Introduction to Product Variety The Problem and Basic Concepts

Grading: Group Assignments 30% Class Participation 20% Final Case50% Monday Introduction Strategic Decisions Tuesday Costs of Variety Cost Tools Wednesday Decouple Points Customer Interface Thursday Platform Development Friday Final Case Due 15:00 Course Outline

Why offer more variety? Higher revenues come from variety through many mechanisms. Enter new market segments - Toyota entry into luxury autos. Stimulate demand - ice cream flavors Deter price competition - mattress sales Deter channel competition - Laser jet printers Deter market entry - Breakfast cereal Shelf space - Tooth paste Value capture with pricing - bicycle product lines Better technology attracts more customers - Technological change.

SKU (Stock Keeping Unit) Model Product Category (Division) Blocks Variety manifests itself at different levels in an organization Dolls Toy Inc.

Product variety conveys competitive position

Variety is introduced over time Matched or One-to-one Synchronous Asynchronous Timing Strategy Replacement Strategy Unmatched (Computers, Automobiles, Bicycles)(Consumer Packaged Goods)

Average of 5 new models per year

Growth from 50 to nearly 1600 mountain bikes

Over 200,000 mutual funds to choose from in 2000

Over 350 PCs to choose from by 1996.

Increase in variety across 4 industries at different stages of product life cycle.

Profit RevenueCosts The variety increase will payoff only if costs are balanced against revenues. Complex economic relationships make this a non-trivial balance! Price Quantity R&D Production investment Tooling Inventory obsolesence Marketing costs

Revenue Costs Profit Variety Product Variety and Profit

Unit sales per model decrease from 4000 to 2500 per year.

Unit sales decrease from 4000 to 1000 per year

Net assets per account increase by over $700 per year.

Sales growth per model increase over $2.6 million per year.

Decreasing sales per model in autos and bicycles… Increasing sales per model in mutual funds and PCs

Increase in probability of bankruptcy if you continue to proliferate!

How did successful companies manage variety? Success in Autos defined by stock price performance. Successful: Toyota, Honda, Ford Unsuccessful: GM, Nissan, Chrysler Success in Bicycles defined by market share and no bankruptcy. Successful: GT, Trek, Diamond Back Unsuccessful: Bridgestone, Mountain Goat, Miyata

Auto Industry Returns ( ) Toyota Ford Honda

Observation 1: At successful firms, sales growth exceeds variety growth.

Toyota, Honda, Ford GM, Nissan, Chrysler Diamond Back, Trek, GT, Bridgestone, Miyata, Mountain Goat

Observation 2: At successful firms, sales growth and variety growth move in lock-step.

Honda moves in lock-step GM does not Correlation =.94 Correlation = -.33

Toyota, Honda, Ford GM, Nissan, Chrysler Diamond Back, Trek, GT, Bridgestone, Miyata, Mountain Goat

Observation 3: Successful firms expand product lines along dimensions that leverage existing supply chain assets, product architectures, and production processes.

Product Variety at 4 Successful Mountain Bike Companies CannondaleSpecializedVooDoo National Models Which company offers the most variety?

Basic Mountain Bike Attributes Model level variety is created by changing the level of each attribute Frame Material - Carbon Fiber Frame Geometry/size - Softtail, Grande Color - Burnished Black Component group - Shimano LX, P-bone front shock

CannondaleSpecializedVooDoo National Models Frame Geometries Materials 1 6 (3 basic) 3 2 Components per frame Colors per model In bicycles, companies optimize around attributes. Product Variety at 4 Successful Mountain Bike Companies

Not All Attributes Should be Managed the Same FitQualityTaste Individual Preference Function Population Preference Function XS S M L XL XXL 16 kg 12 kg 8 kg XS S M L XL XXL Frame Weight Frame Size Frame Color Competitive Emphasis More Quality for Less Money Customization and Service Meet Changing Tastes (Service)

Effect of product variety on costs (occurs at the attribute level) Product variety Production Costs Market Mediation Costs Incremental production costs : Fixed investments in tooling, dies etc. Production (batch) related costs Production technology choice Costs of making supply meet demand: Mark-down costs Excess inventory Increased safety stock + +

Differences in Production and Market Mediation Costs Across Product Attributes MaterialsUS$ 2,000,000Low Geometry/SizeUS$ 10,000 Medium ColorsUS$ 1,000High ComponentsUS$ 0 Medium Production Cost (tooling investment) Mediation Cost (forecast difficulty) Materials is a “production dominant” attribute. Geometry/Size, colors and components are “mediation dominant” attributes.

