The Value Chain: Does Yours Help You Compete and Win?

A business is a collection of activities performed to design, produce, market, deliver and support its product or service. The purpose of these activities, of course, is to create value for customers.

Value is delivered to customers by helping them lower costs or raise performance. A company earns a profit if the value created, as evidenced by what buyers are willing to pay, exceeds the cost incurred.

Value Activities

Value activities are the building blocks a company uses to create a product or service. Every value activity involves purchased inputs (material, labor, technology).

There are two broad types of value activities - primary and support. Primary activities include physical creation of the product, its sale and transfer, and its after-sale assistance. Support activities buffer primary activities and each other by providing purchased inputs, technology, and human resources.

How each activity is performed is instrumental to your overall strategy. If your strategy is to become the low-cost provider, then each activity must give you a cost advantage. But if your strategy is to deliver superior product performance to a certain type of customer, then each activity should contribute toward your ability to deliver that value. To compete effectively, you must be unique and offer unique value. By constructing your value chain in a way that differs from your competitors, in ways that are meaningful to your customers, you can deliver a uniquely valuable end-product.

The Value Chain

To fully understand the important component inputs that lead to the delivery of value, a firm must be broken down into its component parts. The process for doing so is called "the value chain."

Construction of the value chain of a business enables a deeper understanding of how value is created and delivered, and illuminates opportunities to improve. Each discrete activity performed by a firm can contribute to its relative cost position and/or create a basis for differentiation. A firm gains an advantage over its competitors by performing these strategically important activities more economically or better than the competition. The accompanying Figure 1 shows a generic value chain.

Starting with the generic chain, identify the individual value activities in your firm. Each generic category can be divided into discrete activities. For example, the marketing and sales category can be divided into marketing management, advertising, sales force administration, sales force operations and technical literature and promotion. Figure 2 on the next page shows a fully completed value chain for a copier manufacturer.

As you construct your chain, attempt to identify the activities that have a high potential impact on differentiation or represent a significantly growing proportion of cost. Also, consider alternatives that could add value or reduce cost.

Buyer's Value Chain

Buyers also have value chains. Your company's product represents a purchased input to your customer's chain. Your differentiation stems from how your own value chain relates to that of your customer. It is a function of the way your physical product is used in the particular customer activity in which it is consumed (e.g., a machine used in the assembly process) as well as all the other points of contact between your business' value chain and your customer's chain.

Differentiation is derived by creating unique value for the customer through your impact on your customer's value chain. Each link between your business and your customer can be used to deliver value. But the links most relevant to a particular customer depend on how the supplier's product is actually used by the customer, not necessarily how it is intended to be used.

The Value System

A company's value chain is imbedded in a larger stream of activities that can be referred to as a "value system," as depicted in Figure 3. Suppliers have value chains that create and deliver the purchased inputs used in the customer's value chain. The customer's needs are determined by the customer's own value chain.

Suppliers not only deliver a product but also can influence a customer's performance in many other ways. In addition, a company's products often pass through the value chains of distributors, or resellers (referred to as "channels") on their way to the buyer. Channels perform activities that affect the customer and become a part of the customer's own value chain.

The product's role in the end user's value chain ultimately forms the basis for differentiation. Gaining and sustaining competitive advantage depends on understanding not only a firm's value chain but also how the firm fits in the overall value system.

Linkages

Every business' value chain is composed of nine generic categories of activities. Each of these activities is shown on Figure 1 and includes firm infrastructure, human resources management, technology development, procurement, inbound logistics, operations, outbound logistics, marketing and sales, and service.

Each activity is linked together in characteristic ways called "linkages." Although value activities are the building blocks of competitive advantage, the value chain is not a collection of independent activities but a system of interdependent activities. Value activities are related by linkages within the value chain.

Linkages are relationships between the ways one value activity is performed and the cost or performance of another. For example, purchasing high-quality, precut steel sheets can simplify manufacturing, reduce scrap and improve quality. The ability to coordinate linkages often reduces or enhances differentiation. Better coordination, for example, can reduce the amount of total inventory needed throughout the firm. Identifying linkages is a process of searching for ways in which each value activity can be affected or is affected by others.

Use the value chain and value system concepts as a way to break apart your business to more accurately understand how it creates value. By doing so, the business owner can more clearly identify activities that are critical for delivering value to the customer. This also makes it easier to spot areas for improvement. By better understanding the significant impact that vendors/suppliers and distributors/resellers have through linkages, the business owner can more adeptly coordinate relationships in a manner that helps reduce cost, improve performance, and more fully support efforts to deliver unique value. Finally, by applying the value chain methodology to customers, the business owner can pinpoint all the ways that the firm affects the customer - directly and indirectly. Each area offers opportunity to more fully support the business' value-added proposition to the customer.