New value nets are emerging already in the high-tech industry and are migrating quickly to other industries. When they appear, they drive dramatic value growth for their innovators—and drive laggards to distraction. Often, the new value nets are enabled by electronic commerce—but not always. An Internet-based front-end is not a prerequisite to designing an effective value net. Not all e-Commerce, moreover, is supported by adequate value networks.

Examples of Winning Value Nets

Let's examine a few companies that have designed winning value nets:

Dell and Gateway 2000

Both Dell and Gateway have emerged as market leaders in the PC sector by exploiting a direct-sales business design based on strong customer understanding. These companies hold little inventory and build computers to order, assembling complete, customized solutions on a customer-by-customer basis. By either telephone or Internet, customers can choose from a range of options along essential dimensions such as memory, storage, printers, monitors, and software. Once ordered, the product is typically built and delivered within three to five days.

This lean approach has enabled Dell and Gateway to reduce their inventory radically—down to 8 and 11 days, respectively. By transforming the traditional, linear process of assembly, warehousing, and shipping into a value net based on just-in-time sourcing, assembly, and configuration, Dell and Gateway have significantly minimized their asset intensity. While Compaq, for example, uses 47 cents of assets to generate each dollar of sales, Dell requires only 6 cents and Gateway 11 cents of every sales dollar. (Exhibit 2 shows the asset productivity indicators for Dell and Gateway.)

Cisco Systems

In the highly technical world of telecommunications network components, Cisco Systems has developed powerful customer solutions coupled with winning value nets. More than 73 percent of orders are received over the Cisco Web site. Equipment then is built on a just-in-time basis by contract equipment manufacturers that directly monitor Cisco's customer orders. Cisco computers add required software and test the product on site at the supplier. The supplier ships product directly to Cisco's customers in more than 55 percent of cases (and this percentage is rising). By linking suppliers and contract manufacturers through its digital value net, Cisco is able to outsource 70 percent of its production. This has enabled the company to quadruple output without adding capacity and has shortened the time-to-market for new products by 66 percent—to just six months.

Intel Corporation

Intel has responded to customers' demands for minimizing inventory by developing an innovative value net. The company established an extranet to link to its customers, track real-time inventory levels, and keep its suppliers informed. Intel now is developing spreadsheet tools to enable its customers to analyze their product demand trends based on past transactions with the company. In addition, Intel linked its customer extranet and order/shipment databases, cutting order confirmation time from 24 hours to mere seconds.

To satisfy customers' growing demands for just-in-time delivery, Intel also tightened its value net. First, the company developed Web-based tools to enable suppliers to design components that more closely matched Intel's needs. Second, Intel uses the Internet to reduce the time and paperwork of its supplier certification process.

Finally, Intel works with its suppliers to ensure that it can maintain minimal, but constantly replenished, inventories at its plants. Through electronic links, Intel notifies suppliers when it needs fresh deliveries of chemicals, silicon wafers, and solder. Intel eased supplier concerns about holding greater inventory (to enable Intel's minimal inventory operations) by providing free on-site consulting to improve inventory management, production cycle times, and quality control.

What do these winning value nets have in common? They all provide convenient methods for customers to make product/service choices. Solutions themselves are then built or customized to order. Speed is paramount throughout the process. Standard components are put together in rapid final assembly, often by suppliers or contract manufacturers; efficient distribution follows, preferably via direct delivery. Profitability is driven by a combination of customer satisfaction and productivity.

The Interlocking Value Net

The order-to-delivery cycle that meets customer needs can be viewed as an interlocking net of four major processes—choice, sourcing, assembly, and delivery. (See Exhibit 3.) Much has been made of the Internet, yet this is only one method of enabling customer choice and order placement. The ordering and product delivery processes are directly customer-facing, while the "back office" functions of sourcing and assembly are largely unseen by the customer. Each element must be designed to enhance accuracy, speed, revenue, and productivity. It is the seamless integration of all four aspects that results in a breakthrough value net. Most important, the integrated value net is not a linear, sequential process. Rather, the four major processes overlap and interlock to simultaneously provide a unique offering to each individual customer as follows:

