Product Life Cycle Theory

Products Life Cycle Theory

Products Life Cycle Theory, which originated in the marketing field to describe the evolution of marketing strategies as a products mature, is a second firm-based theory of international trade( and, as we will see, of international investment). As developed in the 1960s by Raymond Vernon of the Harvard Business School, international products life cycle theory traces the roles of innovation, market expansion, comparative advantage and strategic responses of global rivals in international production, trade and investment decisions. According to Vernon’s theory, and as illustrated in Figure 6.4, the international products life cycle consists of three stages : new products, maturing products and standardized product.

In stage1, the new product stage, a firm develops and introduces an innovative product, such as a photocopier or a personal computer in response to a perceived need in the domestic market. Because the products is new, the innovating firm is uncertain whether a profitable market for the product exists. The firm’s marketing executives must closely monitor customer reactions to ensure that the new products satisfies consumer needs. Quick markets feedback is important, so the product is likely to be initially produced in the country where its research and development occurred, typically a develop country such as Japan, Germany or the United States. Further, because the market sixe also is uncertain, the firm usually will minimize its investment in manufacturing capacity for the product. Most output initially is sold in the domestic market and exports sales are limited.

For example, during the early days of the personal computer industry the small producers that populated the industry had their hands full trying to meet the burgeoning demand for their product. Apple Computer typified this problem. Founded on April Fool’s Day in 1976 , its initial assembly plant was located in the garage of cofounder Steve Jobs. The first  large order for its homemade computers- 50 units from a local computer hobby-its store- almost bankrupted the firm because it lacked the financing to buy the necessary parts. Apple survived because of the nurturing environment in which it was born, California’s Silicon Valley. Home to major electronics firm such as Hewlett- Packard, Intel, and National Semiconductor, Silicon Valley was full of electrical engineers who could design and buils Apple’s products and venture capitalist who were seeking the ‘next Xeroz’. It was the perfect locale for Apple’s sales to grow from zero in 1976 to $7.8 million in 1978 and $24.0 billion in 2007.

In stage 2, the maturing products stage, demand for the product expands dramatically as consumers recognize its value. The innovating firm builds new factories to expand its capacity and satisfy domestic and foreign demand for the products. Domestic and foreign competitors begin to emerge, lured by the prospect of lucrative earnings. In the case of Apple, the firm introduced a hand-assembled version of its second model, the Apple II, at San Francisco computer fair in the spring 1977. Within three years Apple has sold 130,000 units and expanded its production facilities beyond Job’s garage. To serve domestic and foreign customers, Apple II’s were manufactured in California and Texas distributed from warehouse in the United States and Netherlands.

 

 

In stage 3, the standardized product stage, the market for the product stabilizes. The product becomes more of a commodity, and firms are pressured to lower their manufacturing costs as much as possible by shifting production to facilities in countries with low labor cots. As a result, the product begin to be imported into the innovating firm’s home market ( by either the firm or its competitors). In some cases, imports may result in the complete elimination of domestic production.

 The personal computer industry has entered the standardized products stage. In the U.S market low priced brand-name imports from producers such as South Korea’s Hyundai and Samsung and China’s Lenovo have threatened the more established U.S manufacturers. Taiwanese manufacturers such as Asustek, Tatung, Mitac International, and First International-none of them household names in the United States- annually export to the United States and to other countries millions of personal computers, many of which are produced under contract for foreign distributors. To meet the challengers of these new competitors and to price its products more competitively, Apple simplified its product line , expanded its use of industry-standard parts, outsourced the manufacture of many components and streamlined its warehousing operations. Despite these efforts, domestic and foreign competitors ate away at Apple’s markets share and profit margins, and the company has long been relegated to a niche player in the industry it pioneered.

According to the international product life cycle theory, domestic production begins  in the stage 1, peaks in stage 2, and slumps in the stage 3. Exports by the innovating firms country also begin in the stage 1 and peak in the stage 2. By stage 3, however, the innovating firm’s country becomes a net importer of the product. Foreign competition begins to emerge towards the end stage 1, as firms in other industrialized countries recongnize the product’s market potential. In stage 2, foreign  competitors expand their productive capacity, thus servicing potential. In stage 2, however, the innovating firm and its domestic and foreign rivals seek to lower their production cost by shifting production to low-cost sites in less develop countries. Eventually, in stage 3, the less develop countries may become net exporters of the products.