e-business strategy - virtual value chain
Historical context
Over the years, some businesses have controlled almost all factors of production and distribution (Ford in its early days) whereas others have outsourced almost everything (Dell). In the early days of industry, large enterprises controlled and owned most factors of production and businesses like Ford Motor Company in the USA had their own foundries, railroad, forestry and electricity generating plants, In the UK, Cadbury’s and Lever Brothers went so far as to build villages and amenities for their workers. The motivation for this vertical integration was varied but included cost and quality control, worker loyalty and protection of proprietary processes. As well as control of production, resources and employees, businesses like Ford also controlled the retail sales and service network.
Ford Motor Company developed its structure over many decades of steady growth but, even prior to the advent of eBusiness, this kind of structure was being broken down, as a monolithic type of organisation like this is less able to respond to changing market requirements. Furthermore, external specialized organisations may be able to offer ancillary services such as transport and power more cheaply than a business like Ford Motor Company could do it for itself. Ford was an extreme case of internal control of all factors of production and distribution, whereas most other businesses had long maintained a mixture of some in-house capabilities together with services sourced from other businesses.
Porter’s Value Chain
One model to help understand this network of processes and services is what Michael Porter (1985) calls the ‘Value Chain’. Porter’s work on competitive strategy suggests that organisations should re-evaluate their value chain and concentrate on the operations that they can do best. Other processes should ‘out-sourced’ to specialists. EBusiness has facilitated this by providing a set of standards for participants to work with.
Evans & Wurster (2000) outline the progress of Dell from a business that in 1984 offered a simplified product offering with orders taken by fax/telephone – a simplified service with wide reach. In moving to Internet delivery, Dell then offered individualized configurations, price combinations and technical support. These enhancements could only previously have been obtained from specialized dealers or direct agents at a premium price and Dell now offers these to a wide audience at a very competitive price. The customer wins as their needs are at the centre of the process.
Porter distinguishes between primary activities and support activities. Primary activities are directly concerned with the creation or delivery of a product or service. They can be grouped into five main areas: inbound logistics, operations, outbound logistics, marketing and sales, and service. Each of these primary activities is linked to support activities, which help to improve their effectiveness or efficiency.
There are four main areas of support activities: procurement, technology development (including R&D), human resource management, and infrastructure (systems for planning, finance, quality, information management etc.). The chain consists of a series of activities that create and build value. They culminate in the total value delivered by an organisation. The ‘margin’ depicted in the diagram is the same as added value which expresses the way a business differentiates itself through configuration of its value chain.
Porter & Millar (1985) p. 151
The drivers for product differentiation and value creation are policy choices (what activities to perform and how), linkages (within the value chain or with suppliers and channels), timing (of activities), location, sharing of activities amongst business units’ learning, integration, scale and institutional factors. Porter and Millar (1985) argue that information technology creates value by supporting differentiation strategies.
The ‘Virtual Value Chain’
Businesses that are evaluating the value chain have been observed to go through three phases (Rayport & Sviokla, 1995).
The first, Visibility, is where businesses co-ordinate, measure and sometimes control business processes. Over the last 30 years, information systems have become powerful tools in management of the physical value chain. The authors claim that this phase is a necessary precursor to moving towards what they term a ‘virtual value chain’.
The second phase is ‘Mirroring capability’ in which physical steps in the value chain may be substituted with virtual ones to create a parallel value chain in the marketplace, with steps that are faster, better, more flexible or lower cost. The third stage occurs when companies use the flow of information in their virtual value chain to create new customer relationships by delivering value to customers in new ways.
The Value chain has also become increasing transparent (Riddestrale & Nordstrom 2002) and this has a tendency to reveal and expose those who are not really adding any value. Intermediaries are being replaced with ‘Infomediaries’ who are people and firms who eliminate unnecessary actors in the value chain by simultaneously acting as purchase agents for customers and sales departments for sellers, so complacent or entrenched organisations could find eBusiness to be a threat if they do not embrace it.
