December 2009

... [We] challenge the traditional notion of value and its creation, namely, that firms create and exchange value with customers. We believe that, increasingly, the joint efforts of the consumer and the firms – the firm’s extended network and consumer communities together – are co-creating the value through personalized experiences that are unique to each individual customer. This proposition challenges the fundamental assumptions about the industrial system – assumptions about value itself, the value creation process, and the nature of the relationship between the firm and the consumer ... and reveals unprecedented opportunities for value creation and innovation.”

The Future of Competition: Co-creating Unique Value with Customers

Value co-creation is an emerging concept in business, marketing and innovation management. Its growing interest points to the emergence of a new semantic wave in innovation research that requires the adoption of new terminology, frameworks and fields of research exploration. There is a number of existing research streams that provide a solid starting point in the discussion of different perspectives on co-creation. One key research aspect that needs to be further addressed is the potential benefits from the adoption of value co-creation practices and strategies.

This article shares insights from an attempt to position the value co-creation paradigm within an integrative vision for innovation management research and practices. This positioning is a challenging task as the meaning of the terms "value co-creation" and "integrative" innovation management need to be more fully clarified. We attempt to identify an appropriate plane of conceptual integrity that could be used to describe the innovation management field within the context of its relation to value co-creation.

The Changing Nature of Innovation

Over the last decade there has been a shift away from a purely product-centric thinking about the nature of innovation. Midgley identifies several important aspects of this ongoing shift:

1. A more holistic view of innovation as the total value offered to the customer. In typical product-driven market offers, there are many elements, in addition to the product features, that are of equal or greater importance. These elements increasingly involve services which are built in or developed on top of the products and open new value dimensions to customers. For example, services providing more transparency in terms of multiple options-based pricing lead to higher customer confidence and become a valuable component of the overall customer experience. For example, Hotwire and Expedia are two Internet platforms used to purchase airplane tickets, rent cars and book hotel rooms. In Hotwire, the customer can not see the name of the specific hotel before the final payment. As a result, Expedia is more successful in terms of customer market share.

2. Innovation is about finding the right combination of customer benefits. In a world of customer activism, Internet connectivity, and communications, providing more benefits is not necessarily better. Too many or unnecessary benefits lead to higher pricing and to an exclusion of market segments that are not willing or able to pay. A thoughtful design of the combination of product benefits opens the possibility to provide value to new customer segments that do not need the full variety of available benefits and could become an opportunity for a low-end reinvention of a given product or service.

3. Innovation may affect all of the constitutive dimensions of the business model. This aspect is associated with the nature of the specific business models used by firms to profit from the innovation. In other words, business modeling has become part of the innovation management field. The discussion of this third aspect is more holistic and requires a conceptual representation of what a business model is.

4. The successful management of innovations may include the innovation of management. Some types of innovations are different and radical enough to require the innovation of management tools and practices. This is associated with an entire reinvention of the way things are done at all company levels and could be highly impactful. New and innovative ways of management can produce dramatic shifts in competitive position and have allowed companies to go beyond the accepted levels of performance thresholds. Hamel points out that it could create a long lasting advantage when it meets one or more of three conditions: i) it is based on a novel principle that challenges existing rigid management practices; ii) it is systemic and encompasses a range of processes and methods; and iii) it is part of an ongoing program of invention where changes and progress compound over time.

We adopt the framework suggested by Midgley and complement it with insights from Hamel to address the challenges associated with the innovation of management. We begin by introducing the key building blocks of value co-creation and integrative innovation management.

Defining Integrative Innovation Management

There are multiple perspectives that could be used to analyze the breadth and nature of different types of activities associated with the management of innovations. Even with a well defined preliminary understanding of these perspectives, it might be hard to find the common ground that could be used to go beyond a firm-centric, customer-centric or value chain-centric perspective. The field of innovation management is dynamic and in a continuously self-innovating mode, leading to the refinement of existing and the adoption of new concepts and frameworks. Many companies focus on the development of formalized routines and practices for managing innovations, but realize that some types of innovations are radical enough to require a reinvention of the existing management tools and practices.

