c Value Chain Governance

“The concept of ‘governance’ is central to the global value-chain approach. We use the term to express that some firms in the chain set and/or enforce the parameters under which others in the chain operate. A chain without governance would just be a string of market relations”

(Humphrey & Schmitz, 2001, pg. 20).

Figure 11: The integrator model

However, both Sturgeon (2001, pg. 16-17) and Heuskel (1999, pg. 36), at the turn of the century, claimed that this type of fully integrated value chain was becoming less common and that one is was more likely to encounter a number of independent firms along the value chain which take on different functional roles. Indeed, at the time of writing, Heuskel (1999, pg. 36) suggested that fully integrated value chains were gradually becoming more and more disintegrated, with individual components of the value chain becoming marketable activities themselves. More recently, Hirt and Willmott (2015, pg. 2) appear to confirm that this is still often the case when they write that particularly “the ‘plug and play’ nature of digital assets causes value chains to disaggregate” (Hirt & Willmott, 2015, pg. 2).

Gereffi et al. (2001, pg. 6) suggest that lead firms repeatedly take advantage of their influence on the value chain and outsource production or production-related activities to their suppliers. At the same time, the lead firms themselves shift their focus to specifically working on product

development and marketing (Gereffi et al., 2001, pg. 6). The model by Sturgeon (2001, pg. 13) also implies that lead firms mainly undertake activities related to product design and product strategy development while delegating all other value chain activities to independent suppliers or distributors. Heuskel (1999, pg. 64-65) refers to such companies that focus mainly on brand management as ‘orchestrators’.

As he puts it, orchestrators have the ability to combine pre-existing value chain activities in a new or better manner, whereby they ‘orchestrate’ the interactions between value chain actors. Hence, optimizing coordination along the value chain becomes a major value-creating business model for the orchestrator (Heuskel, 1999, pg. 64). Factors that allow the orchestrator to maintain a

relatively powerful position are for example, a strong, recognisable brand, or superior knowledge about customer segments (Heuskel, 1999, pg. 65-66). Such factors make suppliers dependent on

Adapted from: Heuskel, D. (1999). Wettbewerb jenseits von Industriegrenzen: Aufbruch zu neuen Wachstumsstrategien. Frankfurt/New York: Campus Verlag, pg. 69.

the orchestrator, as they represent the keys to accessing certain markets (Heuskel, 1999, pg. 66).

Figure 12 conceptualises how Heuskel (1999, pg. 56) imagined the value chain of an orchestrator to look like. Again, one can see a sequential value chain in which the flow of value-creation is represented by the black arrow and the light blue elements. However, the second and the third (from the left) value-adding activities are located outside the dark blue rectangle representing the lead firm, meaning that they are outsourced to third parties that are largely controlled by the lead firm – i.e. the orchestrator.

Figure 12: The orchestrator model

Yet Sturgeon himself acknowledges later on that the most powerful player within a value chain are not always those that design and develop a brand or product, but that it can just as much be a large retailer or a component supplier (Sturgeon, 2001, pg. 17). Humphrey and Schmitz (2001, pg. 19) also support the claim that those specialising in marketing and branding are not the only types of lead firms when they write: “The fact that these lead firms are just as likely to be retailers or brand-name companies (Tesco, Marks & Spencer, Gap, Nike) as manufacturers is one of the key insights of global value chain research” (Humphrey and Schmitz, 2001, pg. 19).

As a matter of fact, despite the claims made by Gereffi et al. (2001, pg. 6) about the focus of many value chains’ power lying in the hands of those firms that predominantly work on product development and marketing, even Gereffi (1994, pg. 97), several years earlier, did distinguish between buyer-driven and producer-driven commodity chains. As he put it, buyer-driven

commodity chains are those dominated by powerful retailers, brand-named merchandisers as well as trading companies which set up decentralised production networks, something that is

commonly encountered in consumer goods industries (Gereffi, 1994, pg. 97). Producer-driven commodity chains, on the other hand, are characterised by the presence of large integrated industrial companies which exert control over the entire production system (Gereffi, 1994, pg.

Adapted from: Heuskel, D. (1999). Wettbewerb jenseits von Industriegrenzen: Aufbruch zu neuen Wachstumsstrategien. Frankfurt/New York: Campus Verlag, pg. 56.

97). These types of firms are analogous to the integrated firm discussed by Sturgeon (2001, pg.

16).

However, there also exist firms that derive a competitive advantage, not from being able to control the value chain at large, but from specialising in one particular step of the value chain (Heuskel, 1999, pg. 57-58). These so-called ‘layer players’ take advantage of scale economies and know-how in certain sections of the value chain and bundle their competences in order to offer the value-adding service independently and across industries (Heuskel, 1999, pg. 57-58). In doing so, they are able to be profitable in fields that often represent the least profitable value chain activity for fully integrated firms, such as, for example, production (Heuskel 1999, pg. 60-61). Figure 13 depicts the cross-industry activities of a layer player. In this model, the three arrows each represent the value chains of different industries. The dark blue rectangle

representing a single firm is now vertical and encompasses the third (from the left) value-adding activity of each industry value chain. As such, the firm carries out the same value-adding activity for different industries – i.e. a layer.

