure from lower priced own-label
carbonated beverages in 1993-95 but had been able to recover short-term share losses through new
products, new packaging and stepped up advertising and promotion.
Around 29% of PepsiCo’s 1995 beverage revenues and 18% of beverage operating profits
were derived from international operations. The three Pepsi brands (Pepsi, Diet Pepsi and Pepsi
Max) accounted for 40% of PepsiCo’s U.S. beverage dollar sales (with 4 billion cases of 24 8-oz. cans).
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598-097 Pepsi Blue
2
Outside the United States, 2 billion cases of the three Pepsi brands were sold in 1995, accounting for
70% of PepsiCo’s international beverage sales.
The marketplace rivalry between Pepsi and Coca-Cola was decades old. Pepsi had
established itself in the 1930s as Coca-Cola’s main rival with a price oriented campaign, “Twice as
much for a nickel, too.” In the 1970s Pepsi gained ground on Coca-Cola by focusing on taste
superiority through the Pepsi Challenge. Some 20 million people took the Pepsi Challenge, of whom
60% chose Pepsi over Coca-Cola. In the 1980s, both brands invested heavily in image advertising and
celebrity endorsements. Pepsi’s tagline, “The choice of a new generation,” positioned it squarely
against a teenage target. Coca-Cola had typically followed a broader and more traditional
positioning and, in 1993, reintroduced its classic contour bottle. The classic bottle, when surrounded
by the red circle icon, was launched worldwide as the new Coca-Cola logo in conjunction with the
“Always Coca-Cola” advertising tagline. Despite exploiting its classic heritage, Coca-Cola was able
to successfully target some teenagers with innovative advertising, sports event sponsorships, and
celebrity endorsements. Some analysts believed Pepsi was losing its edge over Coca-Cola in the
youth market.
Outside the United States, the share gap between Coca-Cola and Pepsi was greater than in
the domestic market. Pepsi exceeded Coca-Cola in market share in only 5 of the top 50 country
markets. PepsiCo spent $500 million on advertising carbonated beverages in the United States in
1995 and $200 million internationally, up 3% and 7% respectively over 1994. Corresponding Coca-
Cola expenditures in 1995 were $1.2 billion and $600 million.
The Pepsi system’s two most important new product launches in 1993 were Crystal Pepsi and
Pepsi Max. Crystal Pepsi, a clear rather than colored version of the classic Pepsi formula, was
launched in the United States but failed to achieve more than 2% volume share of carbonated
beverage sales. On the other hand, Pepsi Max, a “no sugar, maximum taste” cola targeted at 16- to
29-year-olds in a redesigned blue can and supported by television advertising featuring tennis star
Andre Agassi quickly gained a 5% volume share in its launch market, the United Kingdom.1 Pepsi
Max was the first PepsiCo soft drink launched first outside the United States. It accounted for 20% of
Pepsi sales volume in the United Kingdom by the end of 1995. During 1995, Pepsi Max international
sales increased 70% over 1994 as the brand was rolled out in 50 countries. Pepsi Max accounted for
one-third of all PCI soft drink volume growth in 1995. Even though it was not yet distributed in the
United States, worldwide retail sales of Pepsi Max were expected to reach $450 million in 1995.2
In addition to new product launches, PepsiCo achieved sales growth through several other
strategies. First, PepsiCo continued its strong record of packaging innovation. In the United States,
the launch of the Cube, an easy-to-store 24-can pack was credited with increasing Pepsi volume 7% in
supermarkets, compared to an overall 4% growth in soft drink volume through this channel. In the
impulse-driven convenience/gas store channel, Pepsi-Cola became the share leader thanks to its Big
Slam (a one-liter, single-serve bottle) and Quick Slam (20-ounce bottle) packaging innovations. In
1995, PepsiCo also pioneered the concept of freshness dating on soft drinks in the United States.
Overseas, PepsiCo continued to invest in acquisitions and joint ventures in emerging markets
to try to close the share gap with Coca-Cola. In most emerging markets, teens, Pepsi’s core target,
accounted for a much higher proportion of the population than in the United States—yet per capita
1 The United Kingdom was chosen in part because acceptance of sugar-free colas (17% market share) was
among the highest in the world.
2 Pepsi Max employed an artificial sweetener not yet approved by the Food and Drug Administration for use in
the United States.
