Chapter 5 (Part II)

Reader 3
The Value Chain and
Competitive Advantage
Michael Porter

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 Value Chain Categories
Primary activities are classified in the
following 5 categories: inbound logistics;
operations; outbound logistics;
marketing & sales; service (after-sale).
Support activities are classified in the
following 4 categories: (a) the
infrastructure of the firm which supports
the entire chain; (b) human resource
management; (c) technology
development; and (d) procurement.
(the above activities were discussed in details in
part I of this chapter)
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 Firm Infrastructure

Human Resource Management

Technology Development

Procurement

Inbound Operations Outbound Market’g

Service
Logistics Logistics & Sales

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Linkages within the Value Chain
The value chain is a system of interdependent
activities. There are linkages that relate value
activities. For example purchasing high quality
raw materials improves manufacturing output.
Linkages should be optimized and coordinated
in order to achieve competitive advantage. On-
time delivery may require coordination of
activities in operations, outbound logistics, and
installation. Optimization and coordination can
reduce costs.
There are linkages between support activities and
primary activities. Procurement for example
affects product quality.
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A function like conformance to specifications
can be performed in different ways (through
high quality inputs or 100% inspection of
finished goods).
Good performance in indirect activities (like
scheduling) can improve direct activities (like
better delivery time).
A 100% inspection inside the firm can reduce
service costs in the field.
Quality assurance can be performed in different
ways (for example product inspection).
Information systems are very important in
gaining competitive advantage from linkages.
Managing linkages is not easy, therefore this
gives sustainable advantage to the firm.
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 Vertical Linkages
Linkages are not only present within the firm’s
value chain, there are also linkages between the
firm’s value chain and the value chains of
suppliers and channels. These are vertical
linkages (the firm’s procurement and inbound
logistics interact with the supplier’s order entry
system.
Frequent supplier shipments reduce the firm’s
inventory needs. Both the firm and the supplier
can gain from beneficial activities. Good
coordination with suppliers and good bargaining
power can give competitive advantage to the firm.
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Channels can perform sales, advertising
and display. Channel markup can reach
to up to 50% of the product’s selling
price.
Coordination and optimization efforts
between the firm and its channels can
lower costs. Both the firm and the
channel can benefit from mutual gains.
Exploiting vertical linkages to the fullest
requires modern information systems.

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 The Buyer’s Value Chain
There are commercial, industrial, and
institutional buyers. There are also the
households who buy the firm’s final product.
Many of the firm’s activities interact with some of
the buyer’s activities. The firm might work
with the buyer on designing a product or a
part.
Value is created for the buyer when the firm can
lower the cost for the buyer or enhance the
buyer’s performance. Great value can justify
premium price and can be communicated
through advertising and the sales force.
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 Competitive Scope and the Value Chain
Four dimensions of scope affect the value chain:
1. Segment scope: product varieties and buyers
served.
2. Vertical scope: activities performed in-house
instead of by independent firms.
3. Geographic scope: countries or regions in which
the company competes.
4. Industry scope: the range of related industries
in which the company competes with a
coordinated strategy.
Broad scope means that the firm does more
activities internally. Narrow scope focuses on
particular segments or geographic areas in
order to lower cost or serve the target in a
particular way. 9
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Segment scope:
There are different buyer segments and therefore
the firm needs to focus on the buyer’s needs.
There are interrelationships between the value
chains serving different segments, and this
makes the scope broader.
Vertical scope:
Vertical integration defines the division of activities
between the firm and its suppliers, channels, and
buyers. The firm might assume a greater
number of buyer’s activities to differentiate itself.
Some value activities are done within the company,
and other activities can be purchased from
supplier or channel.
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Geographic scope:
The firm has value activities that serve specific
geographic areas. Canon for example makes its
copiers in Japan, but sells and services them in
many countries.
Companies share value activities in some countries
with other companies in order to save or to be
more efficient. Geographic interrelationships are
very important to give some competitive
advantage.
Industry scope:
Interrelationships and shared logistics between
business units can be beneficial. Shared logistics
can reap the benefits of economies of scale.
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Coalitions and scope:
Coalitions are long-term agreements
between companies. Joint ventures or
technology licenses are examples of such
agreements.
Coalitions broaden the scope of the
company by contracting an independent
firm to perform some value activities.
There are vertical coalitions and horizontal
coalitions.
The bargaining power of each partner
determines how the gains are shared.

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 The Value Chain and
Organizational Structure
The value chain is a basic tool for
diagnosing competitive advantage and
finding ways to create and sustain it.
The separation of similar activities (like
marketing) into different departments is
called “differentiation”.
The separation of organizational units
necessitates the need to coordinate them.
Such coordination is called “integration”.
Organizational structure balances the
benefits of integration and separation.
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The value chain provides: (a) a systematic
way to divide a firm into its discrete
activities, while examining how activities
could be grouped, (b) an indication about
the firm’s overall competitive position, (c)
a relation of organizational structure to the
value chain and the linkages within it, and
with suppliers and channels.
Finally, an organizational structure that
corresponds to the value chain will
improve the firm’s ability to create and
sustain competitive advantage.
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