Evans and Wurster (2000) argue that the shifting trade-off between reach and richness of information has led to the deconstruction of previously integrated value chains and supply chains. Banking and Newspapers are examples of businesses that are both horizontally and vertically integrated. Some commentators had expected the newspaper itself to go electronic with content delivered to an electronic tablet. Whilst this has not happened, elements of the value chain have changed. In newspapers, the quality press has developed the appointments advertisements service into an interactive service for candidates with daily email alerts. In banking, whereas banks offered a limited portfolio of services of variable quality and profitability, personal finance packages such as Quicken, and account aggregators and personal finance portals offer access to hundreds of competitive offerings. This means that critical pieces of a business are definitely vulnerable to new entrants or to the supply of key elements by a monopoly.
Intermediation
One thing that does become clear in looking at different cases in eBusiness is that there are different approaches to changing the value chain, and it does not always become shorter. In some cases, it has been desirable to remove one or more links in the value chain. To take a simple example, a business that had previously sold to retailers via distributors could take a decision to sell direct electronically, an approach known as Disintermediation. Part of the rationale is that by shortening the Value Chain, there may be benefits in reduced costs or a more responsive and efficient service.
Seemingly paradoxically, eBusiness has also allowed the apparent opposite of Disintermediation in which a new step or steps are introduced to the value chain as new players find fresh ways to add value to the process. This is known as Reintermediation and examples here include shopping portals and electronic insurance brokers.
Cybermediation (Giaglis et al, 2002) refers to the creation of new kinds of intermediaries that simply could not have existed prior to the advent of eBusiness and the Internet, in categories including Searching, Price Discovery, Logistics, Settlement and Trust. Obvious examples include comparison-shopping sites such as Kelkoo and bank account aggregation services like Citibank.
Some on-line businesses find they need to control much of the value chain in order for their proposition to function correctly. In on-line clothing retail, customers can order bespoke outfits based on their exact measurements and preferences, choosing from a range of over 100 colours. Businesses such as Beyond Fleece and French Rags have seen astonishing growth around 500% customer growth in 2002 based on this model (Rogers 2003). These businesses control all manufacture including the yarns, so that customers can order other items in future in exactly matching colours. Interestingly, sales consultation is done by agents personally, but once on board, the personal nature of the relationship can be exploited efficiently through direct control of the design, marketing and manufacture This “mass customization” has proved profitable because every item is made to order, contrasting with the existing model in which styles are ordered a year in advance and stockpiled, which often sees product being marked down and sold off at the end of the season.
In another example, Amazon decided at the outset to build its own warehouses in order to increase the speed and reliability of its delivery of online orders. Amazon has sought to add value in the sales and fulfillment activities, seeing this as a core competency (Amit & Zott 2001). However, the investment in new facilities required to serve new markets or to offer a step change in capacity have carried a crippling cost, and indeed Amazon has closed several facilities where capacity has been under-utilised. More recently, Amazon has adopted a more flexible approach and also acts as a marketplace for other sellers that supply other goods and services alongside its own, even offering lower prices from other suppliers on goods it sells itself.
Of course, with greater analysis and experience of these markets, it has been found that to serve markets in volume, whilst there may have been disintermediation, there has also been reintermediation. Businesses like Amazon have had to build new distribution capabilities that have been by no means cheaper than traditional methods.
References:
Porter, M (1985): Competitive Advantage: Creating and Sustaining superior Performance N.Y. Free Press
Evans P, Wurster T (2000): Blown to bits: How the new economics of Information transforms strategy Harvard Business School Press
Porter M, Millar VE (1985): How information gives you competitive advantage Harvard Business Review Vol 63 Issue 4 Jun/July 1985 pp 149-160
Rayport, J Sviokla, J (1995): Exploiting the virtual value chain Harvard Business Review Vol 73 Issue 6 November/December 1995 pp 75-85
Ridderstrale, J Nordstrom K (2002): Funky Business Financial Times Prentice Hall
Giaglis, G, Klein S and O’Keefe R (2002): Disintermediation, Reintermediation, or Cybermediation? The Future of Intermediaries in Electronic Marketplaces Brunel University
Rogers, M (2003): Custom Clothing sets one to one retail examples http://www.1to1.com
Author: Steve Whiteley, January 2007
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