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Evaluating products. The marketing financial
plan.
© Copyright by Victor Aquino, 2001, 2006
WEA Books & Publishing Inc.
Monroe, LA USA

All rights reserved. Inquires should be addressed directly
to World Editions of America, Books & Publishing Inc,

3
94 Elm St, Monroe, Louisiana 71201 USA

Foreword

The difficult commercial situation of
current days and the increasing uncertainty of
the future markets bring forth that the majority
of the companies should revaluate today's
potential of their line of products.
The functions of auditing the line of
products are:
(a) improve the current
performance increasing the yield of
the line;
(b) provide for future performance,
discarding obsolete products and
summing new ones which capitalize
the opportunities of future markets.

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Instead of having a regular and
systematic evaluation, the majority of the
companies only give attention to the current
performance and the potential of their products
when errors become apparent.
Even so, the making of an efficient
decision is usually jeopardized by inadequate
information about the yield of the line of
products and by a deficiency on examining the
interdependences which exist among the
products within a line.
The cost of not making a periodic audit of
the set of products is the company's unbalance.
What this specifically mean, is that a line
gets overloaded with the so called "yesterday's
sure profit products" - products which have
declined and have gone beyond their medium
livelihood, and fails with the "tomorrow's sure
profit products" - new products fitted out to the
increasing market of the future years.
The effects are an inadequate yield and a
non-equipped company to face the forthcoming
challenges.
This essay details the necessary
information to identify, ahead of time, the
problems of a set of products and the type of
analysis useful for the solution of these
problems, and to capitalize the opportunities
which come about.

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Finally, it evaluates the opportunities of
new products, giving special attention to the
inevitable interdependencies among the new
products and the existing ones already in line.

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NEEDS FOR SYSTEMATICAL
REVISION

The performance of a line of products
should be kept under constant revision. A
variety of reasons may be given for a
systematic audit:

(1) The potential profit of many
products was violently reduced by
the impact of an unexpected severe
inflation in the cost.
(2) A slower economic growth
means that I the forecasted
opportunities of the market were not
accomplished. Therefore, the set of
products should be rapidly changed
and stabilized to reflect the new
situation, so as to avoid losses and
to seek new opportunities.

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(3) We know, through the
phenomenon of the vital cycle of a
product, that all products virtually
have a limited life span and go
through well defined phases such as
introduction, growth, maturity and
decline. As much as profitable a
product would have been, it will
inevitably be modified or substituted
by new products.
(4) Without a systematic revision,
an administrative inertia permits
that declining products continue
lasting to the detriment of the
company's interest. The hope for the
declining product to grow again, or
such arguments as, that at the
moment, there are no opportunities
for be tier profits, are frequently
reasoning of an inefficient
administration.
(5) Weak products ha ye disguising
costs. They tend to consume
excessive administrative time and to
require sale and advertisement
support which produce better results
if directed to more powerful
products.
(6) The majority of the companies
apply the 80: 20 rule 80 percent of

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the results are general teed by only
20 percent of the products. As an
overall, substantial profits can be
gained by concentrating on products
which will be present and future
"winners". We call this: the prior
decision of the administration
specifically: greater support, in
quantity and quality, to the more
powerful areas concerning
opportunities and results, before a
next promising area receives any
amount.

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STANDARDS FOR EVALUATING
PRODUCTS

The products' revision foundation is the
company's continuous information about the
financial performance. Three financial standards
demonstrate efficiently the problems of a set of
product.
The contribution to the profit and the
general expenditures brought by the product
are the crucial indicator of its performance.
Observe the fact that this concept is quite
different from gross margin and net profit which
appear on the ordinary accounting. They have
two basic defects which turn then into
misleading directives for the control and the
decisions of marketing.
For an industry of diversified lines of
products, it initially achieves the gross and the
net profit deducing the general manufacturing
expenses which are based on arbitrary
allocations among the products.