An integrative view of innovation management can be addressed using at least three approaches: i) a process-oriented perspective (across); ii) a value network perspective (in-out); and iii) a cross-functional perspective.

The process oriented approach covers the variety of issues relevant to the multiple phases of the innovation process from early idea generation to market launch. This integrative perspective ensures that the entire variety of value creation activities is taken into consideration.

The value network perspective uncovers the nature of the activities, interactions, relationships, value contributions, motivations, and risks and benefits for all the actors involved, irrespective of the commitment and ownership of the contributions.

The cross-functional approach is multi-disciplinary and requires insights from engineering, natural sciences, management, and marketing. These insights uncover the different tensions and barriers as well as opportunities to fertilize innovation throughout the entire development process. The use of perspectives from technology management, psychology, sociology and marketing could develop a better understanding of customers’ innovation adoption mechanisms. Business strategy and organization studies provide insights on how to think about customer value and suggest better ways for firms to organize to deliver value. Studies on team performance could provide new ideas for selecting, organizing and managing the project teams developing the innovative solutions. Marketing and technology help to understand how project innovation teams can get breakthrough innovation insights from customers. Organizational change studies have developed principles that could be used by firms to successfully transform into innovation-focused enterprises. Marketing and business economics provide perspectives on how to build and compete in new and emerging markets. The real challenge consists in bringing all this knowledge together into practical guidelines and tools.

The Integrative Aspects of Business Model Innovation

Christensen et al. suggest that a successful business model comprises four components: i) a customer value proposition (CVP), describing the nature of the value that the company provides to customers; ii) a profit formula, describing the nature of the value that the company creates for itself, which includes the revenue model, cost structure, margin model, and resource velocity at which inventory and other assets are turned over; iii) key resources, describing the nature of the key assets that are used to deliver the customer value, which includes people, technology, participation platforms, equipment, and brands; iv) key processes, describing how the value is delivered to customers, which includes training, development, manufacturing, sales, and services.

One key point is that the terms “profit formula” and “business model” are not interchangeable since the way a company makes profit is only one component of the business model. Another key point is the identification of the resource elements that create value for the customer, the company, and its partners, including the way those elements interact. The constituent components of a business model are defined within the context of an integrated value creation process. The power of this model lies in the complex interdependencies as major changes to any of these four elements affect the whole value creation system. Successful businesses devise a stable value creation environment in which these elements bond to one another in consistent and complementary ways.

The role of technology can be twofold: as part of the technological products and services themselves, but also as part of the technological platforms enabling particular business processes. Chesbrough and Rosenbloom and Chesbrough identify six key functions of a business model within the context of technology-driven businesses:

1. Articulating the value proposition: the value created for users by a market offering based on a given technology.

2. Identifying the market segment: the users to whom the offering or the technology are useful and for what purpose.

3. Defining the structure of the value chain: within the firm required to create and distribute the offering.

4. Estimating the cost structure and profit potential: of producing the offering, given the value proposition and value chain structure chosen.

5. Describing the positioning: of the firm within the value network linking partners, suppliers and customers, including identification of potential complementors and competitors.

6. Formulating the competitive strategy: by which the innovating firm will gain and hold advantage over rivals.

Chesbrough extends the above definition to define open business models. Business model openness relates to the boundaries of an organization and its multiple transactions with external actors engaging in the value creation process. It also includes the transactions with customers and users in their role as providers of ideas and as co-developers, testers or distributors. One of the key insights of this business model definition is the distinction between a specific value chain and a value network as two different functions of the business model. This distinction sees the value network as a web of potential value chain configurations that could be actualized depending on customer demand.

Business model definitions include a whole set of integrated components, all of which provide potential opportunities for innovation and competitive advantage. The management of innovations at the business model level requires the study of the individual components and how they work together in a holistic way. This may include a complete repositioning of an existing product or service to serve unmet or unsatisfied customer needs, or creatively reconfiguring the interaction dynamics of the value network to enable a new and unconventional product or service delivery system. A fundamental understanding of the nature, diversity, dynamics and quality of the interactions between the different actors in the value creation process is key to the business innovation success of any company.