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consumption of soft drinks was much lower.3 Between 1993 and 1995, over $500 million was invested
in beverage acquisitions and joint ventures. In Hungary and Poland, Pepsi acquired cola market
share leadership. In India, Pepsi’s market share rose to nearly 40%. Almost 40% of PCI’s 1995
international soft drink volume growth came from emerging markets.
In addition to forging new alliances, PepsiCo continued to use surplus cash to purchase
partial or total control of its independent bottlers around the world. Between 1990 and 1995, PCI
refranchised, consolidated, or restructured almost 60% of its business. By the end of 1995, PepsiCo
had outright ownership or shared equity in bottling operations accounting for 55% of international
beverage volume, up from 20% in 1995, and for 70% of United States volume. Corresponding figures
for Coca-Cola were 80% and 70%.
The Presence Audit
The visibility and impact of the Pepsi brand name and logo at the point-of-purchase were
considered especially important to sales success in the impulse purchase driven soft drink category.
Consumers were exposed to the Pepsi name on signs outside of points-of-sale, on trucks, on vending
machines, on “wraparounds” at the bottom of in-store displays, and on packages.
By the middle of 1994, there was increasing concern within PCI about inconsistent
presentation of the Pepsi brand to consumers. Pepsi had only changed its brand identity seven times
in the company’s history, most recently in 1991. However, in many markets, old signs were still being
used alongside new ones. In addition, each brand logo had been interpreted slightly differently by
Pepsi’s independent bottlers. Although Pepsi and the bottlers shared the cost of point-of-purchase
signage and materials on a 50/50 basis, the bottlers decided what was used.
As shown in Exhibit 1, Pepsi’s first official logo was created in 1898 when the pharmacist
Caleb Bradham changed the name of the original formula, developed as a cure for dyspepsia, from
Brad’s Drink to Pepsi-Cola. The first Pepsi Cola logo was red. This was dropped for red, white, and
blue in 1941 as Pepsi gave its support to the World War II effort. A “bottle cap” logo was launched in
1950, evolving into the bull’s-eye “swish” logo in 1973.
In late 1994, PCI commissioned Landor Associates, a corporate identity consultancy, to
evaluate the point-of-sale presence of the Pepsi family of brands. After interviews with PCI executives
in seven countries, Landor organized a worldwide photographic audit of Pepsi’s brand presence.
About 2,000 photographs were assembled from 34 countries. They showed inconsistencies and lack
of integration in the presentation of the Pepsi logo and graphics both within countries as well as
across countries. In addition, the photos showed that Pepsi owned no particular color except perhaps
white. Pepsi graphics often looked weak, flat, and washed out when compared to Coke’s bold red
decal. The graphics did not express the energy and core essence of Pepsi. The long red pedestal and
Pepsi ball did not work well on the sides of trucks or vending machines. In the view of some, cans of
Pepsi looked like motor oil.
A team of consultants and PCI executives set out to develop an improved look for Pepsi
graphics in merchandising materials around the world. The team identified blue as a much stronger
color than white that Pepsi could own in contrast to Coke’s dominance of red. Consumers viewed
blue as modern and cool, exciting and dynamic, and a color that communicated refreshment. The
team began to think of blue as a key component of Pepsi’s brand equity. Only then did the team
begin to do exploratory work on redesigning Pepsi packaging. At that point, the project needed top
3 For example, per-capita soft drink consumption in the United States of 51 gallons per year compared to 20
gallons in Argentina, 15 gallons in Saudi Arabia, and 5 gallons in Thailand.
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management approval. PCI’s president saw Project Blue as a big idea that could galvanize the Pepsi
system worldwide and refocus managers around the world on restoring Pepsi’s marketing edge.
The original mission set out for the design team was to develop a graphics treatment and
product line look that would strengthen the Pepsi brand identity and deliver higher impact in-market
presence for the Pepsi brand. The team set out to:
1. Develop a flexible design (that could be used effectively on displays and trucks
and in a variety of other media).
2. Establish blue as Pepsi’s dominant color.
3. Develop a mnemonic device.
4. Create a modern, even futuristic, look and image to contrast with Coke’s
traditional positioning.
The project team first worked on developing a two-dimensional icon which retained some of
the equity of the current brand identity—principally the Pepsi ball. Exhibit 2 shows the winning
design from this phase of the project. The designers noted that the unitalicized logotype added
boldness and stature. Spelling Pepsi in white on a blue-and-red background reversed the color
architecture of the previous logo and ended up doing the same. The traditional Pepsi ball became a
globe. Showing only a quarter of the ball enhanced its larger-than-life personality and effectively
transformed it from a ball into a three-dimensional, futuristic globe.
