A value chain is a business model that describes the full range of activities needed to create a product or service. For companies that produce goods, a value chain comprises the steps that involve bringing a product from conception to distribution, and everything in between—such as procuring raw materials, manufacturing functions, and marketing activities.
A company conducts a value-chain analysis by evaluating the detailed procedures involved in each step of its business. The purpose of value-chain analyses is to increase production efficiency so that a company may deliver maximum value for the least possible cost.
Components of a Value Chain
In his concept of a value chain, Porter splits a business’s activities into two categories, “primary” and “support,” whose sample activities we list below. Specific activities in each category will vary according to the industry.
Primary activities consist of five components, and all are essential for adding value and creating a competitive advantage:
(i) Inbound logistics
Functions like receiving, warehousing, and managing inventory.
Procedures for converting raw materials into finished product.
(iii) Outbound logistics
Activities to distribute a final product to a consumer.
(iv) Marketing and sales
Strategies to enhance visibility and target appropriate customers—such as advertising, promotion, and pricing.
Programs to maintain products and enhance consumer experience—customer service, maintenance, repair, refund, and exchange.
The role of support activities is to help make the primary activities more efficient. When you increase the efficiency of any of the four support activities, it benefits at least one of the five primary activities. These support activities are generally denoted as overhead costs on a company’s income statement:
How a company obtains raw materials.
(ii) Technological development
Used at a firm’s research and development (R&D) stage—designing and developing manufacturing techniques; and automating processes.
(iii) Human resources (HR) management
Hiring and retaining employees who will fulfill business strategy; and help design, market, and sell the product.
Company systems; and composition of its management team—planning, accounting, finance, and quality control.
VALUE CHAIN PROCESS
Step 1 – Identify subactivities for each primary activity
For each primary activity, determine which specific subactivities create value. There are three different types of subactivities:-
(i) Direct activities: Create value by themselves. For example, in a book publisher’s marketing and sales activity, direct subactivities include making sales calls to bookstores, advertising, and selling online.
(ii) Indirect activities: Allow direct activities to run smoothly. For the book publisher’s sales and marketing activity, indirect subactivities include managing the sales force and keeping customer records.
(iii) Quality assurance: Activities ensure that direct and indirect activities meet the necessary standards. For the book publisher’s sales and marketing activity, this might include proofreading and editing advertisements.
Step 2 – Identify subactivities for each support activity.
For each of the Human Resource Management, Technology Development and Procurement support activities, determine the subactivities that create value within each primary activity. For example, consider how human resource management adds value to inbound logistics, operations, outbound logistics, and so on. As in Step 1, look for direct, indirect, and quality assurance subactivities.
Then identify the various value-creating subactivities in your company’s infrastructure. These will generally be cross-functional in nature, rather than specific to each primary activity. Again, look for direct, indirect, and quality assurance activities.
Step 3 – Identify links
Find the connections between all of the value activities you’ve identified. This will take time, but the links are key to increasing competitive advantage from the value chain framework. For example, there’s a link between developing the sales force (an HR investment) and sales volumes. There’s another link between order turnaround times, and service phone calls from frustrated customers waiting for deliveries.
Step 4 – Look for opportunities to increase value
Review each of the subactivities and links that you’ve identified, and think about how you can change or enhance it to maximize the value you offer to customers (customers of support activities can be internal as well as external).