How relevant is business model innovation? According to a recent study, business model innovation, across all industries, shows the strongest correlation with operating margin growth. When a firm changes several aspects of its business model, that business model innovation is hard for competitors to duplicate and the company can benefit from significant growth and increasing profitability. Business model innovation could very well become the only way to deal with the discontinuous pace of change.

A Value Co-creation Framework

Value co-creation is associated with the opportunity to gain competitive advantage by developing unique competences, together with the appropriate organizational resources and technological capabilities, aiming at better satisfying customers’ demands for personalized products, services and experiences. We use the value co-creation framework suggested by Prahalad and Ramaswamy in The Future of Competition: Co-creating Unique Value with Customers. This framework has been found efficient, broad and profound enough to cover the multiple aspects of value co-creation.

Prahalad and Ramaswamy suggest describing value co-creation by means of four building blocks which comprise the DART framework:

Dialogue: at multiple points and with multiple partners within the value network encourages knowledge sharing and a mutual understanding between companies, their partners and customers. This provides an opportunity for customers to interject their view of value into the value creation process. It helps companies understand the emotional, social, and cultural contexts that shape consumer experiences and provides knowledge the companies can use to innovate. To initiate dialogue during co-creation requires a forum with clear rules of engagement that make for an orderly, productive interaction within emerging thematic communities.

Access: challenges the notions of openness and ownership. Providing customer access to resources, information, tools, assets and processes at multiple points across the value network provides companies with new business opportunities and expands the company’s view of new potential markets.

Risk: as customers become co-creators of value, they become more vulnerable to risk and will start demanding more information about the potential risks associated with the design, manufacturing, delivery and consumption of particular goods and services. Where good information is available, consumers, within the limits of their technical knowledge, should be able to make more informed choices. Proactive risk communication and management offers new opportunities for differentiation.

Transparency: is required to create the trust between institutions and individuals. Companies traditionally benefited from information asymmetry but this is no longer the case. When companies make vital business process information visible to consumers, they hand over part of the control of the value creation process to customers even before the traditional end-point of exchange. Transparency is increasingly becoming a component in differentiation strategies.

The DART framework provides a good starting point for discussing the key features of value co-creation platforms. However, the framework needs to be further refined to include the opportunities for personalized co-creation experiences and their dimensions of choice. Prahalad and Ramaswamy identify four dimensions of choice.

1. Co-creation across multiple channels: the choice of interaction channels by both customers and firms significantly shapes the nature of the co-creation experiences. Therefore, the co-creation experience should be actualized across multiple channels.

2. Co-creation through options: consumers want to define choices in a manner that reflects their own view of value. The company’s view of choices limits personalization because the company is designing options that fit its value chain in terms of profitability. Providing multiple options to customers to build their own combination of product features is not the end of the co-creation exercise. Enabling the possibility for customers to create their own options is another level of co-creation which opens the door for user-driven innovation.

3. Co-creation through transactions: consumers want to interact in their preferred language and style and firms should focus on enriching the co-creation experience through multiple transactions. Variety in transactions enables a choice of experiences such as in-store purchases, customer self-service, and Internet banking. Multiple transactions at multiple points of access enable people to express their personal views, to affect the way a product or service is designed, to reject unnecessary features, to negotiate a particular price component, or decide to get engaged in the value creation process. For the company, transactional efficiency leads to cost reduction, which leads to more captured value. For the customer, transactional modularity, ease and openness leads to trust and opens the opportunity for personalization based on a flexible price-experience relationship.

4. Co-creation through the ability to influence the relationship between price and experience: customers associate choice with the ability to become part of the type of experiences they are willing to pay for. They want the price of these experiences to be fair. Co-creation is not about cheaper product and services; it is about the fit between what a customer wants and how much they willing to pay. The possibility for this fit is key to the understanding of value co-creation and its impact on market development and profitability.

