07.27.07
Having the Right Products in Your Product Portfolio
By Bruce E. Jacobs
Too many enterprises have product portfolios comprised of stock-keeping units (SKUs) bloated with products that underperform financially, consume resources and incur costs without providing the minimum rate of return the company requires from its investments. The product offering of SKUs is a portfolio of investment opportunities and costs that need to be managed like assets. Each product in the portfolio, whether it is a finished good or a component part for resale, should achieve the minimum return on investment the enterprise requires from its portfolio of financial investments. If it cannot achieve the minimum investment threshold, the underperforming SKU had better be making a substantive contribution to either another SKU’s investment return or a customer’s revenue volume.
The proliferation of underperforming products erodes a company’s profit and revenue potential—the added complexity from underperforming products inconspicuously siphons resources and misuses capabilities that should be reserved for products that drive the company’s business and are demanded by its customers. Yet, adding products to the portfolio is perceived by many firms as a way to increase revenue and, thereby, create growth.
The Business Problem
The business problem is not the number of products or SKUs the product portfolio offers customers. Instead, the challenge is having the right products—those that generate the required return on investment the enterprise expects from assets in its investment portfolio. The proliferation of SKUs in the product portfolio has certain effects on the markets and revenue base in which the company competes. Underperforming SKUs allowed to proliferate in the product portfolio indicate the company doesn’t really understand its market and customer requirements. As more seemingly indistinguishable variations of the same product are offered, the following occurs:
• The additional SKU generates marginal revenue increase
• Revenue from stronger products in the portfolio is pirated by the underperforming products, which suboptimizes revenue for both groups of products
• Customers become confused and frustrated trying to understand the insignificant distinctions between products
• Underperforming products dilute the enterprise’s concentration of resources such that products with the greatest potential do not get the support required to reach their potential
The objective is to have a product portfolio of SKUs that provide the highest return on investment for the company, as measured by the criteria it establishes. Most firms fill their portfolios with too many products, and not enough of them justify staying there. The fundamental problem is the more SKUs an enterprise offers its customers, the greater the total cost structure required to market, manufacture, distribute, source, maintain, service and provide warranty. But product proliferation can be a competitive distinction if used strategically—the issue becomes recognizing poorly performing SKUs and eliminating them in a timely manner from the product portfolio. This requires the rigor of a management-driven product rationalization process based on relevant data. Depending on a product’s lifecycle, product rationalization should be performed annually at a minimum. Products with short lifecycles or high seasonal-based volumes require more frequent rationalization.
Management Process
Product rationalization is not a management process that is well designed or well executed by companies that manufacture engineered medical products, aerospace, commercial and industrial products. Automotive-based aftermarket manufacturers, as well as distributors and wholesalers, do not assess their product portfolios with sufficient rigor and discipline. In the absence of a formalized management process, most rely on their materials and inventory management and their reorder processes to alert them to a product’s underperformance. The materials and inventory management processes are designed to manage inventory, make product available for sale to the customer and reorder products when inventory is depleted. These processes do not measure how a SKU performs or determine if a product should remain or be eliminated from the portfolio.
Unfortunately, without a formalized product rationalization process, underperforming SKUs are recognized too late, and the enterprise is faced with eliminating the excess inventory and taking a loss on the product. The product rationalization process identifies early the products that are underperforming when compared to the performance criteria established by the firm. This provides adequate time for management to either improve the product’s performance or implement an orderly product elimination and liquidation of the inventory, mitigating major writeoffs and losses.
Rationalizing the product portfolio is a management process that requires a level of rigor in gathering and analyzing data, defining performance measurements, identifying product underperformance, determining how to improve performance and eliminating underperforming SKUs from the product portfolio.
The higher the quantity of products targeted for elimination due to poor performance, the more data and facts are required about the products. Too many underperforming products are left in the portfolio because of the lack of adequate supporting data. With the appropriate analytics and measurements, the decision to maintain an SKU in the product portfolio is fact-based.
Performance Measurements
Determining performance measurements for products in the portfolio requires the company to define the minimum level threshold of performance each SKU must meet to remain in the portfolio. Typically, these measurements are not defined. Performance measurements that should be considered may include:
• Annual revenue dollars achieved per SKU
• Annual quantity of units sold per SKU
• Gross profit margin achieved by SKU
• Ancillary products’ revenue generated by SKU
• Number of customers that purchase by SKU
• Return on owned inventory
Once performance measurements are determined, each SKU in the portfolio is measured to identify how the product is performing. Underperforming products are analyzed further to understand their performance and costs and determine the options available to improve them. If it is determined an SKU’s performance cannot be improved, it becomes a target for elimination.
Product Elimination
The rationalization process identifies the performance of every SKU in the portfolio. Underperforming SKUs become targets for elimination from the portfolio, which requires an elimination strategy. Specifically, the strategy must address the migration of existing customers to other products in the portfolio and replacing the lost revenue when the product is eliminated. In addition, inventory must be depleted to minimize the inventory write-off. This is tied to timing the product’s elimination from customer catalogs, finding secondary markets that will purchase any excess inventory and offering special pricing and discounts to eliminate the inventory.
Having the right products in the product portfolio requires the company to have a formalized management product rationalization process. Most firms never have enough good products but always have too many poorly performing products in their portfolios. Every enterprise knows the top performing products and the worst performing products in the portfolio. Without a formalized rationalization process, the company doesn’t know how the products between the best and worst are performing. In addition, very little is done to improve the performance of the in-between products until they migrate to being the worst performing products in the portfolio.
The first-time rationalization process will target portfolio products for improvement or elimination, ranging from 20% to 35% of the total SKUs offered. Subsequent rationalizations will identify 12% to 20% of the SKUs that either underperform and need improvement or elimination.
The product rationalization process is a management process that ensures products offered in the product portfolio can perform at the level expected from the enterprise’s investment. Rationalizing the portfolio the first time is always the most difficult. Gathering and analyzing the appropriate data and information take the longest time to complete. However, once the process is completed the first time, replicating it the next time becomes simple.
