Value Chain Analysis for Assessing Competitive Advantage
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Statements on Management Accounting PRACTICE OF MANAGEMENT ACCOUNTING TITLE Value Chain Analysis for Assessing Competitive Advantage CREDITS This statement was approved for issuance as a Special thanks are due to Randoif Holst, SMAC Statement on Management Accounting by the Manager, Management Accounting Guidelines, for his Management Accounting Committee (MAC) of the continuing project supervision and to the members of Institute of Management Accountants (IMA). IMA appre- the focus group (including MAC members Dennis Daly ciates the support of The Society of Management and Thomas Huff) for contributing to the improvement Accountants of Canada (SMAC) in helping create this of the final document. SMA and extends appreciation to Joseph G. San Miguel, of the Naval Postgraduate School, who drafted the manuscript. Published by Copyright © 1996 Institute of Management Accountants Institute of Management Accountants 10 Paragon Drive All rights reserved Montvale, NJ 07645-1760 www.imanet.org Statements on Management Accounting PRACTICE OF MANAGEMENT ACCOUNTING Value Chain Analysis for Assessing Competitive Advantage TABLE OF CONTENTS I. Rationale . 1 Exhibits II. Scope . 1 Exhibit 1: The Value Chain . .3 III. The Value Chain Defined . .1 Exhibit 2: Competitive Advantage Through IV. Competitive Advantage and Low Cost and/or Differentiation . .4 Customer Value . .2 Exhibit 3: Process Cost Drivers . .8 V. The Role of the Management Exhibit 4: Competitor Cost Analysis . .10 Accountant . .4 Exhibit 5: Value Chain for Crown, Cork VI. The Value Chain Approach for and Seal Company . .12 Assessing Competitive Advantage . .5 Exhibit 6: Vertical Linkages in the Production Internal Cost Analysis . .5 of Plastic Food Containers . .13 Internal Differentiation Analysis . .10 Exhibit 7: Value Chain Differences: The Vertical Linkage Analysis . .13 Telecommunications Industry . .16 VII. Strategic Frameworks for Exhibit 8: How Tetra-Pak Reconfigured Value Chain Analysis . .17 the Value Chain . .21 Industry Structure Analysis . .18 Exhibit 9: How IKEA Reconfigured the Core Competencies Analysis . .19 Furniture Industry . .22 Segmentation Analysis . .22 Exhibit 10: Approaches to Defining Segmentation Variables . .24 VIII. Limitations of Value Chain Analysis . .26 Exhibit 11: Segmenting the British IX. Organizational and Managerial Frozen Food Industry . .25 Accounting Challenges . .27 Exhibit A-1: Value Chain vs. Conventional X. Conclusion . .28 Management Accounting . .30 Appendix – Value Chain Analysis vs. Conventional Management Accounting Bibliography PRACTICE OF MANAGEMENT ACCOUNTING I. RATIONALE G appreciate the organizational and managerial Competitive advantage for a company means not accounting challenges. just matching or surpassing what competitors can do, but discovering what customers want and III. THE VALUE CHAIN DEFINED then profitably satisfying, and even exceeding, The idea of a value chain was first suggested by their expectations. As barriers to interregional Michael Porter (1985) to depict how customer and international trade have diminished and as value accumulates along a chain of activities access to goods and services has grown, that lead to an end product or service. customers can locate and acquire the best of what they want, at an acceptable price, wherever Porter describes the value chain as the internal it is in the world. Under growing competition and, processes or activities a company performs “to hence, rising customer expectations, a company’s design, produce, market, deliver and support its penalty for complacency becomes even greater. product.” He further states that “a firm’s value chain and the way it performs individual activities A strategic tool to measure the importance of are a reflection of its history, its strategy, its the customer’s perceived value is value chain approach to implementing its strategy, and the analysis. By enabling companies to determine underlying economics of the activities themselves.” the strategic advantages and disadvantages of their activities and value-creating processes in Porter describes two major categories of busi- the marketplace, value chain analysis becomes ness activities: primary activities and support essential for assessing competitive advantage. activities. Primary activities are directly involved in transforming inputs into outputs and in delivery II. SCOPE and after-sales support. These are generally also This guideline is addressed to managers, and the line activities of the organization. They more specifically to management accountants, include: who may lead efforts to implement value chain analysis in their organizations. G inbound logistics—material handling and warehousing; The concepts, tools and