Designing Value Co-creation Platforms

Applying the DART framework requires a re-conceptualization of the common sequential understanding of the value chain into a complex and dynamic network of value-producing relations between producers, suppliers and consumers. Figure 1 demonstrates that the traditional linear value chain model is a sequence of business functions to be filled by a proper selection of the right partners.

Figure 1: Traditional Linear Value Chain Model

Figure 1

The traditional linear view of the value chain focuses on the design and optimization of a minimized number of business functions. This typically results in a single access point of exchange where customers select between a number of product or service options based on a company’s view of value and price. This view emphasizes the need for companies to identify and cooperate with the right partners and suppliers in making the value chain output predictable, manageable and repeatable. It is based on simplistic product-centric business models focusing on the development of the right combinations of features that would make a product or service most attractive to customers as compared to competitive alternatives. The company becomes knowledgeable about customer needs and preferences by means of market research, ethnographic studies, and expert views. The company could involve lead users at the early stages of development but, once the product is developed, it is targeted at all customers. No matter how good the company is in guessing, learning, or manipulating customer needs and preferences, the linear model works within the context of a “one product fits all” philosophy. The fundamental assumption is that value is built in products or services developed by the company for the customers. A key component is that companies create value by assigning features in the anticipation that this will make the products and services likable to the largest possible group of target customers. Customers have no access to the internal dynamics of the value chain and are left with a ‘yes’ or ‘no’ choice. It predefines the main operational concerns to optimization of the value chain, customer demand management, product and technology innovation, product diversity and support.

Some scholars define this way of doing business as driven by a Newtonian or mechanistic view of the world. In this value creation model, goods are embedded with value, produced away from the market or consumer, and sold through the manipulation of marketing-mix decisions that maximize firm profit. Customers are cut out of any opportunities to become part of the innovation process. The customer-centric motives of such a model are highly questionable.

Using similar terminology, the ‘quantum physics view’ occurs when companies move away from a company- and product-centric view and embrace platform oriented thinking. They engage in a fundamental shift from the idea of developing the best products and services to satisfy what they perceive as being critical customer needs to providing a participation platform for customers, partners and suppliers to cooperate and jointly co-create value. This shift fundamentally affects the understanding of the value chain and implies a shift to a new model which is open, non-linear, operationally parallel, and three dimensional. A visual representation of this platform is seen in Figure 2. The shift from a one to a three dimensional model is associated with a transformation into dynamic customer-driven value nets, constellations, or networks.

Figure 2: Visual Representation of a Value Co-creation Platform

Image:Tanev2.png

According to Raimo van der Klein, this transformation could be described in a number of steps. The first step is to clearly identify and modularize the business functions which constitute the generic building blocks of the initial linear value chain. While the emerging business modules should be clearly visible and distinguishable in the eyes of the customers, they should be experientially different. The second step consists in creating a choice of options for the modularized business functions. To do this, a company should extend its value chain into a network by finding multiple partners or suppliers that are able to add a degree of perceptible differentiation to a business function. The differentiation could be based on volume capacity, higher quality, lower cost, speed of delivery, or design flexibility, and should be clearly visible to customers. The third step consists in providing access points to each of the existing business modules within the newly extended value network.

The presence of multiple access points to all business function module partners transforms the extended value network into an open participation platform. It enables customers to dialogue, negotiate and make their own choice about who will be the provider of a specific sub-component of the product or service. Customer demand is the ultimate driver of a specific value chain trajectory out of the multiple configurations that are potentially available within the extended value network. In such a model, the specific features of the final market offer are not known in advance and depend upon each customer's preferences. Every actualization of a specific market offer is a potentially new creation. This differs from the traditional value creation model where market offers are predesigned and are the same for all potential customers. The key difference is the shift to a customer-driven and creative business model.

