Is value creation the churning out of profits for firms every year?
There are many ways that companies can create value for their shareholders.
The business world is very complex and experiences rapid changes. In order to counter such events, management often has the temptation to try making very complicated strategies to respond to complex circumstances.
Strategy is about how to create, capture and sustain value. Every profit-making business is designed to earn returns and dividends for shareholders. Creating shareholder value is vital.
Broadly put, is value creation simply profitability? It might be for shareholders of large businesses but this may arguably be less true for smaller businesses. Every profit-making business is designed to earn a profit and a return to shareholders.
Over time, the focus on profit maximisation has changed to value maximisation, which also eventually translates to greater survival for businesses in this competitive environment. Companies can adopt various approaches to create value.
Value could be defined in many ways, but one can simply consider it to be the difference between the benefits enjoyed by the organisation’s various stakeholders and the cost to produce those benefits in a sustainable manner.
The principal aim of any organisation is to generate revenues and profits by creating value for persons for whom the work is being done in a sustainable way.
Motivating profitability
In order to do so, values must be identified and added. In order to create and maximise shareholder value, there are three main strategies for motivating profitability in a company; revenue growth, increasing profit margin and increased capital efficiency.
The question arises, what will drive the customers towards purchasing the products of the organisation in order to drive the revenue growth?
Real value creation could arguably be to meet customer needs. In 1954 Peter Drucker, one of the most widely known and influential thinkers on management, provided the insight “there is only one valid purpose of a firm - to create a customer.”
Value creation is mutual. Although the fundamental value of an organisation is to create shareholder worth, there has to be value creation among other stakeholders to enable the business to thrive. Organisations must generate value between the suppliers, customers, employees and society.
In order to survive, let alone thrive in the fast-moving digital marketplaces, which are consumer–centric, organisations must primarily focus on progressively meeting the changing needs of the customers.
Businesses will thrive if the excitement for the management is not actually seeing purely the economic value, but focusing on the product and strengthened workforce. There has to be an elaborate level of talent scale recruited and absorbed into the culture of the organisation.
Improving the skills sets of individuals on an ongoing basis is crucial. The teams have to be able to work together in congruence, with diligence and dedication. The entire workforces must have passion for what they are doing over a sustained period of time, then only will they deliver on the ever shifting requirements of the customers.
Organisations, which have ended up growing and being successful even in trying times have overcome adverse conditions as the management ensures the firms are dynamic so as to match the needs of the customers. Leading by example usually works. Where the leaders love what they do, the teams persevere when the going gets tough.
Cost and pricing
Value creation can be maximised by focusing on strategies of sustained competitive advantage by working on the product, cost and pricing. Michael Porter in 1985 changed a lot of the dialogue within companies by his model the value-chain, and the theory stands strong today.
Value-chain analysis allows management of organisations to separate the underlying activities a firm performs in designing, manufacturing, marketing, and distributing its product or service to understand where the opportunities for improvement are.
Other value creation strategies could include identifying and building barriers to entry in order to keep the competitors at bay. The barriers to entry might be regulatory, patents for pharmaceutical industry, brand loyalty or economies of scale.
These barriers will discourage new entrants to set up. Management could also focus on a resource approach to value creation. This approach involves creating a premium product which is rare in supply, thereby creating value for customers who would pay a premium price for the “brand”.
Opportunity logic value creation could also be utilised whereby the management will assemble resources with an aim to be prepared to pursue new opportunities by infiltrating the market completely when the gap is visible.
Value creation will lead to the strengthening of the goodwill and brand, secure long term customers and eventually be profitable for the shareholders. True value emanates from teams that are charged and happy to create customers who are delighted by the services a company provides.
