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Tuesday, 27 July 2010

How to innovate in value co-creation - part 1

I have just finished writing the paper for the Forum on Markets and Marketing - the meeting in Cambridge with Bob Lusch and Steve Vargo entitled 'Value Co-creation in Complex Engineering Service Systems: Conceptual Foundations'. Don't be put off by the word 'engineering' in the title. the paper is intended to integrate the engineering service research and the management service research streams. In the paper, I had 5 propositions and I thought I'll expand on each managerially in my blog because my blog would probably explain it better than a dry academic paper. (and it IS dry - starts with philosophy and ends with engineering design.... enough said). Also, I do think the 5 propositions set the stage for innovation that is value based.

So... on to proposition 1

Proposition 1: A perfect system for the co-creation of use-value makes endogenous all co-creators use-values.

Yikes...where do i start.

If you've been following my blog, you should have read all about co-creation and use value ( and ( You would need to read those to understand this post.

lets say, very simply, a firm is in the business of producing cups. so the CEO will say, what do customers want from cups? lets do market research. needs analysis. requirement analysis. focus groups. dance the di da..

you come up with a spec list.

1. cups should have handles

2. it should hold x ml of fluid

when you brainstorm on the research you realise - wait, some people want hot beverages, some people drink a lot, some people drink very little, some people want it pretty, some people want lids/covers etc. etc. so you go to the marketing department and say - find me the segment of market i should target if I made cup type A, cup type B, cup type C and so on.... and tell me which should be my target market the clever marketing chaps do their rocket science and comes up with ta-da! cup type A would give you £A in revenues, cup type B gives you £B revenues and then you sit down and make a decision on which cup types you can make, how many types and how to make them as efficiently as possible. That was how the world worked.

Marketing folks like to match the type of person with what they buy. so you buy a pretty cup type B and they say - aha... woman age X of this type of behaviour and lifestyle would buy cup type B because they are concerned with selling to you. Actually, I would like many types of cups for many different uses and different contexts. So, mr marketing, my cup-using behavior is actually more important than my myers-briggs score (not that you use it)...also, my cup-using behavior is driven by whom i'm with, what time of the day etc. etc. so .....could you go design and make a multi-context cup please?

firms don't, and i'll try to explain why.

My training now tells me I have to use a mathematical word so forgive me. What that whole process above says is that value has been determined exogenously. This means it's OUTSIDE the use and co-creating system. it means the firm has decided to determine what the value is, make it and then deliver it. it means that when the cup is used by the customer, it can no longer be changed (its exogenous remember?).

but wait. how do i really value my cup? when i take my cup to the garden, i want a lid to keep the bugs away. when it holds water, i want more of it and when it holds expresso, i need less of it. so what I value about my cup is use-value i.e. a cup that understand my context of use which can change but if my use-value is not endogenous to the firm's, how would they even think of designing a cup for my ever changing context?

they don't. instead, it's easier to exogenously determine use-value for many contexts and construct their value propositions around them. so they produce many different cups. of course they go through the whole process of determining value. they call it a 'value-driven approach' (*irony*) and its step one in the lean handbook - 'first determine what the customer values'......(i will blog about about this in the next post)

its the world that has existed because we don't interrogate our assumptions. because its just easier to make different cups to fit different contexts. but by doing it that way, the determination of value will always be exogenous to the use of value and when use-value is co-created, which is contextual. firms are fixated on the idea that one has to come first. so value determination and specification is exogenous to use. So when I co-create value with a cup i.e. use it to drink stuff etc. etc. I am actually co-creating with a value proposition of a firm that have already decided and determined what I wanted from this cup and in what context and I, as user of cup, would then co-create value when I am in the context that has been predetermined... meaning, I make sure I, in my own world and own system 'fit' the cup context that has been predetermined. that is why i buy many cups. because i have many contexts of cup use. and dont even get me started on contextual emotional value-in-use.

but it doesn't have to be like that. especially if you're thinking of innovation. .

why dont firms look at use value as endogenous? because traditional marketing looks at exchange value and choice and once you choose, they aren't really very bothered with the different contexts on how you use the thing (because you paid for it already). So they push the problem (and risk) of contexts to you. Let you decide what your most common context is and let you choose which cup to buy.

but that's a little unfair. in return for my use-value of a cup, i give you, the firm, money. so you get money, i get cup. but my use-value of the cup is limited to the contexts you predetermined whilst your use-value of the money is... oh wait.. infinite in context (don't you just lurrve the acontextual use-value of money? ha ha..). So mr firm, i am actually probably quite happy to give you more money if you could give me greater degrees of contextual freedom of my cup. In fact, we could design a perfect system of co-creation where you give me different cup for every context i might want a cup and I could pay you a lot of money for it. let's just call it a multi-cup carrying butler.

