1.2. Features of the Value Chain Approach
A Market System Perspective
Taking a value chain approach necessitates understanding a market system in its totality: the firms that operate within an industry—from input suppliers to end market buyers; the support markets that provide technical, business and financial services to the industry; and the business environment in which the industry operates. Such a broad scope for industry analysis is needed because the principal constraints to competitiveness can lie within any part of this market system or the environment in which it operates. While it may be beyond the capacity or mandate of a donor or implementing agency to address certain constraints, the failure to recognize and incorporate the implications of the full range of constraints will generally lead to limited, short-term impact or even counter-productive results.
The decision of where to intervene in a value chain should be primarily driven by the end goal of sustainable economic growth with poverty reduction. Interventions that target a particular part of a value chain (e.g., processing) or group of beneficiaries (e.g., small-scale producers) must therefore be designed and implemented:
- within the context, and with an understanding, of the value chain as a whole; and
- with an explicit focus on benefits to MSEs and the poor.
A Focus on End Markets
The end markets into which a product or service is sold—whether local, regional or international—provide the opportunities and set the parameters for economic growth. Generally there are multiple actual and potential end markets, each with different demand characteristics and returns. It is therefore important to segment the market: outline each of the potential end markets, what is required to compete in them, and what benefits and risks can be expected by selling into them. Since end markets are dynamic, the identification of trends should complement information about the current situation.
By benchmarking key attributes (e.g., quality, price, reliability of supply, flexibility, time from order to delivery) against competitors, industry stakeholders can see where they have a competitive advantage and where they need to upgrade in order to compete. The information needed for benchmarking can often be obtained through simple interviews with end-market buyers; secondary information alone is generally insufficient.
Buyers can often also provide information on market trends. Using market-trend information, together with information about the capacity and constraints within the value chain and its environment, industry stakeholders can develop a strategy to position themselves in the market: competing through a combination of price, quality and innovation. To sustain end-market competitiveness, this strategy will have to be continually revised in response to changes in the end markets, in the enabling environment or within the chain itself. Additionally, inter-firm relationships need to be such that firms are able and willing to act cooperatively in response to new threats and opportunities in the end market over time.
Understanding the Role of Value Chain Governance
Value chain governance is a concept that is fundamental to the value chain approach. Governance describes which firms within a value chain set and enforce the parameters under which others in the chain operate. Embedded in governance are inter-firm relationships, power dynamics—both symmetrical and asymmetrical—and the distribution of benefits. While the form of value chain governance is influenced by the characteristics of the product and the degree of specification in the end-market, governance patterns evolve over time with changes in markets, products and inter-firm relationships.
Increasing the competitiveness of a value chain typically requires an emphasis on consistent product quality, traceability and on-time delivery. These changes, in turn, often require a different relationship between buyers and sellers to exert the control needed to meet the demands of higher value markets. Importantly, governance pat-terns also affect the ability of in-country supply chains to integrate into global markets. Where there are no systems for introducing global standards, national value chains are excluded from global opportunities. Without knowledgeable and resourced lead firms providing information on end market demand and services to facilitate upgrading, in some cases, it is impossible for a value chain to become or remain competitive. Thus, value chain governance is a level of organization that facilitates or hinders upgrading and the ability to respond to market changes, especially in global markets.
Recognition of the Importance of Relationships
The quality of relationships between different stakeholders is a key factor affecting the functioning of a value chain. Strong, mutually beneficial relationships between firms facilitate the transfer of information, skills and services—all of which are essential to upgrading. Value chain opportunities and constraints generally require a coordinated response by multiple firms in the chain—which necessitates trust and a willingness to collaborate. The value chain approach therefore emphasizes a dynamic that has long been recognized: Social capital (networks of relationships and social institutions) are critical to business and competitiveness.
In contrast to much enterprise development work in the past, the value chain approach seeks to do more than solve specific identified production and marketing problems. Directly solving problems may create some initial momentum, but building internal capacity to address value chain constraints will empower stakeholders, reduce dependency and ensure sustainability of investment impacts. The focus of the value chain approach is there-fore on transforming relationships—particularly between firms linked vertically in the value chain—to:
- facilitate upgrading to become competitive, and
- adapt to changes in end markets, in the enabling environment or within the chain to remain competitive.
Factors Influencing Relationships
The nature of relationships is defined by a number of factors, including:
- supply and demand market dynamics
- the degree of control needed during production and processing to meet market requirements
- the capacity of producers
- the need for support services and the capacity of service providers
- socio-economic and cultural factors
Ongoing Analysis and Learning
Most value chain development projects operate in highly dynamic markets. In these markets, prices fluctuate, standards change, new competitors arise, and policies shift. No matter how well it is conducted, a project’s initial value chain analysis is likely to be out-of-date to a greater or lesser degree during the later years of the project. The analysis must therefore be updated periodically.
Furthermore, value chain development projects try to influence behavior. They encourage firms and individuals to take on new practices, adopt new technologies, sell into new markets, and create new kinds of market relationships. But market actors each respond differently to different incentives, depending on their risk tolerance, skills, capacities and experience. It is therefore not possible to predict with certainty how individuals, firms or industries will respond to project initiatives. Achieving successful outcomes in such a context requires continual learning to identify what is working and under what conditions, a periodic reassessment of project assumptions, and ongoing adaptation of interventions in response to project learning and changes in the operating context.