Figure 13: The layer player model

Furthermore, if such actors that specialise on specific parts of the value chain can produce an offering that is so superior to those of competitors, it can, in fact, reconfigure the value chain in such a way that it can add a new ‘layer’ to it (Heuskel, 1999, pg. 61). In this case, they can actually set the rules and the playing field of this new market and reap the benefits of being the pioneer in this field (Heuskel, 1999, pg. 61). As do layer players, these ‘market makers’, as they are referred to by Heuskel, leverage their knowledge advantages in order to become dominant

Adapted from: Heuskel, D. (1999). Wettbewerb jenseits von Industriegrenzen: Aufbruch zu neuen Wachstumsstrategien. Frankfurt/New York: Campus Verlag, pg. 58.

players in their newly created market which can transcend industry boundaries (Heuskel, 1999, pg. 62). Figure 14 represents a visualisation of how market makers inject new value-adding activities into the value chain. In the figure, the third (from the left) value-adding activities of the three industry value chains (as presented in the layer player model) are absent. This is due to the fact that certain value-adding activities are non-existent until a market maker creates a market for them. Therefore, one can see how the dark blue oval representing the market maker comes in between certain adding activities to offer its unique expertise on a newly developed value-adding activity that enhances the value chains of each industry, and which could not be carried out by a lead firm to the same quality standard.

Figure 14: The market maker model

Alternatively to the models introduced by Heuskel (1999, pg. 56-69), Gereffi et al. (2005, pg. 83-84) discuss how value chains can be integrated to varying degrees, thereby proposing five general governance types. Here, markets and hierarchies represent the opposite ends of the spectrum.

According to the authors, hierarchies imply full vertical integration, as is the case with the producer-driven value chain as discussed by Gereffi (1994, pg. 97) and the integrated firm mentioned by Sturgeon (2001, pg. 16). It is stated that this governance form tends to arise where it is important for tacit knowledge to be passed on between value chain actors, and where the lead firm is unable to find competent suppliers due to the products’ complexity. Markets on the other hand, are situations in which many suppliers are available, little coordination of transactions is needed due to the relatively low levels of complexity, and switching costs between suppliers are also low (Gereffi et al., 2005, pg. 83-87).

Adapted from: Heuskel, D. (1999). Wettbewerb jenseits von Industriegrenzen: Aufbruch zu neuen Wachstumsstrategien. Frankfurt/New York: Campus Verlag, pg. 62.

In between these two ‘extremes’, value chains can also take on the forms of modular value chains, relational value chains, and captive value chains. Suppliers in modular value chains supply custom made or ‘turn-key’ services, but maintain full responsibility for their process technology and competences (Gereffi et al., 2005, pg. 84). The suppliers in the modular value chain therefore correspond to the turn-key suppliers introduced by Sturgeon (2001), who also notes how they “provide a full-range of services without a great deal of input by lead firms”

(Sturgeon, 2001, pg. 17).

Transactions between suppliers and buyers in relational value chains are more complex as both actors are more dependent on one another (Gereffi et al., 2005, pg. 84). This is the case when product specifications are difficult to codify, much tacit knowledge is exchanged, and high levels of trust are involved (Gereffi et al., 2005, pg. 86). Finally, captive value chains are those in which the supplier is highly dependent on the buyer and receives detailed instructions and product specifications from the buyer (Gereffi et al., 2005, pg. 86). Here, lead firms extensively monitor and control the activities of the supplier and attempt to ‘lock-in’ suppliers so as to prevent

competitor firms from benefitting from the supplier’s efforts (Gereffi et al., 2005, pg. 86). Figure 15 provides a visual illustration of the five types of value chain governance described by Gereffi et al. (2005, pg. 83-87), whereby the thin black arrows stand for transactions based on price and the thicker block arrows stand for more in-depth transactions characterised by high levels of control.

Figure 15: Five general types of value chain governance

When looking at Figure 15, on the far left, one can see the market in which customers have access to a number of suppliers with whom the relationship is very superficial, as their

transactions are solely based on price. Second from the left the modular value chain, in which the lead firm instructs the turn-key supplier to deliver a whole turn-key solution, is presented,

wherefore their relationship is much more in depth, as there is more at stake. On the other hand the turn-key supplier has several more loose relationships with its individual component suppliers from whom it sources raw materials, parts, or components. In the middle, the relational value chain shows a situation somewhat similar to the modular value chain, only that the relationship between the lead firm and the relational supplier is much more complex than between the lead firm and the turn-key supplier and doesn’t end with the delivery of a turn-key solution. Also, the degree of coordination and power asymmetry is larger, as the relational supplier is dependent on a continuous relationship with the lead firm. Next, the captive value chain (fourth from the left) shows one powerful lead firm that exerts control over all its individual suppliers, without there being a ‘middle man’ in the form of a turn-key or a relational supplier. Finally, on the far right, a hierarchy can be seen in which the value chain, as was mentioned above, is fully integrated by the one firm.

Source: Gereffi, G., Humphrey, J., & Sturgeon, T. (2005). The governance of global value chains. Review of international political economy, 12(1), 89.

If one compares Gereffi et al.’s (2005, pg. 83-87) general types of value chain governance with Heuskel’s (1999, pg. 57-69) value chain models, some similarities become apparent. Obviously, the hierarchy is essentially the same as what Heuskel (1999, pg. 68-69), as well as Sturgeon (2001, pg. 16) for that matter, refer to as a fully integrated value chain. At the same time, the captive value chain has similarities with Heuskel’s (1999, pg. 64-65) orchestrator model, in that the lead firm outsources activities to suppliers whom it controls relatively tightly. The modular value chain, on the other hand, can be compared somewhat to the layer player (Heuskel, 1999, pg. 57-58), or even the market maker (Heuskel, 1999, pg. 61-62) models, due to the more equal balance of power between the lead firm and the turn-key supplier, as well as the latter’s focus on delivering an entire solution on which it is specialised.