Value chain

Value chain analysis: advantages and disadvantages

A value chain is a business term describing the full range of iterative activities that a business uses to create a product or service. The purpose of value chain analysis is to increase production efficiency so that a company can deliver maximum value at the lowest possible cost.

Key points to remember

  • Businesses use value chain analysis to deliver the most value at the lowest possible total cost.
  • If a company can create efficiencies by analyzing one or more of the five main activities in the value chain, it can gain a competitive advantage and increase its profits.
  • A major drawback of this type of analysis is that a company’s overall vision and strategy can get lost or confused when operations are broken down into fine segments.

Value chain analysis: an overview

Companies perform a value chain analysis by looking at each production step required to create a product, with the ultimate goal of providing maximum value for the lowest possible total cost. Value chain analysis has many benefits, all of which result in a company’s ability to understand and optimize activities that give it competitive advantage and higher profit levels.

Understand the main components of the value chain

By thoroughly analyzing each of the following key value chain activities, a company can ensure that the value it creates exceeds the cost associated with creating that value.

  1. Inbound logistics. This includes functions such as receiving, warehousing and inventory management.
  2. Operations. This involves procedures for transforming raw materials into finished products.
  3. External logistics. This describes activities directly related to the distribution of the company’s end products to consumers.
  4. Marketing and Sales. This includes strategies to improve visibility and target appropriate customers, such as advertising, promotion and pricing campaigns.
  5. Service. This includes programs that enhance the customer experience, such as customer service, maintenance, repair, refund and exchange features.

Support activities

The following four supporting activities help to make the above main activities more effective:

  1. Supply. This relates to how a company procures raw materials.
  2. Technological development. This is used in the research and development stage of a business, involving practices such as developing manufacturing techniques and automating processes.
  3. Human Resources (HR) Management. It’s about hiring and retaining employees who realize the company’s vision.
  4. Infrastructure. This includes the composition of a company’s management team across its accounting, finance, and quality control silos.

Support activities are usually referred to as overhead costs in a company’s income statement:

A disadvantage of value chain analysis

While there are many benefits to performing a value chain analysis, there is one major potential downside. Incidentally: by focusing too granularly on the micro-details, the larger strategic vision can get lost. After all, the main purpose of value chain analysis is to evaluate company operations, segment by segment, in order to increase efficiency in each area. But chain analysis fails to link every activity in the chain. Therefore, it is possible to lose sight of how the activities are globally interdependent.