The next challenge for the design team was to translate the off-pack design into an execution
that would work equally well on three-dimensional cans and bottles. Although bottle volume
exceeded can volume in many markets, the design team focused first on cans since they dominated
away-from-home consumption and were therefore more often used and seen in public. By combining
the toolbox of graphics they had already developed with a grid background on the can surface, the
designers were able to produce in June 1995 the final can designs for the Pepsi family of brands
shown in Exhibit 2.
The final design, following the exploration of over 3,000 design approaches, featured a
striking blue “grid” background, bold, vertical typography, and a three-dimensional globe that
evoked Pepsi’s well-known “ball” icon. The blue graphics would be carried on all packages of Pepsi-
Cola, Pepsi Max, and Diet Pepsi.
The Hong Kong Bottler Meeting: May 1995
At PCI’s annual bottler meeting in Hong Kong in May 1995, attended by all company-owned
and franchised bottlers worldwide, PCI’s president elected to announce Project Blue.
The buzz in the corridors after the speech ranged from enthusiasm to concern. The PCI vice
president in charge of Eastern Europe was bullish: “Maybe I can finally paint Red Square blue!”
Others, including several franchisee bottlers, were concerned about the expense and management
time that the rollout would require and whether Pepsi management would support the rollout of Blue
in the United States. The PCI president followed up with a series of internal memos that ensured that
Project Blue would be a focus of every country manager’s and bottler’s thinking as their 1996 business
plans and budgets were developed and finalized during the period from September to November
1995.
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The Bahrain Test: October 1995
At the May meeting, it was announced that Project Blue would be launched initially in
Bahrain in October. The selection of Bahrain was based on four factors. First, PCI regional
management in the Middle East had already been experimenting with blue backgrounds in point-ofsale
materials because the standard white background caused the logo to be washed out in the bright
sunlight common to the region. Second, the Bahrain market was served by a single franchisee bottler
who had, on occasion, been critical of PCI headquarters. The credibility of Project Blue would be
enhanced if he could be convinced. Third, as in other Middle Eastern markets, Pepsi sales dominated
Coke’s by 3 to 1, so any negative reaction towards Blue among existing Pepsi consumers used to the
current logo and signage would surface in the test. Fourth, Bahrain was a small market of 1 million
people who lived on two islands connected by a bridge; this enabled PCI to conduct a controlled field
test to measure the impact of Blue.
A Blue Fund was established at PCI headquarters to cover the cost of the market test and a
PCI task force was appointed to spearhead its implementation. The Bahrain bottler’s marketing
managers and salesforce were also heavily involved in local execution. However, because the bottler
had recently invested heavily in installing new production lines to increase capacity, he was not
pressed to cover the cost of production line changes, the new signage and point-of-sale displays.
The PCI task force developed and executed a rollout of Blue in 12 weeks. Newly designed
cans and bottles for all Pepsi brands were distributed throughout Bahrain. The entire Blue program,
including signage and point-of-sale materials, was implemented in one-half of the city (around 500 of
the 1,000 retail outlets). Implementation included both converting existing signage and adding new
signage. A new advertising slogan, “New look. Same great taste,” was appended to existing
television and print advertising executions. Spending on advertising and promotion during the test
was sustained at previously planned levels.
Tracking research was conducted before, during and after the test. Measures of brand
attitudes improved, as did sales volume and market share. Around 70% of consumers believed that
there was no change in Pepsi’s taste, 30% thought there was a taste change and, of these, 70% thought
the perceived taste change was positive.
The November Meeting
With the benefit of the positive results from Bahrain, PCI executives were convinced that
their enthusiasm for Blue was well-founded. They were asked to present their recommendations for
a worldwide rollout of Project Blue at a meeting at PCI headquarters in late November. Their
recommendations covered the speed of the worldwide rollout and the sequence of countries in which
Blue should be launched. In addition, they proposed a creative and expensive communications
program to support the worldwide launch.