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There is no way to allocate, in a scientific
manner, the costs of production and marketing,
when referring to a set made up of various
products on the same line. As a consequence,
there is not an exact evaluation of the profits of
the product.
Different methods of allocation commonly
in terms of yield, will bring about different
arrangements for the products. The second
defect of these criteria is that; not being able to
distinguish the variable costs from the fixed
costs, there is no way to determine the
increasing profit of the modifications in the
market as a whole.
The indicator of the costs of the sold
goods used in the conventional accounting to
find the gross profit, includes the general
expenses of manufacturing which do not vary
with the modifications in the sales.
These things can be shown using a
disguised and simplified accounting from a
nationwide known industrial company had an
annual output of 38 million, brought up by 4
major lines of products.
Each line was composed by a number of
products intimately interrelated - 32 in all.
There were 30 salesmen, and each sold all the
products in a given geographic area. Figure 1
demonstrates the results for the year which is
being examined. Notice how the accounts

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separate the variable costs from the fixed costs
and concentrate on the contribution to the
profit.

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Figure 1
The budget of variable line products

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The variable costs enclose from labor to
materials, which can be directly related to the
produced units and also certain manufacturing
and commercial costs which vary during the
year, depending on the level of production.
It's Include certain specific costs of
maintenance, quality control and certain labor
costs, which can vary with the number of
transactions.
The general costs are divided into specific
programs of costs which occur each year, as a
result of a corporate decision for a given line.
Fixed and general program costs to all the lines
are fundamental, considering that the company
is functioning.
The two last types of costs are
unquestionably subjected to arbitrary
allocations of the lines and consequently are
separated from those specific costs of the line.
The indicator of the contribution to the
profit has various important uses. At first, it
hands a relatively objective evaluation of the
impact of new orders on the profit. For
example, based on current prices, 36 percent of
increased sales on line D represent a
contribution to the profit and general expenses,
whereas only 8 percent are of line A.
After deducing the costs of specific
programs, its contribution to the general fixed

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expenses and to the programs is of 16 percent
and of - 3 percent. Therefore, it is very clear
that when possible, it compensates to direct
marketing efforts to line D.
Nevertheless, sales on any profitable line
give a greater profit than if these sales were not
made. The results also permit an analysis of the
modifications on the set of products. In mature
markets, many a times, it is easier to do this
than increasing total sales.
Figure 2 demonstrates that the potential
impact over the net profit, by eliminating line A,
is the redistribution of the marketing efforts
over the other there more profitable lines.

Figure 2
Impact of volume changes inset over
profits

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Considering that the variable costs can
generally be traced to each product, the
contribution to the profit should be calculated
for each item of the line. If this is done, it is
useful to calculate the Curve of Lorenz (Figure
3) which shows which of the products are
generating the greatest volume of contribution.

Figure 3
Lorenz diagram for products' set

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In this case it was found 25 percent of the
products generated 80 percent of the
contribution. A significant number of projects
were making negative contributions whereas
the majority of the products were giving little
profit. The Lorenz Curve is an excellent method
to demonstrate, to the board of directors, which
of the cost permit the increase of products in
the set.
If the company is operating at almost full
capacity and certain retarding conditions
appear, the contribution itself is not sufficient to
evaluate the performance of the product.
Two products may generate the same
contribution, but one may demand much more
time of the few manufacturing installations. In
this situation, the profits can be increased by
producing more of the economical product in
terms of deficient installations.
These resources may be equipment's,
materials (for example, during the lack of sugar
in 1974) or tine of sale. Contribution, per time
of processing, is calculated by dividing the
generated contribution of a given demand by
the number of hours of deficient equipment (or
quantity of material) necessary to produce the
goods.
The performance should be related to the
invested capital used to back the variable cost.
As long as line V has a high indicator to the

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contribution, a high operational and fixed cost
investment is demanded to back this line.
Unless the total sales should be impelled,
line V will represent the minimum return to the
investors. Notice that while the contributor and
the contribution per hour of equipment may be
calculated for individual products, it is rarely
possible to calculate the return of the
investment, below the level of the division or
line, because the products tend to use
installations as whole.