• Choice. The customer must enjoy an optimal acquisition experience from two perspectives: (1) by being able to make a selection and place an order in as cost-effective and timely a manner as possible and (2) by having the opportunity to "design" a customized product from a relatively standard menu. Multiple methods of ordering, each appealing to different customer segments, further enhance the customer's experience. Examples include Internet-based approaches (all of the companies mentioned above offer Internet ordering), inventory-less showrooms (for example, Gateway), and customized direct-mail catalogs (Viking Office Products). Real-time product "design" will likely extend to automobiles as soon as auto manufacturers develop the ability to deliver a customized vehicle in a timely fashion. In fact, this is a key goal for companies like Volkswagen and Ford.
• Sourcing. The customer typically selects a tailored product consisting of a certain number of standard components. These components are manufactured by a select group of internal suppliers and external vendors that become part of the extended enterprise in which the relationship is long-term rather than transactional. This implies a nontraditional approach characterized by supplier involvement, joint product development, collaborative planning, risk sharing, and product-life-cycle management. Linked systems (e.g., Cisco) and staff co-location are typical methods that support these objectives. Dell Computer, in particular, has been adept at developing long-term sourcing relationships with suppliers, which deliver components to its assembly plants on an as-needed basis.
• Assembly. The assembly operation—once known as manufacturing—has been greatly simplified by virtue of the wholesale transfer of component and module design and construction to vendors. The shift toward modular components has enabled companies to offer customers choice and customization while accelerating the assembly process significantly. The entire system is designed for speed and responsiveness, which precludes a long and complex manufacturing operation. In modern value nets, we see final assembly totally eliminated (such as Cisco's direct shipment of product from vendor to customer), greatly simplified (see the Dell and Gateway examples), or postponed to a point much closer to the customer (for example, mixing paint at a retail outlet or inserting software manuals with the computer equipment at a customer-service center).
• Delivery. The nature of the delivery process also has changed significantly for many products. Computers that once took weeks to reach the customer, passing through a complex, multistep distribution system, now reach their destinations in a day or two. A similar acceleration can be seen in the ordering of books via Amazon.com or barnesandnoble.com. The service acceleration means that transport intensity increases as inventory levels decrease. For consumer convenience, outfits like Streamline, Webvan, and Peapod are arranging for grocery home delivery, requiring transport-intensive local networks. The delivery challenge will undoubtedly give rise to new parcel delivery innovations—combining speed, reliability, and services such as installation and maintenance. Traditional distributors and retailers will have to re-examine their value proposition thoroughly in the face of direct home and business delivery, automated replenishment, and product upkeep requirements.

The ability to design a value net that seamlessly integrates each of these elements lies at the heart of providing world-class customer solutions. And the fulfillment process itself will be differentiated according to customer needs and product characteristics. Each element must be effective, but the overall result depends on a strong holistic design and effective management of the whole.

These revolutionary, integrated value networks drive shareholder value in a number of important ways. Considering that value nets have a major impact on customer satisfaction and that their components typically account for over half of the cost structure of a product-based corporation, a superior value net is a critical part of successful business design. The characteristics and processes described above can deliver competitive advantage by providing differentiated customer value propositions, profit models to capture the value generated, an efficient scope of activities and assets, strategic control, and a system of operations that supports the overall business design and satisfies critical customer needs. By delivering competitive advantage, emerging value nets create positive shareholder value. And, as demonstrated by recent stock-market returns, leaders in innovative value-net design outperform their industries. (See Exhibit 4.)

Though many factors influence corporate performance and stock-market valuations, companies offering compelling customer solutions backed by powerful value nets are clearly winning in the marketplace. Fueled by information, speed, and agility, this value-creation mechanism fundamentally drives superior customer satisfaction while reducing the cost to serve. The value-net concept is a winning proposition—one that is likely to rapidly overtake traditional supply chains in almost every industry.

Value-Net Approach to Network Design

But how do companies proceed with a value-net approach to network design that will deliver on that promise? To begin to answer that question, we need to differentiate between the traditional design process and the value-net model. We then can turn to the rules for successful network design.

The typical objective of network design is to specify the optimal set of internal facilities and distribution flows that a company needs to serve its customers. The scope can include the number, size, and location of facilities such as assembly plants and distribution centers. The network design also defines supply sources, interfacility movements, and distribution to customers. These issues still are important in a value-net world. But in the new approach, the design scope expands to incorporate up front the strategic placement of the internal and external value-creating processes associated with the four elements of the interlocking net—choice, sourcing, assembly, and delivery. The resulting network structure has a significant impact on customer service and may well determine a company's ability to compete in the marketplace. Millions of dollars of operational cost and revenue can be affected.