The characteristics of such a "quantum mechanical" model can be summarized as follows: i) there is an uncertainty principle at operation since the specific value chain trajectory is not known in advance; ii) there is a complementarity principle at operation since the output of a particular value chain configuration could be considered in two different and complementary ways: as an end product or solution or as a platform with a focus on the critical role of its network or partnership enabled value component; iii) the power of a value co-creation platform is determined by summing all potential value path configurations when calculating the probability for a given value output; iv) the role of the observer (the customer) is critical to the specific nature of the final outcome of the interaction; v) every value network partner is in a position to creatively affect the particular structure and functioning of the final value output; and vi) there is a place for the manifestation of non-local phenomena such as network knowledge and collective wisdom that provides an additional value dimension and that could potentially make a value co-creation platform more competitive.

Traditional vs. Emerging Value Creation Model

We now summarize some of the differences between traditional and emerging value creation models. The focus of co-creation is on personalization and not on customization. Options in a value co-creation platform include not only a choice of product features but also a choice of value chain partners and the possibility to become actively engaged in the value creation process as a co-producer, co-designer or co-developer. The choices in value co-creation are associated with customer or user driven innovation. In the traditional value creation model, lead users are not end users. A lead user’s insight about a particular new product or service may be important in terms of innovation but, once the product or service is designed and developed, it becomes one product for all customers. In this sense, the lead user operates within the framework of the traditional value creation paradigm. The value co-creation approach multiplies opportunities to provide a platform for a systematic involvement of lead users.

An Integrative Vision for Innovation Management

How does value co-creation fit into an integrative vision for innovation management by addressing the current challenges associated with the changing nature of innovation? The section below will provide a discussion of each of the challenges previously identified.

1. Value co-creation is about the total value offered to the customer. The first challenge is the shift from product-centric innovation to a more holistic approach that includes services. Value co-creation deals with a shift from products to platforms that include all the services needed to enable the participation of all the value network actors. One of the key research streams dealing with co-creation is the Service-Dominant Logic (SDL) approach to marketing where services, and not products, are considered as the main source of value. With SDL, products are just vehicles of value delivery and a product-centric view of marketing distorts the true nature of value creation. Customers are co-producers of services and value because they mobilize knowledge about the service process that affects the success of a value proposition. The study of platform architectures for service delivery is in line with value co-creation research. The danger is to miss the platform focus and look at co-creation platforms from a service perspective only. Value co-creation is about the design of participation platforms enabling seamless integration between products, services and experiences.

2. Value co-creation enables customers to get the right combination of customer benefits. The second innovation challenge is in providing the right combination of benefits to customers. Value co-creation platforms transform the problem into an opportunity by getting out of the guessing game and letting customers personalize the product or service. This approach is radical and provides a completely new way to look at marketing. Value co-creation platforms are participative by nature and provide a new type of value based on participation.

3. Value co-creation affects all of the constitutive dimensions of the business model. The third innovation challenge was associated with the fact that innovation includes all the building blocks of the business model and not just the particular characteristics of the market offer. The value co-creation paradigm changes the entire dynamics between the usual business constituencies, making every actor a source of new value for customers. A more detailed study of value co-creation business models should become an important subject of future research.

4. Value co-creation requires the innovation of management. The fourth innovation challenge was the need for the innovation of management itself. In value co-creation platforms, the focus shifts from product innovation and value chain management to the design of interactive experience environments. This focus makes it necessary for managers to experience and understand the business as customers do. Managers should engage in new types of practices that: i) provide as much real-time event-centric data as possible regarding the total customer experience; ii) understand and intervene in customer events as they manage the entire overall operation; and iii) respond quickly by mobilizing and reconfiguring resources as needed.

These new management practices cannot be considered apart from the technological infrastructures and business processes underlying the operation of the value co-creation platform. They require a complete reconsideration of how a company operates and cannot be approached within the context of a traditional value creation system. This is the main reason for the resistance of many of today’s managers to embrace value co-creation. Value co-creation is not efficient when using a traditional value creation process. It needs to be considered within the context of a new integrative vision for the management of innovations and for the innovation of management.

 

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