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STRATEGY AND TACTICS

As inadequate financial performance in
terms of these there criteria identify the
problematic products, but the income requires a
more precise diagnosis of the problems and
other methods to solve then. The following
factors must be studied after the initial choice.
The data for any particular month or year
may not be the real reprehensive ones. Monthly
data may be influenced by seasonal movements
and a weak year may be a result of cyclic
fluctuations around a tendency of growth. It is
necessary to examine the contribution and the
return over the investment for a valid period of
time, before making useful forecasts of the
potential.
The specific sources of deficiency of a
product should be isolated. This demands a
division of the total contribution of the product
in focuses of responsibility (division district,
area of sales), distribution (wholesale, direct)
and individual clients.

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With this information, the three
alternatives, when trimming the product may
be evaluated. First, the reduction of the costs
may be explored. Today's inflation and scarcity
show unexplored opportunities for the use of
other cheaper materials, so as to obtain a
competitive advantage. Secondly, it is possible
to achieve a greater efficiency in marketing.
Many times, for former products, it is
possible to reduce the sales and advertising
costs. Finally, the company may try to improve
the product if it considers that the market has
sufficient potential to compensate the
investment and that it will not be immediately
run down by imitations of the competitors.
The analysis of the equilibrium point is a
useful technique to explore the financial
implications of the different methods for the
increase of efficiency.
It must be considered implications of the
trimmings of a product over the others in the
line. The interrelated demands within a line,
may imply that one product contributes more
than it seems to.
The promotional advantages of a
complete scale of products may sometimes
mean that "whole" is greater than the sum of
the parts. However, before accepting this
argument of main taming a contributor weak,
the administration should evaluate he possibility

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of reacquiring the product by a smaller price,
than that of manufacturing.
It is frequent to find interrelations in the
cost. The importance of avoiding arbitrary
allocations has already been emphasized. When
abandoning is decided, the contribution is a
much better criterion than that of gross or net
profit (or loss). For example, by eliminating line
A (Figure I) you would not save 250 thousand,
because the general expenses would have to be
reallocated to the other lines.
Occasionally, even the contribution cannot
be calculated in a determined manner. It is the
case of linked products - where the increase of
one provokes the increase o the other (for
example, steel and slag). Fortunately the
additional cost is rarely necessary, considering
that there is no other choice, unless producing
both.

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PRODUCT'S STRATEGY

The interpretation of financial criteria
should also be influenced by a particular
strategic condition; if one product is the
"yesterday's sure profit" or a "tomorrow's sure
profit".
The vital cycle of a product is the most
important concept to reason within this
strategic dimension. The crucial implications of
this concept are as follow.

(1) Products have a limited life span
they pass through introductory
phase, growing phase and
eventually degenerate or disappear.

(2) The contribution to the profit
tends to follow a forecasting course
during the vital cycle. As figure 4

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shows, at the introductory phase,
usually there are no profits.

(3) At each step, the products
demand new different marketing
programs.

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Figure 4
Vital cycle of a product

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They tend to increase significantly during
the growing phase, stabilize and then decrease
during the maturing phase and almost
disappear at the declining phase.
Administration should be prepared to
deviate the relative sums and, the price, the
advertisement, the improvement of the
product; and other aspects of the whole market
should be emphasized during the different
phases of the vital cycle of the product.
In special, the products in the
introductory and growing phases should receive
a substantial aid of publicity and sales with the
objective of giving them a special position in the
market. Recent studies have called the
attention to the importance of obtaining a part
of the market for growing products.
The empirical research showed that
products which occupy greater parts I the
market, tend to have smaller costs and higher
returns over the investment. These smaller
costs are derived from the scale economy and
from the "experience effect".
The part of the market with strategic
aims, nevertheless, means small profits and a
negative turn over of the money, during the
preliminary phases of the vital cycle. Within the
stable products, this should be counterbalanced
by mature products with restricted investment

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necessities and small necessities of marketing
and, therefore, a positive monetary turn over.
Using these ideas the consulting board
suggested that a company can evaluate the
stability of its product using the matrix on
Figure 5. Products which are within the high
growing quadrants are "stars" or "tomorrow
sure profit products".

