“Value proposition,” “value chain” and “value-added” are great examples of phrases dispensed liberally by consultants and corporate executives alike. One executive (who also happens to be a close friend) challenged me to take the mystery out of the concept of “value” and to do so in less than 1,000 words. Here goes.

Customers do not buy products and services. I don't care if you're in the financial services business, the biotech industry or you run an entertainment company. Your customers buy a bundle of value satisfaction. That begins with a customer's initial awareness of the existence of a product and extends through its purchase and use. It includes everything, tangible and intangible, that is a part of the product and/or supports its use. For example, a credit card, the “thing,” isn't just a credit card. That's merely the table stakes to get into the game.

A product only has relevant meaning from the perspective of a user or potential user. So, only the buyer can assign value, because the legitimate value of the product or service exists only in the buyer's perception.

Value - A Simple Definition

While only customers can assign value, the principle can be defined in a simple equation:

	Value =		Differentiated Quality Cost

Value creation is a balancing act. It requires an understanding of the specific needs of targeted customers along both quality and cost dimensions.

Here's an example: Let's say that Toyota decided to include a $7,500 stereo system as standard equipment in each Corolla. The car wouldn't sell. Corolla's targeted customers would not pay an additional $7,500 for a stereo system. Further, drivers who would pay for that stereo would likely want a car with other attributes consistent with the stereo.

Disaggregating the Concept of Quality

I've worked with lots of clients wrestling with both the definition of quality and its application. There's an old joke, “How do you eat an elephant?” The answer, “One bite at a time.” Understanding what quality is requires disaggregating it into its components. Over a decade ago, David Garvin of the Harvard Business School designed a framework that does a great job. Here are his eight dimensions of quality.

• Performance. These are the primary operating characteristics of a product or service. For an automobile, cruising speed and comfort would be two such examples.

• Features. These are secondary aspects of performance, i.e., the “bells and whistles.” Think free drinks on an airplane.

• Reliability. This is the probability of a product or service failing within a specified period of time. This dimension typically becomes more important as maintenance becomes more expensive and down time increases.

• Conformance. This refers to whether the product's or service's primary operating characteristics meet established standards.

• Durability. This concerns how long the product lasts and what the implications are of that on the user or potential customer.

• Serviceability. This is the speed, competence and courtesy involved in repairing the product or service.

• Aesthetics. This is the look, feel, taste, sound or smell of a product, a subjective dimension.

• Perceived quality. This has been referred to as the “halo effect.” Twenty-five years ago, I owned a car that developed body rot at the 12,000-mile mark. Further, it didn't start in cold weather from the outset. I have never since bought a car made by that manufacturer.

So, the complete “value equation” looks like this:

							Performance Features Reliability Conformance Durability Serviceability Aesthetics Perceived Quality
	Value =
			Differentiated Quality Cost

A few further words about these eight dimensions. Some of these obviously apply more to some products or services than others. Also, all require still further breakdown into relevant components. For example, within the reliability dimension, consider the billing process for a financial services company. Three of the reliability measures worth considering would be: mean time to first failure, mean time between failures and failure rate per x (number) of bills issued.

As I mentioned in a previous Performance Digest, many companies are obsessed with expense reduction rather than overall value creation. In order to remain competitively vibrant, a firm must attend to all the relevant dimensions of value. That requires:

• Appropriate measures and rewards. What gets rewarded gets done.

• An explicit understanding of the precise needs and values of specific customers and segments.

• Organizational and individual competencies aligned with the dimensions of value important to specific customers and segments.

We hear a lot about branding today. Effective brand management is about the total relationship between the company and the customer. It concerns the way the customer perceives the product and the way the company portrays the product. Many companies dedicate their resources to portrayal rather than customer perception. The road to effective brand management and developing brand equity requires an obsession with value creation.

 Additional Thoughts: Bureaucracy