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September 14, 1998

The New Value Chain

Today's digital age means companies must rethink how they deliver what their customers value

By Doug Aldrich

recently met with the CEO of a leading maker of heavy-duty consumer equipment. His company is thriving: Revenue is up, profits are rising, and the current economic boom is favoring his industry in unprecedented ways. Despite the rosy picture, this CEO is quite concerned about two technology trends that together pose a significant threat to his company's business model. First, he explained, his company's products increasingly are based on digital technology, rather than mechanical and analog technologies. Today, each machine the company sells contains more computer technology than did a typical 1980s mainframe.

Second, there's the growing popularity of the Internet and other Web-based services among consumers, who are using these resources instead of relying on his company's traditional customers-the retailers-and consequently buying the company's products at lower prices.

Although this CEO acknowledges that today's ideas of efficiency and cost reduction dictate eliminating the middleman-in this case, the retailers-he believes this move is too simplistic. In fact, he champions the contrary view-that he will need more, not less, help from outside businesses to keep his customers happy.

Why is this? True, it looks as if much of the traditional value provided by his retailers-disseminating product information, helping consumers make purchasing decisions, ordering highly customized parts and models, and providing follow-up support-is being eliminated by the Web's more efficient information sharing and transactional capabilities.

But not all aspects of selling his company's big-ticket products can be accomplished "virtually." Someone has to physically hand the product to the consumer. Someone else needs to provide very physical after-sales services for routine maintenance and in emergencies. In addition, the increasing complexity of these digital products-and the degree of technical integration they now involve-means he is forging pioneering partnerships with an ever-widening array of disparate suppliers and integrators. This, in turn, complicates after-sales servicing, which is a critical factor in determining success in his industry.

New Notions Of Efficiency
In fact, in the digital age, a whole range of services are needed to support the new distribution channels. These services, necessary to ensure the end consumer's satisfaction, will no longer be determined by geographical or physical constraints. The CEO I talked to is smart enough to understand this. He's also smart enough to realize that traditional notions of efficiency don't work best in the digital age.

Considering all these changes and new realities, here's what we advise clients: Instead of thinking about distribution chains, think of a value network. More specifically, put yourself in your customer's place and think about value from his or her point of view. Obviously, it makes sense to deliver your product or service at the lowest cost-but it's more important to figure out what the customer "values" about what you sell.

Once you've found this out, what can you do to enhance that value? It may involve a strategic alliance with a surprising sort of business partner and involve more, not fewer, middlemen.

Chances are good that the digital age will drive these changes. For starters, technology welcomes entry into many markets. Though it used to take months or years to set up distribution channels, it now takes days-or even hours-using the Internet. The Web has also reduced the need for retail storefronts and warehouses-and the related capital required to build them. Most important, with breathtaking efficiency, technology provides direct access to consumers and information about their tastes.

In short, the digital economy is revolutionizing how we think about the traditional corporate value chain, and it's also redefining relationships between manufacturers, suppliers, distributors, and consumers. The value chain is in fact a value network, or web, in which companies engage in multiple two-way relationships to bring increasingly complex products and services to market.

Of course, there are real competitive advantages to the cost-cutting tactics used by some mass merchandise retailers. Their strategy is to go directly to the source of their basic products or raw materials, then to negotiate prices that cut out intermediary distributors and wholesalers and put other, less-fortunate competitors out of business. Finally, they tighten that supply-and-distribution chain until it's as efficient as possible.

More Than Cost Cutting
But cost containment, or operational efficiency, is not the only answer-and CEOs are beginning to understand that concept. In A.T. Kearney's 1998 survey of CEO attitudes about IT, only 10% said cost cutting was a key issue, down from 27% in 1996.

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