The Value Chain
* A VALUE CHAIN consists of two major types of activities
* PRIMARY ACTIVITIES that create value for customers
* RELATED SUPPORT ACTIVITIES
* Costs of performing each value chain activity can be DRIVEN UP or DOWN by two types of factors
Structural cost drivers
* Scale economies
* Experience curve effects
* Technology requirements
* Capital intensity
* Complexity of product line
Executional cost drivers
* Commitment of work force to continuous improvement
* Attitudes & capabilities regarding quality
* Cycle time in getting new products to market
* Utilization of existing capacity
* Whether internal business processes are efficiently designed & executed
* How efficiently firm works with suppliers and/or customers to reduce costs
Keys to understanding a company's cost structure
* Whether firm is trying to achieve a competitive advantage based on
o Lower costs or
o Differentiation
* How costs in one value chain activity spill over to affect costs of others
* Whether linkages among activities in value chain present opportunities for cost reduction
The value chain system
* COST COMPETITIVENESS depends on
o Costs of internally performed activities
o Costs in value chains of suppliers & forward channel allies
* Assessing firm’s COMPETITIVENESS requires knowledge of value chain system
o Firm’s own value chain
o Value chains of suppliers
o Value chains of forward channel allies
SUPPLIERS’ value chains matter
o Suppliers incur costs in creating & delivering inputs used in firm’s value chain
o Cost & quality of inputs influence firm’s cost and/or differentiation capabilities
FORWARD CHANNEL value chains matter
o Costs & margins of downstream firms are part of price paid by ultimate end-user
o Activities channel allies perform affect satisfaction of end-user
Example value chain activities:
Timber farming > Logging > Pulp mills > Papermaking > Printing & publishing > PULP & PAPER INDUSTRY
Benchamarking
* Benchmarking performance of a firm’s activities against rivals & best practice firms provides evidence of firm’s cost competitiveness
* Benchmarking is an excellent tool to determine
o If costs are in line with competitors
o Which business processes need to be scrutinized for improvement
o Which firms perform a given activity best
Focuses on CROSS-COMPANY comparisons of how well activities are performed
* Purchase of materials
* Payment of suppliers
* Management of inventories
* Training of employees
* Processing of payrolls
* Getting new products to market
* Performance of quality control
* Filling & shipping of customer orders
KEY POINT: A firm’s COMPETITIVENESS depends on how well it manages its VALUE CHAIN relative to competitors
Three areas in firm’s value chain contributes to cost differences compared to rivals
* 1. SUPPLIERS’ activities
* 2. Firm’s INTERNAL activities
* 3. FORWARD channel activities
Correcting supplier related cost disadvantage
* Negotiate more favorable prices with suppliers
* Work with suppliers to help them achieve lower costs
* Integrate backward
* Use lower-priced substitute inputs
* Do a better job of managing linkages between suppliers’ value chains & firm’s own chain
* Try to make up difference by initiating cost savings in other areas of value chain
Correcting forward channel cost disadvantage
* Push for more favorable terms with distributors & other forward channel allies
* Work closely with forward channel allies & customers to identify win-win opportunities to reduce costs
* Change to a more economical distribution strategy
* Try to make up difference by initiating cost savings earlier in value chain
Correcting Internal cost disadvantages
* Initiate internal budget reductions
* Re-engineer business processes to do better job of managing executional cost drivers
* Try to eliminate some cost-producing activities by revamping value chain system
* Relocate high-cost activities to lower-cost geographic areas
* See if certain activities can be outsourced or performed cheaper by contractors
* Invest in cost-saving technological improvements
* Innovate around troublesome cost components
* Simplify product design to achieve cost reduction
* Try to make up difference by achieving savings in other areas of value chain system
KEY POINT: Value chain analysis is a powerful managerial tool for identifying which activities have COMPETITIVE ADVANTAGE potential
Competitive Edge is based on ability to:
* Perform competitively crucial activities along value chain better than rivals
Diagnosing competitive capabilities involves
* Construct a value chain of firm’s activities
* Examine linkages among internally performed activities & linkages with suppliers’ & customers’ chains
* Identify activities & competencies critical to customer satisfaction & market success
* Make appropriate internal & external benchmarking comparisons to determine
o How well firm performs activities
o How cost structure compares with rivals
