We have just seen that reaching the efficiency frontier in an industry, given managers’ choiceof strategic position, requires efficient operations. Moreover, in the long run sustaining a competitiveadvantage requires managers to continually improve operational efficiency, therebypushing out the efficiency frontier and staying ahead of rivals in a race that has no end. Tograsp this we need to dig a little deeper into the nature of operations and consider how operationalexcellence can help an enterprise build distinctive competencies and thus lower costs orbetter differentiate its product offering.
CONFIGURING THE VALUE CHAIN
The operations of a firm can be thought of as a value chain composed of a series of distinctactivities including production, marketing and sales, logistics, R&D, human resources, informationsystems, and the firm’s infrastructure. We can categorize these activities, or operations,as primary activities and support activities. We use the term valuechain because each activity adds value to the product offering.
These operations are embeddedwithin the internal organization architecture of a firm, which includes the organization structure,controls, incentives, culture, and people of the enterprise. Organization architecture providesthe context within which operations take place.
Primary Activities Primary activities have to do with the design, creation, and delivery ofthe product; its marketing; and its support and after-sale service. Following normal practice,in the value chain illustrated in Figure the primary activities are divided into four functions:research and development, production, marketing and sales, and customer service.
Research and development (R&D) is concerned with the design of products and productionprocesses. Although we think of R&D as being associated with the design of physicalproducts and production processes in manufacturing enterprises, many service companiesalso undertake R&D. Banks compete with each other by developing new financial productsand new ways of delivering those products to customers.
Online banking and smart debitcards are two examples of new product development in the banking industry. Through superiorproduct design, R&D can increase the functionality of products, which makes them moreattractive to consumers (increasing differentiation). Alternatively, R&D may result in moreefficient production processes, thereby cutting production costs. Either way, the R&D functioncan help create a competitive advantage.
Production creates a good or service. For physical products, when we talk about productionwe generally mean manufacturing. Thus we can talk about the production of an automobile.For services such as banking or health care, production typically occurs when the service isdelivered to the customer (such as when a bank originates a loan for a customer). For a retailersuch as Wal-Mart, production includes selecting the merchandise, stocking the store,and ringing up sales at cash registers. Production can help a firm create competitive advantagethrough efficiency or greater differentiation.
The marketing and sales functions can help a firm attain a differentiated or low-cost positionin several ways. Through brand positioning and advertising, marketing can affect consumers’ perceptions of how differentiated a firm’s product offering is. If consumers have afavorable impression of a firm’s products, the firm can charge more or expand sales volume.For example, Ford produces a high-value version of its Ford Expedition SUV.
Sold as theLincoln Navigator and priced around $10,000 higher, theNavigator has the same body, engine, chassis, and design asthe Expedition. But through skilled advertising and marketing,supported by some fairly minor feature changes (suchas more accessories and the addition of a Lincoln-styleengine grille and nameplate), Ford has fostered the perceptionthat the Navigator is a luxury SUV. This marketingstrategy has increased the perceived differentiation of theNavigator relative to the Expedition, and Ford can charge ahigher price for the car.
Marketing and sales can also create value by discoveringconsumer needs and communicating them back to the R&Dfunction of the company, which can then design products thatbetter match those needs. For example, the allocation ofresearch budgets at Pfizer, the world’s largest pharmaceuticalcompany, is determined by the marketing function’s assessmentof the potential market size associated with solving unmetmedical needs. Thus Pfizer is currently directing significantfunds to R&D efforts aimed at finding treatments forAlzheimer’s disease, principally because marketing hasidentified the treatment of Alzheimer’s as a major unmetmedical need.
The role of a firm’s service activity is to provide aftersaleservice and support. This function can create a perceptionof superior differentiation in the minds of consumers bysolving customer problems and supporting customers afterthey have purchased the product. Caterpillar, the U.S.-based manufacturer of heavy earthmovingequipment, can get spare parts to any point in the world within 24 hours, therebyminimizing the amount of downtime its customers have to suffer if their Caterpillar equipmentmalfunctions.
This is an extremely valuable capability in an industry where downtimeis expensive. It has helped increase the value that customers associate with Caterpillar productsand thus the price that Caterpillar can charge.
Support Activities The support activities of the value chain provide inputs that allow theprimary activities to occur. In terms of attaining competitive advantage, theycan be as important, if not more important, than the primary activities of the firm. The procurementfunction is responsible for purchasing inputs to the production process, includingraw materials, partly finished products, and in the case of retailers, items for resale.