CannondaleSpecializedVooDoo National Models Frame Geometries Materials 1 6 (3 basic) 3 2 Components per frame Colors per model Core Asset Flexible WeldingAlliances Configuration Color System Product Variety at 4 Successful Mountain Bike Companies

Statistic: Determine the difference between sales growth and model growth. Diagnosis: Difference should be positive. If negative indicates lack of return on variety. Test 1: Test of Market Acceptance (Sales²-Sales¹)/Sales¹ - (Models²-Models¹)/Models¹ Toolkit of Vital Variety Statistics

Statistic: Determine the correlation between sales and models over time. Diagnosis: The correlation should be close to 1. If significantly less than 1 or negative indicates lack of coordinated efforts in managing variety. Test 2: Test of Coordinated Efforts Company Correlation Toolkit of Vital Variety Statistics

Statistics: Decompose product line into attributes and tie attributes to core assets. Diagnosis: Clear link between variety and assets indicates coherent leveraging of existing assets. No pattern indicates wasted variety related assets. Test 3: Test of Leveraged Resources Toolkit of Vital Variety Statistics

Honda expanded product lines using platforms. Platform: Chassis of a car Accord Civic Odyssey

Model level analysis hides true differences in variety Who offers the most variety?

6 Strategic Variety Decisions The dimension of variety offered to the market The degree of vertical integration The nature of the customer interface/distribution channel The process technology The location of the decouple point in the supply chain The product architecture.

Critical Elements of Variety Strategies 1. Dimension of variety must offer perceived value to consumer. 2. Variety strategies are distinct. 3. Product architecture and distribution system minimizes the costs of the chosen dimension of variety. 4. Firm possesses the capabilities to support dimension of variety. 5. Strategy exploits the unique context and resources of the firm.

Revenue Costs Profit Variety Product Variety and Profit

Vertical Integration Motive to outsource Motive to insource Lower Costsvs. More Control Helps production costs Helps mediation costs

Implications of Vertical Integration Supply chain structure = distance of production from target market, degree of scale economies

The supply chain structure will have an effect on production and market mediation costs. Low production costs due to scale economies, but high mediation costs attributed to longer lead times. Higher production costs due to scale inefficiency, but low mediation costs attributed to shorter lead times.

Scale InefficientScale Efficient Local Distant Supply Chain Structure and Product Variety Degree of Scale in Production Distance of production from target market Low Variety High Production-Dominant Variety Low Mediation-Dominant Variety High Production-Dominant Variety and High Mediation-Dominant Variety Low Production-Dominant Variety High Mediation-Dominant Variety

Customer Interface Au Bon Pain Lee’s Hoagie House Select a Bread Hoagie Roll Croissant Bagel Whole wheat Select a Meat Turkey Ham Roastbeef Select Toppings Lettuce Tomato Pickle Onion Peppers Mayonaise El Grande $3.50 (Turkey, Ham, Roastbeef lettuce, tomato, onion on a hoagie roll) The Varden $5.60 (Ham, Pickle, Onion, Peppers on Whole wheat) The Molde $7.75 (Turkey on a bagel)

Frame geometries of 4 bicycle companies

Tub cutting options

Traditional Welding Fixture

Cannondale Slot and Tab System

Decouple Points in Bicycles AsiaU.S Frame Fabrication Painting Assembly

Principles of Decouple Points Understand who the customer is (end user vs. retailer) Variety fan-out after the decouple point. Variety fan-out after long leadtimes. Variety fan-out after capacity intensive production processes. Variety fan-out after high value added production processes. Watch out for exceptions.

Modular vs. Integral Architecture

Understanding Production and Mediation Costs Molde College Banner Exercise Banner Cutting AssemblyPainting String Cutting

Materials per Team 2 straight scissors 2 patterned scissors 1 ream of paper 4 markers 2x2 colors 1 tape dispenser 1 spool of string 2 shape templates (circle and triangle) Record Sheets.

Performance Metrics Production Cost Measure: Productivity = units of output in 1.5 minute intervals/# of people Market Mediation Cost Measures: Inventory = Ending and Work in Process Inventories at end of each 1.5 minute interval Lost Sales = # orders unable to fill during 1.5 minute interval Total Cost Per Unit = [(avg inventory x 1) + (# lost sales x 2) + (# people in production x 1)]/units sold

New Product Introduction

New Product Introduction