Alexander Osterwalder and Yves Pigneur in their book Business Model Generation present five main business model patterns. Each has its own variations:
- Product innovation (Apple)
- Customer relationship management (Private banks)
- Infrastructure management (Retail banking)
- The Long Tail – Sell less of more niche products, have low inventory costs and strong infrastructural platforms (Netflix)
- Multi – Sided Platforms – Bring together two separate groups of which both are required for value to be created. The platform facilitates interactions and attempts to create network effects (Google and Apple)
- Free as a Business Model (Skype, Open Source, Evernote)
- Bait and Hook
- Open Business Model – Rely on inside out (sell innovation) or outside in (buy innovation) collaboration with external parties, with the view to speeding up, lowering the cost of or quality of products brought to market (P&G)
Ok, so what are we trying to analyse about a given business model. I believe the two most important attributes to understand are the degree of differentiation and the degree of sustainability it offers. The former is a proxy for value creation and the latter a proxy for the time window available for value appropriation. Most business models go through a process of value creation, shrinkage and then migration as a result of and response to competition. The longer this takes the better. A key driver of this process is what unique competencies are utilised in delivering the value and how easy it is for competitors to understand and replicate. You figure this out by simply doing the hard analytical yards to work out how the model formula hangs together. Components and relationships to review on this front are typically:
- Job (problem) to value created (solution) relationship
- Ease of value replication (standard – non standard)
- Pricing (type and amount) to value received
- Revenue to cost relationship (+ or – cash-flow cycle)
- ROIC drivers – scale, cost management, proposition reach, asset turns, margins etc
- Capital intensity – to operate and to grow by 10%
- Competency intensity – Depth, complexity, availability, resource types needed to operate
- Drivers of cost and value efficiency – what and how related are they
- Drivers of fulfilment effectiveness (process x resources)
- Economies of scope and scale (How does the model scale and what needs to be leveraged to do so) and what are the trade-off challenges
- Element disconnects – value to costs, resource to process, relationship to channel, competency to positioning etc
- Barriers to imitation or substitution – what makes copying or delivering similar value difficult for competitors
The results of this process offer you both insights into how to improve a model (I am not referring to fundamental business model redesign) and whether both the story and the numbers pan out. By working through the above you start getting a sense for the effectiveness of the value proposition, the models differential ability, barriers to imitation, delivery constraints, competency sets, scale challenges etc.
As an addition, an effective tool to utilise in helping optimise an incumbent model is Kim and Mauborgne’s Four Actions Framework. The framework attempts to understand how costs can be removed or value added to a given a model. This is achieved by asking the following four questions:
- What could be eliminated from this model: Both value and costs factors that you or the industry have long competed on.
- What could be reduced: Below your current cost or resource input levels without compromising value
- What could be raised: Above current internal or industry performance standards
- What additional value could be created: What could this model offer that has never been done before
This type of work starts the process of perpetual business model innovation. By systematically trying to eliminate, reduce, raise and create value or cost elements on an ongoing basis, you not only start getting managerial consensus on the inner workings of your business model formula, but also stave off the value shrinkage and attrition effects.
Different models work for different reasons. Drivers can differ from scale, quality, complexity, integration, speed, asset turns etc. Irrespective of the formula, a good business model provides differential customer value, margin and medium term appropriation protection. If any one of these is missing or compromised go back to the drawing board.