Figure 5
Analysis of products' portfolio

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They demand substantial sources to
maintain and to increase the part of the market
and this should supplied once that these
products eventually become "milking cows" or t
"today's sure profit products" The ones
characterize themselves by the hi margin due to
the scale economies a restricted financial
demands, because maturity of the market.

The resources generated by the products
partially finance the "star". So, in a stable
portfolio the products shift themselves in time
from the left the right on the matrix, whereas
resources should shift in the opposite direction.

"The dogs" on the low quadrant are
typically the great hopes of the part which did
not achieve its potential position and are, at the
present, the ones with low profits.

With a small part of the market in a
mature or in a declining market, there are small
chances of them being good contributors.
Finally, you have the "problem child" products
with a small part of the market, but operating
in promising markets.

They are in competitive disadvantage with
the leaders of the market, and they will become
contributors if something is done, implying the
associated risks to a violent marketing and the

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investments on the product. Companies cannot
cope with too many "problem child".

A stable portfolio of products is the one
that does not have all of its scaled products
directed to one specific quadrant. The left side
of the matrix is the one the one that represents
its involvement with the future, the right side
represents its involvement with the present
profits.

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WHAT SHOULD BE DONE?

The audit of the marketing yield, which
concentrates on supplying calculations of the
contribution of the products, isolate those which
are the origin of deficiency. These should then
be examined, tolerating the strategic
considerations described above. We can
illustrate this procedure, discussing results of
the mentioned company. (Bidding 1)

Line A was in a declining market,
characterized by a tough price dispute. Among
the tem products in line, five gave negative

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contributions, there gave some marginal profit
and only two generated a rate of contribution
superior to ten percent.

Even when eliminating the aid of
marketing, this line was considered to be a
dangerous drain of the company's re sources,
on the long run; even when the two positive
products did not have much of a promising
future.

Therefore, line A was totally discarded.
Thirty percent of the products of line B and
twenty percent of those of line C were totally
eliminated. The products were consequently
reduced from 32 to 17.

In the past, publicity and promotion sales
had been allocated proportionally to the turn
over of the lines in the precedent fiscal year.
This would strangle the potential of line C and,
specially, that of line D - good lines in extremely
growing markets.

The financial turn over of line B was
increased by suppression of the greater part of
the publicity aid and by allocating more of the
resources for lines C and D with a high
potential.

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Other modifications in market as a whole,
include some price increases on the less
profitable products, specially where there a
great number of small buyers. Other than that,
efforts were made to transfer the buyers of
small variations to greater "regular" products,
with the intention of giving to the first, the
chance of being eventually eliminated.

Finally, as a part of a more aggressive
strategy for line 0, the prices were reduced, and
these price cuts were violently promoted and
sustained by a substantial sales campaign. Only
one year after these decisions were taken, the
company already demonstrated incredible raises
on the turn over and on the profits.

Considering these financial and strategic
criteria, not undertaking a systematic revision
of the portfolio of products delay the research
of new products and create an asymmetrical set
of others and a bad drain of the company's
resources. The no operation reduces present
profits and weakens the future bases of the
company.

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Bidding I

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The company should be orientated for
future demands, not only by leaving the
obsolete lines behind but also by adding new
ones. Inflation and variations of the market
mean that the administration should accept
permanent modifications and developments as
a prerequisite for survival.

This is the rational of the market focus
which as: "since the intention of the company
was to create a consumer, business has two and
only two basic functions: marketing and
innovation".

When evaluating the opportunities of the
new products the first task is to establish clear
criteria for selection. Some evaluation for profit
is an obvious parameter for a commercial
company.

The common evaluation is the increase of
financial flow plus the total additional income
generated by the life span of a product, minus
the global expenses to produce it.

Different opportunities can be scaled
based on this evaluation for the profit. In few
cases, where no alternatives are available, any
contribution will justify the additional product.

