Value Creation and Strategic Information Systems

1. Value Creation and StrategicInformation Systems What is added value and how can it be created by way of IT-dependent strategic initiatives © Gabriele Piccoli

2. Course Roadmap • Part I: Foundations • Part II: Competing in the Internet Age • Part III: The Strategic use of Information Systems • Chapter 6: Strategic Information Systems Planning • Chapter 7: Value Creation and Strategic Information Systems • Chapter 8: Value Creation with Information Systems • Chapter 9: Appropriating IT-Enabled Value over Time • Part IV: Getting IT Done © Gabriele Piccoli

3. Learning Objectives • Define key terminology, including the concepts of total value created, customer willingness to pay, supplier opportunity cost, and added value. • Learn to compute total value created and added value. • Learn to estimate the portion of the total value created that will be appropriated by each of the entities who contributed to its creation. • Differentiate between strategic information systems and tactical information systems. • Define and utilize the concept of IT-dependent strategic initiatives. © Gabriele Piccoli

4. Introduction The primary role of functional and general managers Creation and appropriation of economic value © Gabriele Piccoli

5. Analysis of Added Value • A formal mechanism to evaluate how much of the value created the firm can appropriate by employing the initiative • Benefits: • Deciding whether you should go ahead with the initiative or not • Evaluating how to respond to a competitor who took the leadership position © Gabriele Piccoli

6. Value • When something novel is done • When this “something novel” is deemed worthwhile by someone else • Economic value is created through a transformation process Resource: Value $x (Input) Transformation process Customer Willing to Pay: $x + $v (Output) © Gabriele Piccoli

7. Components of Value • Supplier Opportunity Cost (SOC): • The minimum amount of money the suppliers are willing to accept to provide the firm with the needed resources. • Firm Cost (FC): • The actual amount of money the firm disbursed to acquire the resources needed to create its product or service. • Customer Willingness to Pay (CWP): • The maximum amount of money the firm’s customers are willing to spend in order to obtain the firm’s product. • Total Value Created (TVC): • The difference between customer willingness to pay and supplier opportunity cost. • TVC = CWP – SOC. © Gabriele Piccoli

8. Supplier Opportunity Cost • A rational supplier will only provide the firm with its services if it receives at least the same sum of money they would have received from any other buyer • SOC is NOT the amount that suppliers will be paid (the firm cost) • It is the theoretical minimum they will accept © Gabriele Piccoli

9. Customer Willingness To Pay • Value is in the eyes of the customer • Value is generated when • Customers is willing to pay to acquire whatever the firm has created • This amount is larger than the supplier opportunity cost © Gabriele Piccoli

10. Supplier opportunity cost Coffee Shop willingness to pay Value continuum $11 $20 Total value created in the cake-making transformation process: $9 Total Value Created • Value is created when resources that in their next best used would be worth a given amount are transformed into something that a customer is willing to pay more for. © Gabriele Piccoli

11. Total value created in the cake-making transformation process: $9 Supplier opportunity cost Your Firm’s cost Coffee Shop willingness to pay Price Value continuum $11 $12 $20 $18 Supplier Share Your Firm’s Share Coffee Shop’s Share Appropriating the Value Created • TVC only tells us if there is an opportunity to make a profit. • Value appropriation: • The process by which the total value created in the transaction is allocated amongst the entities who contributed to creating it © Gabriele Piccoli

12. Total value created in the cake-making transformation process: $9 Supplier opportunity cost Your Firm’s cost Coffee Shop willingness to pay Price Value continuum $11 $12 $20 $18 Supplier Share Your Firm’s Share Coffee Shop’s Share Cake-Making Example • Supplier opportunity cost = $11 • Ingredients =$4 • Time = $6.5 per hour • Electricity and delivery = $0.5 • Firm cost = $12 • Ingredients =$5 • Time = $6.5 per hour • Electricity and delivery = $0.5 • Price = $18 • Customer willingness to pay = $20 • Value Appropriation • The suppliers appropriate $1.00 in excess profits • You appropriate $6.00 in excess profits • The customer, the gourmet coffee shop, appropriates $2.00 in savings © Gabriele Piccoli

13. Added Value • The portion of the total value created that would be lost if the firm did not take part in the exchange • The unique portion of the total value created that is contributed by the firm itself • It depends on the effects of existing competition • Added value = $0 when you facecompetitors with • Same cost structure • Perfect substitutes of your products © Gabriele Piccoli

14. Pricing Considerations • Price becomes important to gauge what portion of the value created each entity partaking to the transaction can appropriate. • No matter how much value your firm contributes to creating, unless you can be (at least in part) unique in your value creation, you will quickly compete this value away to customers. © Gabriele Piccoli

15. Competitive Advantage • The maximum amount of value that a firm can appropriate equals its added value. • Added value is a measure of its competitive advantage • It measures the extent to which the firm is able to do something: • Unique • Valuable © Gabriele Piccoli

16. Supplier Opportunity Cost Coffee Shop willingness to pay Your Firm $13 $23 Cousin Bettie’s Firm $11 $20 Your Firm’s Added Value: $1 Creating Added Value • Creating unique characteristics of your cake • Increase in SOC = $2 • Increase in CWP = $3 • Added value created = $1 © Gabriele Piccoli

17. Customer willingness to pay Supplier opportunity cost Two Ways to Create New Value • Increasing Customer Willingness to Pay: • Doing something of value for customers • Investing incremental resources to increase CWP by a larger amount • Decreasing Supplier Opportunity Cost • Creating incentives for suppliers to supply the with needed resources for less money © Gabriele Piccoli

18. Some Considerations • Value is in the eye of the customer • Customer willingness to pay is not the same as price • Value can be tangible or intangible • Creation of value is not the same as appropriation of value • Competitive advantage and added value are closely related © Gabriele Piccoli

19. Added Value Analysis • Clearly define the initiative and understand what it entails • Identify the comparison • Estimate Customer Willingness to Pay • Estimate Supplier Opportunity Cost • Estimate Added Value © Gabriele Piccoli

20. Strategic Information Systems • A firm achieves competitive advantage when: • It is able to generate added value • By creating a unique and positive difference between CWP and SOC. • Strategic information systems • Information sytems used to support or shape the competitive strategy of the firm • Designed and implemented to enable the creation and appropriation of value © Gabriele Piccoli

21. Strategic Information Systems • Defined by their purpose and the objective with which they are created • No need for proprietary IT: • Technology alone does not determine added value. • The initiative and its Information System underpin the firm’s value-creating strategy. • Tactical systems are: • Critical to business operations • But do not generate added value. © Gabriele Piccoli

22. IT-dependent Strategic Initiative IT-Dependent Strategic Initiatives IT-dependent strategic initiatives consist of identifiable competitive moves (or projects) – designed to lead to sustained improvements in the firm’s competitive position – that depend on the use of IT to be enacted. © Gabriele Piccoli

23. Do not focus on IT Investments IT-dependent strategic initiative consist of the configuration of an activity system, dependent on IT at its core that fosters the creation and appropriation of economic value. IT investments only pay off if they are part of a larger and cohesive information system design © Gabriele Piccoli

24. What we Learned • Define key terminology, including the concepts of total value created, customer willingness to pay, supplier opportunity cost, and added value. • Learn to compute total value created and added value. • Learn to estimate the portion of the total value created that will be appropriated by each of the entities who contributed to its creation. • Differentiate between strategic information systems and tactical information systems. • Define and utilize the concept of IT-dependent strategic initiatives. © Gabriele Piccoli