techniques presented G operations—transforming inputs into the final apply to all organizations that produce and sell a product; product or provide a service. G outbound logistics—order processing and dis- tribution; This guideline will help readers to: G marketing and sales—communication, pricing and channel management; and G link value chain analysis to organizational G service—installation, repair and parts. goals, strategies and objectives; G broaden management awareness about value chain analysis; G understand the value chain approach for assessing competitive advantage; G comprehend useful strategic frameworks for value chain analysis; and 1 PRACTICE OF MANAGEMENT ACCOUNTING Support activities support primary activities and IV.COMPETITIVE ADVANTAGE other support activities. They are handled by the AND CUSTOMER VALUE organization’s staff functions and include: In order to survive and prosper in an industry, firms must meet two criteria: they must supply G procurement—purchasing of raw materials, what customers want to buy, and they must supplies and other consumable items as well survive competition. A firm’s overall competitive as assets; advantage derives from the difference between G technology developmen—know-how, procedures the value it offers to customers and its cost of and technological inputs needed in every value creating that customer value. chain activity; G human resource management—selection, Competitive advantage in regard to products and promotion and placement; appraisal; rewards; services takes two possible forms. The first is an management development; and labor/employee offering or differentiation advantage. If customers relations; and perceive a product or service as superior, they G firm infrastructure—general management, become more willing to pay a premium price planning, finance, accounting, legal, government relative to the price they will pay for competing affairs and quality management. offerings. The second is a relative low-cost advantage, which customers gain when a John Shank and V. Govindarajan (1993) describe company’s total costs undercut those of its the value chain in broader terms than does average competitor. Porter. They state that “the value chain for any firm is the value-creating activities all the way from basic raw material sources from component Differentiation Advantage suppliers through to the ultimate end-use product A differentiation advantage occurs when customers delivered into the final consumers hands.” This perceive that a business unit’s product offering description views the firm as part of an overall (defined to include all attributes relevant to the chain of value-creating processes. buying decision) is of higher quality, incurs fewer risks and/or outperforms competing product According to Shank and Govindarajan, the industry offerings. For example, differentiation may include value chain starts with the value-creating a firm’s ability to deliver goods and services in a processes of suppliers, who provide the basic timely manner, to produce better quality, to offer raw materials and components. It continues with the customer a wider range of goods and services, the value-creating processes of different classes and other factors that provide unique customer of buyers or end-use consumers, and culminates value. in the disposal and recycling of materials. Once a company has successfully differentiated The industry value chain and the value chain its offering, management may exploit the advan- activities within the firm are compared in Exhibit 1. tage in one of two ways: increase price until it just offsets the improvement in customer benefits, thus maintaining current market share; or price below the “full premium” level in order to build market share. 2 PRACTICE OF MANAGEMENT ACCOUNTING EXHIBIT 1: THE VALUE CHAIN EXHIBIT 1. THE VALUE CHAIN Industry Value Chain Activities Value Chain within the Firm Primary Support Activities Activities R&D n Supplier Value Chain Procurement e Chai e Valu Design th Firm Z XY Value Chain Technology ughout Development Thro Production ins Distribution Human arg Value Chain Resource it M Management rof Marketing for P ys Buyer Value Chain Firm r Pa Infrastructure Distribution onsume Disposal/ se C Recycle Value Chain End-U Service Low-Cost Advantage Many sources of cost advantage exist: access A firm enjoys a relative cost advantage if its total to low-cost raw materials; innovative process costs are lower than the market average. ThisSource:technolog y; low-cost access to distribution relative cost advantage enables a business to channels or customers: and superior operating do one of two things: price its product or service management. A company might also gain a lower than its competitors in order to gain market relative cost advantage by exploiting economies share and still