This article explains the value chain also known as value chain analysis by Michael Porter in a practical way. After reading you will understand the basics of this powerful management tool.
- What is a value chain model?
- Porter’s Value Chain Analysis
- The Value chain activities
- Support activities of the value chain analysis
- Using the value chain analysis
What is a value chain model?
The value chain also known as value chain analysis is a business management concept that was developed by Michael Porter. In his book Competitive Advantage (1985) Michael Porter explains value chain analysis; that a value chain is a collection of activities that are performed by a company to create value for its customers. Value creation creates added value which leads to competitive advantage. Ultimately, added value also creates a higher profitability for an organization.
Porter’s Value Chain Analysis
The strength of the value chain analysis is its approach. This value chain analysis focuses on the systems and activities with customers as the central principle rather than on departments and accounting expense categories. This system links systems and activities to each other and demonstrates what effect this has on costs and profit. Consequently, it (value chain analysis) makes clear where the sources of value and loss amounts can be found in the organization.
The Value chain activities
The value chain analysis consists of a number of activities, namely primary activities and support activities. Primary activities have an immediate effect on the production, maintenance, sales and support of the products or services to be supplied. These activities consist of the following elements:
These are all processes that are involved in the receiving, storing, and internal distribution of the raw materials or basic ingredients of a product or service. The relationship with the suppliers is essential to the creation of value in this matter.
These are all the activities (for example production floor or production line) that convert inputs of products or services into semi-finished or finished products. Operational systems are the guiding principle for the creation of value.
These are all activities that are related to delivering the products and services to the customer. These include, for instance, storage, distribution (systems) and transport.
Marketing & sales
These are all processes related to putting the products and services in the markets including managing and generating customer relationships. The guiding principles are setting oneself apart from the competition and creating advantages for the customer.
This includes all activities that maintain the value of the products or service to customers as soon as a relationship has developed based on the procurement of services and products.
Support activities of the value chain analysis
Support activities assist the primary activities and they form the basis of any organization. In the figure dotted lines represent linkages between a support activity and a primary activity. A support activity such as human resource management for example is of importance within the primary activity operation but also supports other activities such as service and outbound logistics.
This concerns the support activities within the organization that enable the organization to maintain its daily operations. Line management, administrative handling, financial management are examples of activities that create value for the organization.
Human resource management
This includes the support activities in which the development of the workforce within an organization is the key element. Examples of activities are recruiting staff, training and coaching of staff and compensating and retaining staff.
These activities relate to the development of the products and services of the organization, both internally and externally. Examples are IT, technological innovations and improvements and the development of new products based on new technologies. These activities create value using innovation and optimization.
These are all the support activities related to procurement to service the customer from the organization. Examples of activities are entering into and managing relationships with suppliers, negotiating to arrive at the best prices, making product purchase agreements with suppliers and outsourcing agreements.
Organizations use primary and support activities as building blocks to create valuable products, services and distinctiveness.
Using the value chain analysis
Value chain analysis: There are four basic steps that have to be followed if you wish to use the Value Chain as an analysis model. By following these basic steps the organization can be analyzed using the Value Chain.
Step 1: identify sub activities for each primary activity
For each primary activity, sub-activities can be determined that create a specific value for an organization. There are three categories of sub activities, namely:
- Direct activities (for instance online sales from Marketing& sales)
- Indirect activities (for instance keeping the CRM up-to-date from Marketing& sales or organizing a golf tournament for customers)
- Quality assurance (Proofreading and editing advertisements from Marketing& sales).
Step 2: identify sub activities for each support activity
Here it concerns the idea how value support activities such as firm infrastructure, human resource management, technology development and procurement can create value within the primary activities. Use the same distinction as in step 1 for direct and indirect activities and quality assurance. For example, consider how human resource management can create value to inbound logistics, marketing & sales and service. This will also have to be done for the other support activities.
This is a crucial and time-consuming step because this is about finding the links between the added value you have identified. This part is of importance for an organization when it concerns increasing competitive advantage from the value chain. For example, a development within a CRM solution can have a link with increasing production and sales volumes through certain investments. Another example is the link between the complaints that have been recorded within the primary activity and the increase of unfilled vacancies (human resource management) within the primary activity outbound logistics.
Step 4: look for opportunities/ solutions to optimize and create value
After you have completed the value chain analysis it is important to determine what activities are to be optimized in order to create added value. This is about quantitative and qualitative investments that can eventually contribute to increasing your customer base, competitive advantage and profitability. Creating business cases will help you give priority and return on investment (ROI) to the possibly required added value creation of a primary or support activity.
- Porter, M. E. (1985). Competitive advantage: creating and sustaining superior performance. Nova.
- Porter, M. E. (2001). The value chain and competitive advantage. Understanding Business Processes, 1st edn. Routledge (November 2000).
- Porter, M. E., & Millar, V. E. (1985). How information gives you competitive advantage.
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