The concept of the “Value Chain” has significantly evolved since Michael E. Porter’s theory on “Value Chain Analysis.” Whereas Porter’s analysis looked at optimizing the vertical flow of activities in the confines of the enterprise, it initially evolved to also comprise activities of firms upstream (suppliers) and downstream (channels), which, when optimized within this broader context, contribute to an increase of value creation.
The “Value Chain” concept referred to in the VXTConsulting approach goes further beyond that. Instead of limiting our view to the production, realization and delivery of our clients’ products and services, we expand the azimuth to 360o to also address optimization and value creation opportunities from the manner in which their products and services fit in with the customers’ solutions. In other words, our value chain definition is comprised of the verticals of all the elements contributing to the customer solution.
Customer value is the sum of all tangible and intangible benefits, direct and indirect, derived from a vendor relationship. These benefits result in either cost savings or increases in profitable revenue generation for customers. We have identified five general areas where customers derive value from their relationships with vendors and suppliers:
1. Intrinsic product and service attributes and platform characteristics
2. Learning, knowledge and information transfer, and solution development
3. Acquisition/purchasing and decision making processes
4. Supplier capability, consistency and dependability
5. Nature of the relationship/business model
Value chain management aims for our clients to unleash maximum value for their customers in all these areas in order to optimize the overall customer solution.
Value chain management means: taking control over all the variables that ultimately lead to maximizing the value of the customer solution, both in terms of its overall performance and cost. To do that effectively, the firm must implement a coordinated effort to manage five critical keystones of their competitive strategy:
1. Customer value
2. Functional and operational performance
3. Core competency and focus
4. Strategic relationship management
5. Network and collaborative management systems
Properly directing the strategic initiatives in these areas will not only result in superior customer value achievement, but also in superior competitive performance.
The difference lays both in the nature and the scope of these management techniques.
Supply chain management focuses on optimizing logistical and capacity issues. Though strategically important, specifically for managing and controlling manufacturing, inventory levels, and shipping activities, its use is limited to addressing operational process issues of how products and services flow downstream (even though triggering mechanisms often are linked to some ‘demand chain’ management system).
Value chain management draws on supply chain and demand chain management capabilities for improving the operational performance of firms, but its primary focus lays in capturing essential strategic elements of the performance and efficiency of their customers’ solutions in order to bolster their own competitive advantage. Firms do not require supply chain management systems to effectively garner the benefits of the value chain management approach.
Value chain management is advantageous for all firms, in all industries, sectors (services, manufacturing and distribution), customer segment (consumer, enterprise and wholesale) and in all types of competitive environments (even in lesser competitive environments, companies using this approach can further increase entry barriers).
Based on an analysis of the competitive characteristics of our target industries, we found that value chain management becomes increasingly more compelling for firms in competitive environments as a function of the following circumstances or trends:
Ø Rising degree of complexity of the customer solution integration and/or management
Ø Rising number of components going into the solution as well as their modularity
Ø Increase in substitutability of customer solutions or of components within solutions
Ø Length of the value chain and number of intermediaries or length of the value chain and number of intermediaries of competitors and substitute solution providers
Ø Number of competitors and substitutes, offer varieties and customer segments
Ø Size of competitors, substitute offer providers and other firms in the value chain
Ø Market/segment growth potential and attractiveness (high) and entry barriers (low)
Ø Degree of competition within the industry and specialization of product or service
Value chain management aims at maximizing customer value at the overall lowest possible cost. Understand that a firm’s cost structures may change; some increase in activities in one area may occur, but then is offset by significantly larger gains from cost savings or effective customer value appreciation.
Fostering effective operational processes throughout the value chain, supported by strong strategic relationship with partners, suppliers, vendors and channel members is arguably the most difficult competitive advantage to emulate.
It’s with these objectives in mind that, in the mid-90’s, Caterpillar formed powerful relationships with its dealer network (independently owned outlets). Through these relationships, Caterpillar became much more proactive to its customers’ needs than Komatsu, its Japanese competitor that trumped the industry just a decade earlier. Caterpillar implemented a global management system linking its entire distributor network that formed in essence the largest collaborative management system of its industry. Customers have come to depend on it for timely and efficient maintenance, repairs, parts replacement, product upgrades and recalls, and even new product developments. Caterpillar produces superior value for its customers, yet remains very cost competitive.
In the late nineties, using its relationships and systems infrastructure as a springboard, Caterpillar embarked on a truly unique mission. All Caterpillar equipment is set to be equipped with self-diagnostic sensor technology allowing the company to monitor on a continuous basis the operating fleet worldwide. As diagnostic information is fed into global inventory management systems, it automatically generates part and service orders where necessary, and maintenance crews are being dispatched ahead of the actual equipment failure. When you’re in the mountainous parts of Chile and your operations depend on a crane to excavate $100,000 of copper ore a day and your workers cost you $20 to $50 an hour, this is the level of service that you want.
Caterpillar invested $250 million in this system, not including the investments made by its distributors, but saves about as much each year in optimizing the $2 billion inventory, owned by Caterpillar and its distributors, as well as numerous other saving relating to the infrastructure and the management of their service and repair activities. At the same time, customers accomplish significant savings from reducing equipment down time by 20% to 30% and from the improved and shortened technician interventions as diagnosis no longer needs to be performed by the technician and that the technical problems do not have the opportunity to escalate. It’s a win-win situation overall in the value chain.
