Competitive Advantage and Value Creation

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CHAPTER 7

COMPETITIVE ADVANTAGE AND VALUE CREATION

Contents
7.1 7.2 7.3 7.4 7.5 Creating Value Growth and Value Creation Competitive Advantage and Value Creation The Components of Value Overview

This chapter examines how companies create value in the market and how they capture it to increase the value of the firm. After completing the chapter, you will have an understanding of the connection between value creation and competitive advantage. Also, you will know the basic components of value and how value created is shared with customers and suppliers. The value created by the firm equals the benefits the firm’s customers receive minus the costs the firm’s suppliers incur and minus the costs of using the firm’s own assets. To increase value created, the company increases benefits to its customers, lowers costs of its suppliers, uses its resources more effectively, or combines suppliers and customers in new or more efficient ways. The firm’s ability to create and capture value depends on the strength of competition and the characteristics of the firm. In markets where customer demand outruns industry capacity, many firms can add value. In markets where industry capacity outruns customer demand, a firm must have a competitive advantage to survive. The firm must share the value that it creates with its customers and suppliers. The share of the value that the firm is able to capture is the value of the firm. Value-driven strategy involves three basic rules. To attract customers away from competitors, the company must provide sufficient customer value as compared to rival firms. To attract key suppliers away from competitors, the company must offer sufficient supplier value. To attract investment capital in competition with other market investment opportunities, the company must increase 217

ECONOMICS AND MANAGEMENT OF COMPETITIVE STRATEGY © World Scientific Publishing Co. Pte. Ltd. http://www.worldscibooks.com/business/7171.html

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Economics and Management Strategy

the value of the firm for its investors. Understanding these three important rules provides managers with a consistent framework for designing and applying strategy. To obtain a competitive advantage, the company must create greater total value than its competitors and capture the incremental value that it brings to the market. The competitive advantage of a firm equals the difference between the overall value created by the industry when the firm is in the market and the overall value that would be created by the industry when the firm is not in the market. Thus, competitive advantage is the extra value created by the firm.1

Chapter 7: Take-Away Points
The manager chooses strategies to carry out the company’s goals and to gain competitive advantage: • • • To attract customers away from competitors, the company must provide sufficient customer value. To attract key suppliers away from competitors, the company must offer sufficient supplier value. To attract investment capital in competition with other market investment opportunities, the company must increase the value of the firm for its investors. Total value created is the sum of customer value, supplier value, and the value of the firm. To obtain a competitive advantage, the company must create greater total value than its competitors. Competitive advantage often requires product innovation, process innovation, or transaction innovation.

• • •

7.1 Creating Value
Managers must pay close attention to value creation because it is the source of the company’s potential profits. The company creates value by coordinating its purchases and sales transactions. The company generates value by providing products to customers, which it produces both by purchasing inputs from suppliers and supplying some of its own. The value the company creates is equal to the difference between the benefits the company’s customers receive and the cost to the company’s input suppliers, including the cost of...
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