Value Chain AnalysisVictor Marbun (M987Z259)

Nguyen Phan Anh Huy (M987Z264)

The Value Chain Concept Methodology Case Study

Ajax Airlines People Airlines & United Airlines

Outline

The Value Chain Concept Methodology Case Study

Ajax Airlines People Airlines & United Airlines

Outline

According to Porter (1980), a business unit can develop a sustainable competitive advantage either based on cost or based on differentiation or based on both.

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The value chain concept

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Superior

Inferior

SuperiorInferior

Relative DifferentiationPosition

Relative Cost Position

Low cost: Economies of scale in production Experience curve effects Tight cost control Cost minimization in areas such as R&D,

service, sales force, or advertising.

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Differentiation: Brand loyalty Superior customer service Dealer network Product design and product features Technology

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The value chain framework is a method for breaking down the chain-from basic raw materials to end-use customers- into strategically relevant activities in order to understand the behavior of costs and the sources of differentiation.

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Value Chain Linkages

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Silvarculture and Timber

Farming

Logging and Chipping

Pulp Manufacturin

g

Converting Operations

Distribution

End-Use Customer

Paper Manufacturin

g

Value Chain in the Paper Products

Industry

Com

petito

r A

Com

petito

r B

Com

petito

r C

Com

petito

r D

Com

petito

r G

Com

petito

r E

Com

petito

r F

Every firm must construct a value chain for the total paper industry, break the value in the chain into its fundamental sources of economic value.

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Value Activities within a firm

A firm’s value chain is embedded in a large system that includes suppliers’ and customers’ value chains.

A firm can enhance its profitability not only by understanding its own value chain--from design to distribution--but also by understanding how the firm’s value activities fit into suppliers’ and customers’ value chains.

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Value-added refer to the contribution of the internal focus such as land, labor, capital goods.

Value chain concept highlights four profit improvement areas : Linkages with suppliers Linkages with customers Process linkages within the value chain of a

business Linkages across business unit value chains within

the firm

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Value chain VS Value-Added

The Value Chain Concept Methodology Case Study

Ajax Airlines People Airlines & United Airlines

Outline

Assign costs fixed cost VS variable cost evaluation Revenues average cost VS marginal cost improvement Assets break even analysis Return on Assets

Value Chain Methodology process

Identify the industry value

chain

Diagnose the cost drivers for

each value

Develop sustainable competitive advantage

Activities should be isolated and separated if:a.They represent a significant percentage of operating costs.b.The cost behavior of the activities (cost driver different.c.They are performed by competitors in different ways.d.They have a high potential of being able to create differentiation.

Identify The Value Chain

1. Structural cost driver. Scale, Size of operation. Scope, Degree of vertical integration. Experience, past activity. Technology, what process technologies

used. Complexity, number of product lines.

Diagnose Cost Drivers

2. Executional Cost Drives. Work force involvement (participation). Total quality management. Capacity utilization. Exploiting linkage.

Diagnose Cost Driver (Cont’d)

1. Control cost driver better than competitors. Can we reduce costs in this activity,

holding value (revenues) constant? Can we increase value (revenues) in this

activity, holding cost constant? Can we reduce assets in this activity,

holding costs and revenues constant?

Develop Sustainable Competitive Advantage

2. Reconfigure the Value Chain. Redefining the value chain (payoffs could

be more significantly). The company has fought to hold down

labor costs.

Develop Sustainable Competitive Advantage (cont’d)

1. Calculational Difficulties. Calculating value (revenues) for

intermediate products. Isolating key cost drivers. Identifying linkages across activities. Computing supllier and customer margins. Constructing competitor’s cost structures.

Problems in Constructing a Value Chain

2. Value Chain difficulties The process of performing the value chain

analysis. i.e. :- how does my activity add value to the chain

of customers to the end-user.- How does my cost structure compare with

those of my competitors.

Problems in Constructing a Value Chain (cont’d)

The Value Chain Concept Methodology Case Study

Ajax Airlines People Airlines & United Airlines

Outline

1988 1987

Sales $8800 $7200

Expenses

Tickets&reservation 320 300

Aircraft Operations 4980 3900

Customer Service 2600 2400

Total Expenses 7900 6600

Identifiable property, plant,& equipment assets

Tickets reservations 2000 1000

Aircraft & operations 5000 5300

Customer Service 0 0

Total $7000 $6300

EXHIBIT 6Ajax Airlines: A Valuable Chain Analysis

Per Seat Mile Flown

Per Available Mile

1988 1987

1988 1987

Costs: Tickets &Reservation

$.005 $.005

$.003 $.003

Aircraft Operations

.077 .069

.049 .044

Customer Service

.040 .042

.025 .027

Total $.122 $.116

$.077 $.074

Assets: Ticket & Reservation

$.031 $.018

$.020 $.011

Aircraft .077 .093

.049 .060

Customer Service

0 0

0 0

Total $.108 $.111

$.069 $.071

Ajax Airlines: A Value Chain Analysis (Cont’d)

Strategically, Ajax airlines hope that a small increase in aggregate customer service expenditures and a better ticketing and reservation system will justify higher prices.

However, increase aircraft operations cost wipe out most of the profit impact of increase in revenue per seat mile flown.

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Case study: Ajax Airline

By the conventional analysis, this strategy seems hard to be successful.

Value chain analysis can yield very different insights. We believe that the linking of financial analysis to strategic positioning in this way is a critical element in effective financial analysis.

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Case study: Ajax Airline

The Value Chain Concept Methodology Case Study

Ajax Airlines People Airlines & United Airlines

Outline

Cost Per 10.000 Seat Miles Cost Per 10.000 Seat Miles $ 1,000 $ 1,300

$ 9.,000 $ 13,200

People Express United Airlines

$ 4,900 $ 6,700

$ 11,600 $ 15,600

$ 1,500 $ 4,700 $ 28,400 $ 41,500

EXHIBIT 7 Value Chain Configurations: A Comparison

Between People Express and United AirlinesAdvertising & Publicity

Ticketing OfficesTicket

Counter Operations

Gate Operations

Baggage Handling

fleets

Aircraft Operations

On-Board Service

Value Chain Elements

People Express less than United Airlines (cost per 10,000 seat miles)

Strategic Differences

People Airlines

Strategic Differences

United Airlines

Advertising & Publicity $ 300 Heavy promotion to tout low price/no frills airlines

Heavy promotion of full service airline

Reservation & Ticketing

$ 3,200 No ticket officesNo separate computer Reservation system

Ticket Offices in Downtown locationsExtensive computer Reservation System

Secondary airport and TerminalsNo Ticket counters (check in only)

Full service

Full Service

Free baggage checking

Fleet Costs $ 1,800 Used Aircraft-Budget airplanes

New aircraft

Flight Operations $ 4,000 High-density seatingNon-union pilotsFlying hour per day

Union pilotsBigger crewsCrew paid on higher scale

Cabin Operations $ 3,200 Non-Union flight attendantsLower pay scaleNo first class, no meals

Full service

Exhibit 8Strategic Inference from the Value Chains of People Express

and United Airlines