Competitive positioning is assorting your offer with specific characteristics in order to then target specific market segments responsive to that offer. Characteristics can be cost, product and service features, and quality, amongst others.
Traditional positioning strategies (Porter) are:
Ø Cost leadership
Ø Product or service differentiation
Ø Focus (market specific which can be cost focus or differentiation focus)
Whereas Porter recommended that companies not mitigate their strategies, value chain management affords companies to be more creative and versatile with respect to their competitive positioning strategies. It provides numerous opportunities to effectively diversify the firm’s offerings so as to meet customers’ different needs. It also ensures great advantages to control cost structures, increase optimization and leverage opportunities for achieving significant synergy and economies of scale.
Whether at first the firm opts for a cost-, a differentiation-, or a focus- positioning strategy, value chain management allows it to effectively achieve many of the objectives across the spectrum of options, hence improving its overall competitive advantage from different angles all at once. Furthermore, value chain management brings about opportunities to compete in other market segments, hence improving the firm’s growth prospects as well.
Value chain management improves the overall effectiveness of a firm’s business model. It helps recognize where a business model is sub-optimal due to broken, revolute, or inefficient business processes.
However, to be cautious in answering this question, we should distinguish within this definition how business is conducted versus how revenues are collected.
In the latter case, value chain management reveals original and innovative alternative financial flows that firms can capitalize on. This is especially significant when dealing with the launch of a brand new product or service, or when entering a market as a new competitor. Value chain management also promotes fair distribution of financial flows (revenues, profits, investments and expense) amongst value chain members (suppliers, vendors, partners, channels, etc.). Otherwise, for commonly adopted financial flow models, value chain management tends to reinforce a firm’s position and protects it from pricing wars, as long as the customer value they produce is real (measurable), effective (properly targeted) and exceeds the price differential.
In the former case, the implications are often more dramatic. It may involve a change of focus, a difference in processes and organizational alignments and, in terms of strategic relationships, a drastic overhaul of attitude. On the other hand, these same relationships also provide a significant competitive advantage, not only because of the many tangible and intangible benefits a firm can derive from them, but because most certainly those revamped business models are what is possibly the most difficult aspect of the business to emulate.
Firms have options and can choose to accomplish almost any objective they set for themselves. Creating more customer value is just on of them. Depending on the firm’s characteristics (capabilities, maturity, etc), options to increase customer value may vary. The discipline or method to succeed however, almost never does.
We recommend to our clients that first and foremost they search for answers by investigating their customers’ value chains. In there lay many opportunities to effectively improve upon product and service offerings. Then a comprehensive review of functions and operations is in order to develop strategic alternatives to address both their strengths, which need to be leveraged, and their weaknesses, which need to be dealt with.
When capabilities, efficiency and effectiveness can’t be resolved from within, we suggest that solutions be sought in the value chain. NTT of Japan has adopted that approach and stated: “We will continue creating new business models to provide to our customers and helping them design new lifestyles by forging partnerships. For the benefit of our customers, we will be open and pro-active about bringing together knowledge and know-how: we will bring in business partners from outside the company, and even outside the country, instead of trying to do everything in-house.”
In proceeding this way, NTT simultaneously increased its commitment to strengthening its core competencies. This is also what we advise our clients to do. Competency focus affords a firm higher level of performance as well as a much stronger foothold to enter, develop, and manage strategic relationships effectively.
Furthermore, in order to support, manage and leverage value chain management plans, we advocate that firms deploy both change management programs and collaborative management systems. On these subjects, NTT’s objectives for 2002 were outlined as such: “We will realize our vision by closely linking corporate change programs to customer value creation,” and “we will realize corporate-wide cost reductions, process efficiency and optimization by focusing on IT innovation.”
In concluding on this question, please bear in mind that value chain management promotes value creation for other stakeholders as well, not just customers. Value chain management also seeks to create value for partners: NTT’s perspective being that “[They] and [their] business partners can help improve each other, resulting in a win-win relationship and growth”; value for shareholders (through improved efficiency, effectiveness and resisting price erosion from increased customer value, the firm gets to retain a greater portion of the value created) and employees (job enrichment, satisfaction, growth, bonus and stability).
No, value chain management seeks to improve efficiency and effectiveness and, in the process, attain a higher level of value creation. It does not promote building-on new infrastructure and functionality within the firm, lest it was absent before and it is assessed to be the most viable economic alternative.
Cost structures of the firm or the value chain may change however; one area of activities may require additional resources but are then largely offset by productivity or efficiency gains in another or by increases in revenues when customers have acknowledged their willingness to pay for the increase in value they derive from the vendor relationship.
The premise of value chain management is to provide firms with a sustainable competitive advantage. This competitive advantage is obtained when customers perceive that the overall effective value of a firm’s offer exceeds its price. This is entirely independent of the relative price point itself. How a firm chooses to pass on a portion of the incremental value it generates (solution or savings –both customer value elements) is a function of its strategic positioning choices. Yet, we believe that in highly competitive environments, firms will learn to address both objectives in a highly versatile and increasingly complex environment.
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