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On the cases of restricted capacity, the
contribution per hour of equipment will be the
criterion of staggering, for the great additions
of products; however, the restricting factors is
the use of capital. In this case, the return over
the investment is the best evaluation.

This form of profit evaluates the income,
taking the efficiency of the product in relation to
other uses.

Bidding II

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In a company which has diversified
products, the number of factors complicates the
problem of the selection of new products.

First of all, the administration has
objectives other than the profit; mainly, it aims
at mains maintaining a constant growth of the
incomes.

They will be willing to sacrifice
investments with a greater level of income, in
exchange for projects which will stabilize more
the total incomes of the company, as time goes
by.

Secondly, the administration tends not to
take a chance and it's more inclined to projects
with greater guarantee of income.

Finally it's necessary to examine how a
new product affects the potential profit of the
other products of the line. Interactions are
common; the greatest profit of addition should
forgive losses and gains generated amongst the
existing products. These problems are rapidly
discussed in the following section.

Generally, a new product will be an
"improvement" of a product already in line. If
the company has a big share of the market this

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means that a good part of the added product
represents "cannibalized" business of one the
products is progress.

Consequently, on the examining phase, it
is crucial to evaluate the effect of the lose
through substitution, when calculating the
greatest profit expected with the new product.

Where in it is supposed that a new brand
would "cannibalize" the existing ones, it is
expected that the director of brands achieves a
higher gross margin than in the "cannibalized"
business.

However, in general, the companies have
very little choice, because if they do not
innovate the competitors will. Losing part of the
market in the last situation, will certainly
overcome the danger of "cannibalizing".

Sometimes the new products are
complements of the existing lines, and the
perspective yield will be underestimated,
underestimated, unless its effects over the
incomes of the existing products were added.
For example, a new brand should be violently
promoted making possible that the existing
products of the lines sell better.

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The interaction of the costs exists when
the new product affects the cost of the existing
lines. Such interactions are normal once that
the new product inevitably uses some of the
same installations and the general
administrative expenses.

Considering that the accounting practice is
to allocate all the cost, the margin of profit of
the existing products will fatally be affected,
even when the demands are independent.

If the excessive capacity exists, the net
profits of the present products will increase;
when the capacity is being added, the present
products will feel the effect negatively.

If accounting conventionalizes and is able
to deceive the administration, such effects of
the costs should be eliminated with all the
additional changes of the differences of the
costs debited to the new products.

Other than the profit, the administration,
in general, will worry about the impact of a new
product over the stability of the sales of the
company.

The usual objectives include an increase
of the income and the desire to prevent the

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economical and social costs of great peaks and
depression on the occupational capacity.

This objective demands a stable portfolio
of products once that product in decline or slow
growth are shifted away by new growing lines;
and products within a set have different cyclic
and seasonal peaks and depressions.

The companies which have not forgiven
the impact of the products over the variance of
the sales, have subsequently found themselves
committed by the excessive vitality of the sales.

A new product will increase the magnitude
of the global fluctuations of the sales if its
standard coincides with that of the already
existing lines. It will reduce the fluctuations if it
expresses a measured growth or fluctuations in
opposite phases.

Adapting a set of products aiming stable
sales constitutes one more restriction to the
selection of products.

Usually, a small amount of the increase of
the sales is sacrificed in order to satisfy this
restriction. The useful function of the
administration will describe its interchange
between of the sales and stability.

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At the same time, considering the great
fluctuations increase excessively the costs, it is
not always true that the product, of which is
expected a greater increase of sales, is the
most profitable.

The economy is more than ever subjected
to faster and generalized modifications. These
modifications mean that the companies are to
be apt to fast adaptations within their lines of
products.

The administration needs a planning
system to detain the necessary information to
identify the problems of the set of products, the
counting of the opportunities that appear in the
market and to the analysis of the different
strategies and controls.

The problems can generally be identified
by a regular supply of data about the
contribution to the profit of the products in line.

However, the decisions of marketing
demand a detailed analysis of these problems
to review the interactions amongst the
products, the potential of the products on the
long run, and the degree of risk that the
company is willing to invest

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