Shortcomings of the Traditional Approach

The traditional approach to network design focuses heavily on modeling internal operational costs. These costs typically include transportation, warehousing, inventory, manufacturing, procurement, and administration. Often, network design is seen in terms of minimizing total cost subject to simplified customer-service "constraints." One such constraint might be to ensure that 90 percent of customers are located within two days' transit time of a distribution center. Another might be to ensure that the network can provide a 95-percent item fill rate. Computer-based network optimization tools are widely used to take these inputs and produce an "optimal" solution that minimizes total cost subject to these service constraints.

When considered in light of innovative value-net—based business designs, however, the traditional approach suffers from at least five deficiencies:

1. Design alternatives and modeling assumptions are constrained by the "as is" business model. Not enough up-front analysis is performed—first, to create a business model that exploits and clearly defines the value net's interlocking elements and, then, to understand how the network design can optimally support the new model. As illustrated in Exhibit 5, network design can affect all four components of the value net and its integration.
2. The focus is on internal operations. Instead of considering all components of the value net, from suppliers to consumers, the traditional design effort concentrates only on internal company processes. Suppliers, service providers, distribution intermediaries, direct customers, and consumers—all key components of a company's full value net—too often are excluded from the analysis or incorporated after the fact or in an ad hoc manner. This constrained approach fails to consider options that transfer value-adding processes to entities outside the company. To illustrate, with manufacturing companies, product assembly could be shifted to suppliers (for example, major subassemblies in the auto industry), located primarily at the manufacturer (Dell), shared with a value-added distributor (computer distributors and value-added resellers), or even partially left for the consumer (consumer assembly of "knocked-down" furniture products). Different value nets will lead to different network support needs, designs, and facility requirements.
3. The project charter is narrowly defined to minimize operating costs. Customer-service and revenue-enhancement objectives are too often considered secondary to cost minimization. Yet service and revenue enhancement are typically far more relevant to the company's long-term fortunes. The design process must seek to deliver the full potential of the company's value net. A more detailed understanding of customer segment needs and profitability may lead to a network design far different from one based on the average customer.
4. Too much effort is spent collecting and validating cost data. In a traditional approach, companies expend too much time and effort developing unrealistically precise estimates of internal operational costs. For example, transportation cost is usually defined in cents per pound for hundreds or thousands of feasible origin-to-destination lanes. Separate data may be compiled for different categories of product and for different transport modes. The effort required to collect and validate this information is significant. Clearly, the development of cost data is important. But more often than not, time and effort are wasted on unnecessary detail and "false" accuracy—at the expense of more valuable activities.
5. Too little time is spent on considering strategic alternatives, what-ifs, and sensitivity analysis. Sensitivity analysis, in particular, helps the network designers and senior management understand the relative importance of each cost and service consideration so that they can prioritize their efforts accordingly. For example, sensitivity analysis could show that alternative customer-choice or delivery options are more important to value creation than a detailed modeling of the fixed and variable cost in a specific distribution center. Conducting sensitivity analysis throughout the project lessens the danger of focusing on the wrong areas and missing the big picture.

Advantages of a Value-Net Design

The value-net approach to network design addresses the deficiencies outlined above. The process starts by tackling the strategic questions that go to the heart of a company's value net—and how the physical network will support that value net. These key questions can be grouped under the major processes of the integrated web—choice, sourcing, assembly, and delivery.

Choice

• Who are our most profitable customers today? And who will they be tomorrow?
• How will customers choose and acquire products?
• What will be the menu of product offerings and range of customized configurations?
• How will the network enhance the customer choice experience?

Sourcing

• Which value-adding processes should suppliers support and which should remain internal to the company?
• In a long-term strategic sourcing relationship, will co-located supplier-manufacturer facilities result in mutual advantage?
• Can certain suppliers bring strategic value as part of the extended network?
• How should the network interface with suppliers to create maximum benefit?

Assembly

• What assembly operations need to be supported?
• How can the network design facilitate choice, customization, speed, and responsiveness all at the same time?
• Where in the value net is assembly best performed—and by whom?

Delivery

• How will customers acquire their customized products?
• Will alternative distribution channels be needed for different product and customer segments?
• Will the network design need to support functions traditionally performed by distributors or retailers?

By addressing these fundamental questions up front, a company ensures that its physical distribution network will support the value net. Only when these questions have been fully addressed should management proceed to more specific network design issues.