a perfect system for value co-creation is when every co-creator's use value is endogenous in the system. the firm's use value (money, which has use-value across infinite contexts) and your multi-contextual use-value of the thing. It probably is too expensive but hey, a great starting point to think about innovation and its a great way to think about the role of technology. and it's starting to happen as well.

take a good look around you. there are some companies out there who no longer make value exogenous to use. simplest example is the phone. it used to be a phone. to talk, to communicate. today, its not a phone anymore. yes yes they call it a smartphone or somethingphone but it's become a platform onto which you can use it for whatever you need at the context you wish to have. so my iPhone can be a compass at the context where a compass suddenly became necessary. its not just technology driven. its a mindset change in understanding use-value and contextual co-creation in design and delivery - the understanding that value is always use-value within changing contexts and value propositions do not have to be exogenous in the co-creation process.

so where's my smart cup?

Friday, 2 July 2010

Value-in-use and exchange value

I've been meaning to blog about this for some time now because I get asked this question a lot. What's the relationship between value-in-use and exchange value? Everyone is talking about value co-creation but what about price (exchange value)?

I think maybe because I've actually written an entire book on pricing of services that I seem to get asked about this. Rather than say 'well, I'm covering that in my second edition which is coming out next year', I thought I'll blog about it. Much of it I've already covered in the book although I don't explicitly use exchange value and value-in-use (I will in the next edition).

Service dominant logic and many of the gurus in management have been talking a lot about value co-creation right? that it's experiential, phenomenologically derived and co-created between the individual and the firm either directly through activities and interactions or indirectly through a good, or an item purchased from the firm. I give quite a number of examples of this on the lecture circuit, as well as the potential opportunities for innovation surrounding this concept. So value-in-use is the value in context, experienced by the customer. However, this often happens after purchase, or at least, after the contract to purchase. That means there is a separation of time between purchase and the experience. This happens whether you buy a phone, beer, TV, stay in a hotel or go to the gym. At the time of purchase, you haven't experienced it yet. You may not have any idea what that experience might be like,..... but you are asked to buy. at a certain price.

So..... at a certain price or exchange value, the firm is asking the customer to do a few things at the point of purchase.

First, the firm is asking the customer to imagine what the co-creation experience might be like. That's uncertainty no. 1 for the firm in pricing - I call this the uncertainty from a lack of imagination (economists call it bounded rationality see Herb Simon). Example: If you're trying to sell a concert ticket, your customer will not pay if he has no imagination for what it might be. £100 an hour is now worth... maybe £50 because of your customer's lack of imagination? ouch..

If this is his/her repeat purchase, it's a lot easier BUT the context of experience might still change. That means the context/state of the experience may still change even on repeat purchase. I call this the uncertainty of context. Example: your concert is perfectly well imagined BUT your customer doesn't think the weather is going to be good. A discount of £70 to persuade him/her? more ouch..

Also, the value from the experience is co-created - meaning it depends on the resources of the firm in its proposition, but also the resources accessible to the individual to co-create that value. This is the uncertainty of resources. Example: Your customer has a great imagination and the weather will be good BUT he thinks he may not have time on that day. £100 an hour is now worth £30 or less? even more ouch...

Finally, the fourth uncertainty - that of the uncertainty from cognitive discounting. Remember that exchange value (price) is at the point of purchase and value-in-use is at the point of experience? And that there is a separation of time? Well, finance people are well acquainted with the notion net present value and cognitive discount is principally the same. We discount the value of the future value in different ways. The gradient of the discount changes for different people - those who are more risk averse may discount more, the income effect (how expensive is it) may change that gradient as well. I actually mathematically modeled spot and advance prices in a paper last year where I investigated capacity effects of the firm as well and the role of refunds. (click here for it).

These four uncertainties contribute to a valuation risk at the point of purchase - meaning that the person's idea of value-in-context or value-in-use will not just be what is promised by the firm (through advertising and promotion) but contributed by all these four uncertainties i.e. exchange value carries the risk from these four uncertainties inherent in value-in-use.

Often, the firm only like to promise what they can deliver - which usually mitigates the uncertainty of firm's resources in co-creation for the customer. There are a few more uncertainties in there though - mostly from the customer side. And firms wonder why they can't get the price they want.

All that said, exchange value (price) bears very little resemblance to value-in-use after all that. In layman terms, from a value and value co-creation perspective, don't think your price is necessary a good reflection of your offering.