Creating value
Charles E. Bamford
Value creation is the act of obtaining rents (widely defined as financial, social, or personal) that exceed the total costs (which may or may not include average rates of return for a particular industry) associated with that acquisition. More specifically, value creation is any outcome that has a positive utility (which may be economic or non economic in nature) for any member of the subsystem (Habbershon, Williams, and Mac Millan, 2003). A more micro financial value as sessment of value would include economic profits that refer to income above and beyond the cost of production, including interest and a normal return on capital. ‘‘Value is created by transforming inputs into products. The product is the medium for transferring value between the firm and its customers’’ (Stabell and Fjeldstad, 1998: 416).
The opportunity for creating value lies within market response timing under the assumption of market equilibrium, with unique resource bundles under the assumption of market dis equilibrium, or as a result of creative discovery under an approach that examines the results of an individual or group of individuals’ exploita tion of an opportunity. 48 creating value
Three conditions underlie the ability to create value under conditions of market equilibrium. The first condition of general equilibrium is that the products within a market are relatively homogeneous (Hayek, 1948). Under this scen ario, few differences exist between the character istics of the products sold by each market participant; consequently, buyers distinguish between alternative offerings solely on the basis of price. A second condition is the relatively static quality of markets, where it is assumed that any changes in the supply or demand characteristics are quickly and efficiently matched by the reactions of consumers and/or producers. These rapid moves depend upon a third condition: perfectly competitive markets and, therefore, complete information (Hayek, 1948). Consumers must have perfect knowledge of market offerings, and producers must have complete information on market character istics, production technologies, and sources of supply.
The outcome of these three conditions is that price quickly moves to marginal cost and no value is attainable after a short period of time. The quantity supplied is assumed to be equal to the quantity demanded, and thus the market clears in a quick manner. The value creation under these circumstances exists solely with market timing.
As we relax these assumptions, deterministic predictions become less applicable. The removal of the assumption of homogeneous demand and supply has a number of implications for the character of markets. Within economics, the basic unit of analysis is the industry and the presence of differences in demand curves within an industry (heterogeneous demand) implies that some producers will attempt to serve that heterogeneity through product differentiation (Porter, 1980). Thus, the existence of hetero geneous demand will lead to heterogeneous supply, whereby producers offer products which vary from those of other producers according to the desires of separate market groups. Likewise, economic actors may have unique characteristics that differentiate them from others who serve the same market. There fore, under this approach, value is created through superior knowledge of the characteris tics of demand, unique methods of production, sources of supply, unique information, or means of distribution.
A third approach to value creation assumes that the value is created by entrepreneurs who discover an opportunity and exploit that within the market (Schumpeter, 1934). That is, Schumpeter saw the entrepreneur as the initi ator of creative destruction and as the cause of constant change in the economy. Thus, rather than reacting to changes in the market, the entre preneur is the creator of change that pushes the market into a state of disequilibrium.
Under this scenario, the entrepreneur, as the innovator within a market, achieves creative de struction in one of five ways (Schumpeter, 1934: 66):
- the introduction of a new good or level of quality;
- the introduction of a new method of production;
- the opening of a new market;
- the conquest of a new source of supply;
- the carrying out of the new organization of any industry.
This approach implicitly assumes imperfect in formation, without which there would be no opportunity to obtain entrepreneurial rents.
An entrepreneurial discovery occurs when someone
makes the conjecture that a set of resources is
not put to its ‘‘best use’’ (i.e., the resources are
priced ‘‘too low,’’ given a belief about the price at
which the output from their combination could be
sold in another location, at another time, or in
another form). If the conjecture is acted upon and
is correct, the individual will earn an entrepreneurial
profit. (Shane and Venkataraman, 2000: 220)
One of the truly compelling elements of entre preneurship research is a systematic examination of value creation. While it has generally been examined as a financial construct, value would appear to be a condition that would extend beyond the financial to include social and per sonal positive utility. It is also fundamentally grounded in the starting position/perspective of the entrepreneur.
The exploitation of an entrepreneurial opportunity
requires the entrepreneur to believe that the
creating value 49
expected value of the entrepreneurial profit will be
large enough to compensate for the opportunity
cost of other alternatives (including the loss of
leisure), the lack of liquidity of the investment of
time and money, and a premium for bearing uncertainty.
(Shane and Venkataraman, 2000: 223)
There have been some very promising, well designed research efforts in this area of value creation. Erkko and Yli Renko (1998) developed an innovative examination of value creation that is grounded in both transaction cost economics and the resource based view of the firm. They provide a series of value creating mechanisms for entrepreneurs. Vozikis et al. (1999) examined value creation as a function of firm outputs rather than primarily accounting measures. Zahra and George (2002) utilized dynamic cap abilities to generate wealth by upsetting the equilibrium of markets. Finally, Young, Sapienza, and Baumer (2003) found that value creation depended upon both innovation and knowledge sharing with strategic partners. This creative destruction enables new knowledge to replace less capable knowledge systems and pro vide positive value along multiple dimensions for new firms. The investigation of value cre ation by direct entrepreneurial endeavors has the potential to open a window onto the examination of opportunity analysis, persistence, and perhaps even existence.
Bibliography
Erkko, A. and Yli-Renko, H. (1998). New technologybasedfirms as agents of technological rejuvenation. Entrepreneurship and Regional Development, 10 (1): 71 93.
Habbershon, T., Williams, M., and MacMillan, I. (2003). A unified systems perspective of family firm performance. Journal of Business Venturing, 18 (4): 451 65.
Hayek, F. A. (1948). Individualism and Economic Order. Chicago: University of Chicago Press.
Porter, M. (1980). Competitive Strategy: Techniques for Analyzing Industries and Competitors. New York: Free Press.
Schumpeter, S. (1934). Capitalism, Socialism, and Democracy. New York: Harper and Row.
Shane, S. and Venkataraman, S. (2000). The promise of entrepreneurship as a field of research. Academy of Management Review, 25 (1): 217 26.
Stabell, C. and Fjeldstad, O. (1998). Configuring value for competitive advantage: On chains, shops and networks. Strategic Management Journal, 19: 413 37.
Vozikis, G., Bruton, G., Prasad, D., and Merikas, A. (1999). Linking corporate entrepreneurship to financial theory through additional value creation. Entrepreneur ship: Theory and Practice, 24 (2): 33 43.
Young, G., Sapienza, H., and Baumer, D. (2003). The influence of flexibility in buyer seller relationships on the productivity of knowledge. Journal of Business Re search, 56: 443 51.
Zahra, S. and George, G. (2002). The net-enabled business innovation cycle and the evolution of dynamic capabilities. Information Systems Research, 13 (2): 147 50.
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