Regardless of the technique used, the overall objective in network design remains the same: to design a network of facilities and distribution flows. Yet the new approach outlined here calls for a greatly expanded approach to the design process to support the emerging value nets. There is no one-size-fits-all approach. Nevertheless, certain basic principles of the value-net design process apply:

1. Understand the Strategic Context and Set Objectives Accordingly
   Addressing the fundamental questions will entail working with senior decision-makers to explore how the network design will contribute to and integrate with the overall value net. Additionally, network designers need to understand the critical leverage points that the design should provide—for example, removing uncertainty and increasing speed, revenue, and productivity. Project objectives then must be defined beyond traditional cost minimization to reflect the full strategic context and maximize shareholder value.
2. Expand Scope to Address the Full Value Net
   The scope of a typical network design project—the company's internal structure and flows—is only one part of the broader value net. Suppliers, service providers, other distribution intermediaries, customers, and consumers can all play key roles in emerging value nets. Excluding any of these players from the network evaluation could lead to over-investment in manufacturing capabilities, for example, when a value-net—driven analysis would have shifted more assembly processes to the supplier or even the customer. To avoid suboptimizing the internal network, companies need to take a broader approach that extends the analysis to all points in the value net.
3. Take a Top-Down Analytical Approach
   Having defined the strategic role and goals for the broader network, companies must next conduct a top-down design analysis. This exercise starts with a determination of the most important decision criteria, followed by a macro assessment of candidate solutions. In the case of operational costs, initial high-level estimates can be used. For factors harder to quantify, comparative ratings can be developed. This initial analysis identifies critical areas for further investigation and data collection. Rather than going immediately to detailed operational data modeling, a top-level analysis considers the overall importance of specific operational cost factors compared to, say, the options of build-to-order or outsourcing parts of the supply chain. All too often, network design projects get mired down in irrelevant, noncritical detail. With the top-down approach, the work is constantly focused on the most important considerations and alternatives.
4. Form a Cross Value-Net Project Team
   The best project teams represent the diversity of the value nets themselves. The traditional core of internal supply chain analytical staff forms the base. It is augmented by suppliers, customers, and service providers (and potentially other distribution intermediaries) that are active or potential participants in the company's value net.
5. Select Appropriate Computer-Based Network Modeling Tools
   In most cases, computerized network modeling will be an essential part of the overall analysis. A wide variety of powerful and flexible tools is available for value-net—driven network optimization. But the modeling application must be carefully defined within the top-down framework—an activity that may simplify the network modeling task (for example, by removing some activities or locations from the solution or by grouping certain products with similar characteristics). In some situations, innovations can be adequately analyzed and optimized using spreadsheets alone. Given the importance of extensive "what-if" and sensitivity analysis, ease-of-use may be a more important tool-selection criterion than sheer optimization power.
6. Leave Enough Time for Sensitivity Analysis
   Throughout the project, sensitivity analysis can serve to focus the design team's efforts. What if demand grows by 20 percent per year? What if the process could be transferred to a supplier? What if additional product configurations are available to the customer? In addition to helping the team maintain its focus, addressing these kinds of questions will lead to a more robust network design.
7. Understand Implementation Considerations Before Choosing a Solution
   In the typical approach to network design, companies reach a decision before all implementation issues are fully understood. In value-net—driven network design, by contrast, the implementation is at least as important as the option selection itself. Suppliers, customers, and consumers will likely feel the solution's effects as well. This underscores the need to think through considerations such as the roll-out sequence for changing strategic alliances, adding new facilities, and managing the change process. Early involvement of all stakeholders is essential for successful implementation of the network design.

It is interesting to compare the allocation of total project effort in the value net vs. the traditional approach. Traditionally, more than 80 percent of the effort might be allocated to internal operational data collection and modeling. In the value-net approach, by contrast, internal operational modeling could represent less than 50 percent of the effort. Far more time is devoted to strategic planning, meeting with customers and suppliers, profiling competitors, and thinking through factors that are harder to quantify. In this sense, a value-net project may be more challenging and require different skill sets than a conventional effort. Although the value-net approach covers a wider scope, its top-down methodology ensures that effort is allocated to what is really important. This avoids a "never-ending" project while leading to a more robust and effective solution.

By applying these principles in a value-net approach to network design, companies are in a real sense designing their future. They will find themselves better positioned to respond to the opportunities created by new technologies and new ways of thinking about sources of profit and value. The value-net design approach can exert a powerfully positive impact on shareholder value. Today's value-net innovators already have proven that convincingly.