Procurementcan lower costs by getting the best deals and by leveraging buying power to lower theprice paid for inputs. Procurement can also help increase differentiation by purchasing higherqualityinputs. The logistics function controls the transmission of physical materials throughthe value chain, from procurement through production and into distribution. The efficiencywith which this is carried out can significantly reduce costs. As noted earlier, logistics is amajor source of Wal-Mart’s competitive advantage.
The human resources function can help create competitive advantage in a number of ways.It ensures that the company has the right mix of skilled people to perform its value creationactivities effectively. Wal-Mart, for example, uses local managers to run Wal-Mart’s stores andlogistics operations in countries outside the United States.
The thinking behind this is that localmanagers will have a better feel for the tastes and preferences of local customers than expatriatemanagers from the United States. Insofar as this improves the fit between Wal-Mart’s merchandisingand local tastes, it should result in higher sales. The human resources function alsoensures that people are adequately trained, motivated, and compensated to perform their valuecreation tasks.
Information systems are the electronic systems for managing inventory, tracking sales,pricing products, selling products, dealing with customer service inquiries, and so on. Information systems, when coupled with the communications features of the Internet, canalter the efficiency and effectiveness with which a firm manages other activities in the valuechain. Again, Wal-Mart’s competitive advantage is based largely on its pioneering use ofinformation systems to track store sales.
This tracking capability means that Wal-Mart isalmost never caught with too much or too little of a certain item. This reduces Wal-Mart’sneed to hold extensive buffer inventory, which reduces inventory costs, and makes sure thatWal-Mart never has to hold sales to unload excess inventory, keeping prices from having tobe reduced.
Organization Architecture As already noted, the operations of the firm are embedded withinthe internal organization architecture of the enterprise, which includes the organization structure,incentives, control systems, people, and culture of the firm.
In a real sense strategy isimplemented through organization architecture. Because organization architecture is soimportant to strategy implementation and the attainment of competitive advantage, we discussit in depth later. For now note that if a firm is to attain competitive advantage,its organization architecture must support its operations and enable it to successfully implementits strategy.
For example, if a firm is trying to become a low-cost industry player, it should have an organization architecture that focuses the attention of everyone within the enterprise on the need to drive down costs. Thus Wal-Mart operates with a very flat organization structure (there are few layers between the head office and individual stores). Unlike most other large national retailers, the company has no regional offices. It sees regional offices as an additional cost, so it has cut them out, preferring to manage the entire U.S. operations from its headquarters in Arkansas. Wal-Mart also has an organizational culture that emphasizes the need to contain costs.
An important norm at Wal-Mart is that when senior managers travel from headquarters to visit stores, they should share hotel rooms and stay in budget hotels to save costs. Another norm is that they should return from each trip with enough ideas to cover the cost of the trip. These norms are designed to emphasize the importance of controlling costs. In other words, the organization architecture of Wal-Mart supports the company’s strategy, which is to drive down costs, and its operations, which again are geared toward maximizing efficiency.
COMPETITIVE ADVANTAGE AND STRATEGIC FIT
If a business enterprise is to attain superior performance, its business-level strategy (as captured by its desired strategic position on the efficiency frontier) must make sense given industry conditions (for example, there must be sufficient demand to support that strategic choice). Operations must be configured in a way that supports the strategy, and the internal organization architecture must support the operations and strategy of the firm.
In other words, as illustrated in Figure, industry conditions, strategy, operations, and organization must all be consistent with each other, or fit each other, for competitive advantage to be attained and superior performance to occur. Moreover, the operations and organization of the firm must give it a distinctive competency in one or more activities of the value chain. Without unique and valuable skills, a firm will not be able to outperform rivals.
The issue of strategic fit is actually more complex than illustrated in Figure. Thefirm can influence industry conditions through its choice of strategy. For example, bylaunching a price war in their industry, a firm’s managers can make the industry conditions they face more hostile, and that might require a fundamental change of strategy. Alternatively, through their choice of strategy managers can reduce the intensity of competition in their industry, making it more favorable.
In addition, shifts in market conditions caused by new technologies, government action such as deregulation, demographics, or social trends can mean that the strategy of the firm no longer fits the industry. In such circumstances the firm must change its strategy, operations, and organization to fit the new reality.
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Developing High-performance Teams
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