© 2000 John Petroff
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© 2000 John Petroff |
During the period of introduction that can last up to two years and has recently become shorter and shorter, consumers must learn about a new product and have the courage to try it out. The company must play on product novelty to attract the interest of social innovators. Because this group is small and the other groups will not act until they learn from these first trials, sales grow slowly. One factor that contributes to slow sales is the lack of supporting or related services (such as video sales and rental for VCR's, or software for computers, when these VCR's and computers were first introduced) which have not yet been set up. But the major factor for slow sales is the exorbitant selling price which is necessary to cover the high cost of producing a small quantity. This was encountered earlier in the description of the learning curve discussed in Chapter 9 Section C-2. In addition, the company has just been burdened by large layouts for research and development which must now be amortized. This is also a highly vulnerable period because technological, design and marketing mistakes can derail the first consumer trials of the product, or misrepresent the message and image the new product should convey.
The introduction of PC's is a classical example for this phase of the product life cycle. Real output and annual rate of growth are plotted in Graphs G-14.2 and G-14.3 below.
Graphs G-14.2 above presents the real output of the computers and peripherals industry. The graph shows that when compared to subsequent sales volumes the first ten years of more seem dismal. Graph G-14.3 below confirms an erratic introduction in the late 1970's.
Of course, actual performance of PC introduction is spectacular with annual rates of growth exceeding 100%, that will not be duplicated later. The same can be seen in Graphs G-14.4 and G-14.5 for the photocopying equipment industry and in Graphs G-14.6 and G-14.7 for the US aircraft industry. In addition, for aircraft and photocopying equipment, the lift off is rather bumpy: there are years of no growth or even negative growth.
For companies in the industry, this is the time when funds are very difficult to find. Purchases of manufacturing fixed assets, set-up costs and promotional efforts drain the company of its free cash. Because of high commercial risk issuing bonds or borrowing from banks is out of the question. A firm may also have a negative net working capital, because receivables are non-existent and inventory has not been build up, while use of trade credit and postponing payment on as many expenses as possible have swollen current liabilities. This implies that quick and current ratios are in the lowest range of any industry. The only funds that can be hoped for are equity funds from venture capital, but these investors require a larger share of control than their actual contribution to capital represents. Clearly this a speculative investment. The attraction of such stock is entirely in a rapid sales growth expectation in the near future. Should that not happen soon enough, disillusioned investors may sell off their holding or anticipate a complete write-off. With such attitudes, the market stock price will plummet, and the firm will have even more difficulty in attracting investors. If sales do not pick up eventually and new equity money cannot be found the firm may have to close down.
A similar scenario can depict a new product introduction by a company that has already other successful and stable product lines. The new product is looked upon as a separate project and evaluated (with NPV methods discussed in Chapter 3 Section G-1) with the same critical judgment as a venture capital investor. The difference is that, naturally, the capital is not withdrawn until there is definitely no chance of sales growth, and also the funding is not as difficult to obtain. Being part of a large firm, a project has, therefore, much better chances of surviving through the introduction phase. This explains why most inventors seek large corporations to produce and market their inventions. Thus, failure rate in the introduction phase is especially high if a firm is very small (i.e. has no corporate support), was initially grossly undercapitalized, and the manufacturing process or the marketing require funds that the small company cannot find. For example, before his successful company started in 1903, Henry Ford had started a company in 1989 that failed, and another one in 1901, that also failed.
But, if being without corporate support is clearly difficult, it is also more rewarding to the inventor that succeeds. In industries where manufacturing and marketing do not require large outlays, the company can overcome even long periods of product introduction. This is the case of software developers or other service sectors where intellectual property is the crucial and largest outlay. For an entirely new line of products (such as software), the number of market participants can very large; this is an additional difficulty because competitors take away potential clients. Occasionally, the large number of participants can become and advantage because competitors also teach potential clients the merits of industry products in general. Large number of firms can be observed even in some industry that require large initial injections of money, such as automobile industry. In the early 1900's, there were over 485 new firms created to manufacture and sell cars in the United States alone.
See review questions Q-14B2.1 through Q-14B2.7
See research assignment R-14B2.1 and R-14B2.2.
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