VALUE CHAIN ANALYSIS
THE VALUE CHAIN CONCEPT
A Value chain identifies
Activities, functions and business processes that have to be performed in
Designing, producing, marketing, delivering and supporting a product or service
MICHAEL PORTER’s VALUE CHAIN (1985)
THE VALUE SYSTEM
Suppliers value chain
Firm value chain
Channel value chain
Buyer value chain
• Activities directly involved in creating value • Assembly, advertising
• Makes it possible to perform direct activities on continuing basis • Maintenance, scheduling
• Ensures quality of various activities • Monitoring, testing
Behavior of firm`s cost and relative cost position based on value activities the firm performs.
This calls for independent analysis of value activities.
Each value activity has its own cost structure.
Behavior of cost affected by linkages and interrelationship.
VALUE CHAIN AND COST ANALYSIS
Each activity- operating costs & assets in form of fixed and working capital.
Activities separated if:-
• They represent significant or rapidly growing percentage of operating cost. • They have different cost drivers. • It is shared with other business units. • Affected by competitor`s behavior.
COST BEHAVIOR AND DRIVERS
Firm`s cost position results from cost behavior of its value activities
Cost behavior depends a number of structural factors that influence cost-known as cost drivers
MAJOR COST DRIVERS
Managerial control No managerial control
• Economies of scale • Learning • Pattern of capacity utilization • Linkages • Interrelationships • Integration • Timing
• Discretionary policies • Location • Institutional factors.
IDENTIFYING COST ADVANTAGE
A firm has cost advantage if its cumulative cost of performing all value activities is lower than the competitor’s
Sustainability: if the sources of a firm’s cost advantage are difficult for competitors to imitate
A FIRM’S RELATIVE COST POSITION IS A FUNCTION OF:
• The composition of its valuechain versus the competitors’ • Its relative position vis-a-vis the cost drivers of each activity
Two conditions are possible:
1. Competitors’ value chain are
different from that of the firms’
2. Competitors have the same value
activities as the firm
DETERMINING THE RELATIVE COST OF COMPETITORS
First step: identify the competitor’s value chain In order to estimate costs the firm should
employ comparisons between itself & the competitor
Examining several competitors simultaneously Estimate differences in the competitors’ costs
THERE ARE 2 MAJOR WAYS TO GAIN COST ADVANTAGE
Control Cost Drivers
Reconfigure the Value Chain
The two sources are not mutually exclusive Successful cost advantage from multiple sources Aggressively pursue cost reduction in activities that do not influence differentiation
RESULT OF COST ANALYSIS
Help managers in decision making.
To expand activities To narrow company`s participation
Vertical or Horizontal integration
The degree to which a firm owns its upstream suppliers & its
Significant impact on a business’s unit position in its industry with
respect to cost, differentiation and other strategic issues
Expansion of activities downstream is called forward integration
While expansion upstream is called backward integration
Vertical Integration: Starting with textiles in the late seventies, Reliance pursued a strategy of backward vertical integration - in polyester, fiber intermediates, plastics, petrochemicals, petroleum refining and oil and gas exploration and production - to be fully integrated along the materials and energy value chain.
The acquisition of additional business activities at the same level of
the value chain
Horizontal growth can be achieved by internal expansion or by
external expansion through mergers and acquisitions of firms offering similar products and services
A firm may diversify by growing horizontally into unrelated
Reliance Industries (Reliance) absorbing its 70%-
owned Reliance Petroleum (Reliance Petro) is a classic example of horizontal integration
Specialization : As the required service inputs become more specialized, it often becomes Complementarities increasingly difficult for in-house staff to effectively perform the functions
MAJOR INFLUENCES: decision 2 major factors influencing
Economies of scale
if services can be provided as a joint product, enabling better utilization of managerial or other scarce resources.
engaging personnel to provide a service in-house can only be justified if a firm (and, more specifically, certain service-consuming functions within a firm) attains a certain scale or size of operations
Standardization: An increasing standardization of service inputs often enables different tasks to be performed by a single person and Economies of scale also permits tasks to be executed by less-specialized personnel
DIFFERENTIATION AND THE VALUE CHAIN
A differentiation advantage can arise from any part of the value chain. Differentiation stems from uniqueness.
Differentiation often results in greater costs, resulting in tradeoffs between cost and differentiation.
The value chain analysis can assist a manager in making the right decision for his/her enterprise. It is a great tool to improve a company’s performance to meet the ever-demanding environment.