Where might you fit in your customers’ Value Chains?

What is a Value Chain?

The term ‘Value Chain’ might seem both obvious but also confusing. It’s easy to understand how a business can add value to its ‘inputs’ before converting and re-selling them as ‘outputs’. And if a series of businesses buy and sell products and services based on each other’s then this forms a chain of value creation. But exactly how this works varies widely between industries and markets and can be very complex.

Why are Value Chains important?

If you’re commercialising an invention, then your first task is to discover which industries could use your technology. There might be similar ideas already being used, or you could identify a gap where your invention adds value. Either way, you need to know which companies might wish to buy your technology, or something based on it.

Researching the Value Chains of your target industries helps you understand who is making money and how. Then you can investigate which of them might become your customers!

Vertical or Horizonal?

Value Chains can be described both using ‘horizontal’ and ‘vertical’ paradigms. Industries with many value-adding steps are often shown as a horizontal process like the graphic above. The materials of physical products also flow in the same direction. For those who read left-to-right, this is intuitive.

The financial value in a chain can be easier to visualize vertically. This allows us to see how one company’s price becomes another’s cost, and how each firm captures value in their margins. Equity (Stock) analysts often talk about ‘verticals’ when referring to such stacks of value.

All the firms within a vertical eventually deliver value to the same end-users. This means that raw materials suppliers (e.g. concrete) will experience fluctuations in consumption of the final product (e.g. for construction projects). And core service providers (e.g. Amazon Web Services) will depend on demand for end-user services (e.g. Software As A Service applications). It’s worth knowing the market sizes and growth rates of your target verticals before you look closer.

Markets within Industries

The textbook approach to technology commercialisation begins with identifying the Industrial ‘Verticals’ where your invention could have an application. Many startups list vertical industries such as ‘Automotive’ and Aerospace’ as their target markets. But these are both huge ecosystems which contain many product segments and geographies, each of which is effectively a market in its own right. As a small company, you will need to find the ‘sweet spots’ for your technology and focus your limited resources on these.

Premium vs Commodity

Almost every market will have brands who compete on quality, and others who sell on price. Sometimes these are parallel ‘verticals’ within the same industry, but often they share common components. The inside of a Porsche may look surprisingly like the build of a Volkswagen.

‘Premium’ vendors are more likely to have money to invest in evaluating and integrating your technology. ‘Commodity’ suppliers will be more interested in lowering costs but sometimes aspire to adding a higher margin ‘premium offer’. Decide whether your technology is best suited to improving quality and performance or reducing costs. Target the firms whose market positions align with your product’s benefits.

Who’s capturing the Value in the Chain?

Many verticals are driven by dominant players who set the direction for their industry. In Automotive and Aerospace, the big brands such as Ford and Airbus can capture more value than their suppliers by controlling access to the end-user markets.

Other industries can be steered by component makers who control key enabling technologies. For decades, Intel dominated the manufacture of Personal Computers (PC) by offering Central Processing Units with industry-leading performance. PC makers and suppliers of other chips such as PC memory struggled to be as profitable as Intel.

Look for firms in your target vertical who have the best financial and share price performance. Or those who have recently been acquired or have new leadership or strategic direction. They may be more interested in taking on the challenge of creating value from your technology.

Aligning with your Customer’s Strategy

We discussed creating value for B2B customers in last month’s Newsletter. Value creation should be considered both before choosing a target customer, and afterwards when you know them better, to assess if their needs really fit your product’s benefits.

Evaluating your technology’s value for all customers and markets is unfeasible, but ‘thought experiments’ are relatively cheap. Pick prospects in a few major markets and try to describe how you can add value for them. Then compare these ‘value pitches’ to see which sound most attractive. Keep iterating until you’re ready to give them a call.

Brand power vs Value Capture

Many startups are commercialising one component in a much larger value chain. Your customers may have a strong ‘end-user-facing brand’. Their market share can help you access more consumers than you could alone. But it also helps them maximise their margins from selling products based on your technology.

In price-competitive end-user markets, your company may end up capturing less value from your technology than your business partners do! It’s worth having negotiating with more than one big partner and using ‘Fear Of Missing Out’ to ensure you get the best deal possible.

Moving up the Chain

One way to increase your value capture is ‘moving up the value chain’. Delivering a high value product often requires integrating other technologies. You will need more capital, people and time to do this. But the value of your business could be much greater than if you just supplied components.

A SWOT analysis is useful here to evaluate your internal Strengths and Weaknesses for developing an integrated product and the Opportunities and Threats in the marketplace. Consider how to growth your strengths and mitigate weaknesses through hiring and partnerships. Evaluate the business opportunities in moving up the chain against the threat of damaging your existing customer relationships.

‘Vertical Integration’

Some industries are ‘vertically integrated’ where the companies selling to end users own much of their own supply chain. For instance, Samsung manufactures their own semiconductors and assembles them into consumer products sold under their own brand.

Marketing your product to fewer big companies might seem easier. But within these huge corporations there will be many divisions, each with separate procurement teams and different outlooks. Be careful when ‘Dancing with the Bears’ – ensure your Intellectual Property is well protected and try to keep your options open!

Understanding your industry’s Value Chain

I’ve helped many startups to understand their value chains. These include products and services in Health Care, Agricultural, Construction, Capital Equipment, Consumer Products, Energy and Software. Seeing the ‘big picture’ of how industries create value at each link in the chain helps you understand who might become your customers and why.

There might be industries which are already demanding the advantages your technology brings, and others which would be grateful if they understood its benefits. Mapping their Value Chains helps you find the markets which fit your product best.

Please contact me if you’d like help understanding your market’s Value Chains!