* PRIMARY ACTIVITIES that create value for customers
* RELATED SUPPORT ACTIVITIES
* Costs of performing each value chain activity can be DRIVEN UP or DOWN by two types of factors
Structural cost drivers
* Scale economies
* Experience curve effects
* Technology requirements
* Capital intensity
* Complexity of product line
Executional cost drivers
* Commitment of work force to continuous improvement
* Attitudes & capabilities regarding quality
* Cycle time in getting new products to market
* Utilization of existing capacity
* Whether internal business processes are efficiently designed & executed
* How efficiently firm works with suppliers and/or customers to reduce costs
Keys to understanding a company's cost structure
* Whether firm is trying to achieve a competitive advantage based on
o Lower costs or
o Differentiation
* How costs in one value chain activity spill over to affect costs of others
* Whether linkages among activities in value chain present opportunities for cost reduction
The value chain system
* COST COMPETITIVENESS depends on
o Costs of internally performed activities
o Costs in value chains of suppliers & forward channel allies
* Assessing firm’s COMPETITIVENESS requires knowledge of value chain system
o Firm’s own value chain
o Value chains of suppliers
o Value chains of forward channel allies
SUPPLIERS’ value chains matter
o Suppliers incur costs in creating & delivering inputs used in firm’s value chain
o Cost & quality of inputs influence firm’s cost and/or differentiation capabilities
FORWARD CHANNEL value chains matter
o Costs & margins of downstream firms are part of price paid by ultimate end-user
o Activities channel allies perform affect satisfaction of end-user
Example value chain activities:
Timber farming > Logging > Pulp mills > Papermaking > Printing & publishing > PULP & PAPER INDUSTRY
Benchamarking
* Benchmarking performance of a firm’s activities against rivals & best practice firms provides evidence of firm’s cost competitiveness
* Benchmarking is an excellent tool to determine
o If costs are in line with competitors
o Which business processes need to be scrutinized for improvement
o Which firms perform a given activity best
Focuses on CROSS-COMPANY comparisons of how well activities are performed
* Purchase of materials
* Payment of suppliers
* Management of inventories
* Training of employees
* Processing of payrolls
* Getting new products to market
* Performance of quality control
* Filling & shipping of customer orders
KEY POINT: A firm’s COMPETITIVENESS depends on how well it manages its VALUE CHAIN relative to competitors
Three areas in firm’s value chain contributes to cost differences compared to rivals
* 1. SUPPLIERS’ activities
* 2. Firm’s INTERNAL activities
* 3. FORWARD channel activities
Correcting supplier related cost disadvantage
* Negotiate more favorable prices with suppliers
* Work with suppliers to help them achieve lower costs
* Integrate backward
* Use lower-priced substitute inputs
* Do a better job of managing linkages between suppliers’ value chains & firm’s own chain
* Try to make up difference by initiating cost savings in other areas of value chain
Correcting forward channel cost disadvantage
* Push for more favorable terms with distributors & other forward channel allies
* Work closely with forward channel allies & customers to identify win-win opportunities to reduce costs
* Change to a more economical distribution strategy
* Try to make up difference by initiating cost savings earlier in value chain
Correcting Internal cost disadvantages
* Initiate internal budget reductions
* Re-engineer business processes to do better job of managing executional cost drivers
* Try to eliminate some cost-producing activities by revamping value chain system
* Relocate high-cost activities to lower-cost geographic areas
* See if certain activities can be outsourced or performed cheaper by contractors
* Invest in cost-saving technological improvements
* Innovate around troublesome cost components
* Simplify product design to achieve cost reduction
* Try to make up difference by achieving savings in other areas of value chain system
KEY POINT: Value chain analysis is a powerful managerial tool for identifying which activities have COMPETITIVE ADVANTAGE potential
Competitive Edge is based on ability to:
* Perform competitively crucial activities along value chain better than rivals
Diagnosing competitive capabilities involves
* Construct a value chain of firm’s activities
* Examine linkages among internally performed activities & linkages with suppliers’ & customers’ chains
* Identify activities & competencies critical to customer satisfaction & market success
* Make appropriate internal & external benchmarking comparisons to determine
o How well firm performs activities
o How cost structure compares with rivals
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