First, PCI executives recommended that Blue be rolled out in markets accounting for half of
brand Pepsi’s international sales volume by July 1996. By the end of the year, they expected more
than 20 billion cans and bottles would reach store shelves. However, several executives were
unconvinced that the Bahrain execution or results could be replicated on a worldwide basis. They
pointed to Pepsi’s unusually high share in Bahrain and the fact that it was a developing rather than
mature market. These executives argued for a slower rollout on a region-by-region basis. A second
group of executives advocated launching Blue first in a lead market in each region; success in each
lead market would then motivate the other bottlers in the region to follow. PCI European executives,
for example, argued that the United Kingdom should be a regional lead market for Blue because of
the successful launch of Pepsi Max; because Pepsi’s soft drink market share in the United Kingdom
trailed CocaCola brands 19% to 50%; and because Pepsi brands were losing share to own labels
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marketed in red cans by the United Kingdom’s powerful supermarket chains and also to the recently
launched Virgin Cola.
PCI’s Latin American executives pointed out that the bottlers in their region, especially in
Mexico, had made significant capital investments in their infrastructure in the last four years. It
would be difficult to demand that they change their signs again so soon. Hence, the Latin American
launch would have to be postponed until 1997.
Other executives argued that a simultaneous worldwide launch of Project Blue would be a
logistical nightmare. Some preferred to wait until each bottler was totally committed than risk halfhearted
support from bottlers who might be pushed into going with Blue before they were ready, just
for the sake of a global launch.
There was skepticism at the meeting about the U.S. organization’s willingness to adopt
recommendations from the international side of the business due to the not-invented-here syndrome.
The U.S. organization was working on its own package redesign which, though similar, was not the
same. The question was raised as to whether bottlers around the world would adopt the PCI plan if
the U.S. organization was going in another direction.
PCI executives recommended a $500 million marketing program to support the worldwide
launch. This investment, to be spent in 1996, included the systemwide conversion of bottles and cans,
coolers and vending machines, and trucks. Advertising spending for 1996, originally set at $200
million for Pepsi brand beverages outside the United States, would be increased to $300 million and
support a new advertising campaign that targeted younger consumers with the tagline, “Change the
Script.” This new tagline, which would replace “The Choice of a New Generation” introduced in
1984, would be launched in early April 1996 in Project Blue lead markets including the United
Kingdom; a tentative media schedule called for the advertising to be seen by 300 million people in 20
countries in the first four weeks. The new campaign would include five television spots featuring,
among other celebrities, Cindy Crawford (for five years a Pepsi spokesperson), Claudia Schiffer and
Andre Agassi.
Several public relations initiatives were planned to coincide with the launch of the
advertising campaign. These included a ten city tour of Europe and the Middle East by a Concorde
jet adorned with Pepsi’s new colors4; sponsorship of the Russian Mir Space Station which would
permit the advertising tag line “Even in Space—Pepsi is Changing the Script;” and a three-year
alliance with Viacom’s MTV Network to include cosponsorship in July 1996 of the Global Dance
Connection, Europe’s largest-ever interactive dance party to be held simultaneously in three
European cities.
Executives at the November meeting were impressed but, in some cases, awed by the
magnitude of the proposed worldwide communications campaign to launch Blue. Some argued that
spending the money to support tactical marketing efforts, sales promotion and additional sales
coverage worldwide might be less glamorous but would be more effective and less controversial.
Others worried that funds might be diverted from the faster growing non-Pepsi brands to
support the weaker links in the brand portfolio. Pepsi Max executives were concerned that extending
the Blue idea to the main Pepsi brand would dilute its impact on their sales.
A third group acknowledged that Pepsi Blue represented a huge bet on the future but, they
argued, the sales and share trends versus Coke gave Pepsi no choice. For them, Pepsi Blue
represented the long-needed big, new idea.
4 According to PepsiCo public relations, the Concorde “changed the script” of air travel over 20 years ago.
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References
Guy de Jonquières, “Clash of the cans,” Financial Times, March 4, 1993, p. 14.
M. Gleason and D. Britt, “Pepsi to be soft drinks’ big blue,” Advertising Age, March 18, 1996, p. 4.
PepsiCo Press Release, “Project Blue Fact Sheet,” April 2, 1996.
PepsiCo Press Release, “Pepsi-Cola eyes millennium with launch of revolutionary blue look,” April 2,
1996.
Sharon Marshall, “Will revamp put the fizz back into Pepsi?”, Marketing, March 14, 1996, p. 10.
Peter Martin, “Back to business as usual,” Financial Times, April 6, 1996, p. 12.
Patricia Sellers, “How Coke is kicking Pepsi’s can,” Fortune, October 28, 1996, pp. 70-81.
“Turning Pepsi Blue,” The Economist, April 13, 1996, p. 15.
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Exhibit 1 Chronology of Pepsi-Cola Logos
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Exhibit 2 Winning Logo Design and Final Can Designs
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