An important aspect of a business is to have a sense of direction and identity, which can be achieved by the formulation of a strategy and a business model. In this post I will discuss the principles of making a business model brought by Andrea Ovans in her article “What is a Business Model?” (Ovans, A. 2015) and the Harvard Business Review (HBR) video and article authored by Alex Osterwalder “A better way to think about your business model” (Osterwalder, A. 2013).
On her article, Andrea Ovans discusses the Business Model concept evolution starting with a discussion of Michael Lewis book (Lewis, P. 2000), who compares a business model to a work of art, which you may find good or not so good. Ovans starts to make connections to other business thinkers like Peter F. Drucker (Drucker, P.F. 1993) who proposed the concept that a business must be defined based on the assumptions of what a business does to make money, a definition that Michael Lewis also shares, particularly looking into the dot.com era where many companies didn’t really have substance on their business assumptions and where they intended to make money on poor substantial terms.
Another attribute of the business model brought by Ovans on her article is the framework to the business model as a set of assumptions on what businesses do and what they don’t do. Assumptions around what businesses do or don’t do are key to their operation, and lead to the understanding of what a company is created for. This concept was shared by Drucker (Drucker, P.F. 1993) and later by Michael Porter when he refers in a similar way to the definition of strategy (Porter, M. 1996). The discussion of the similarity or differences between strategy and business model is an interesting topic as these business terms were initially used indistinctively, nearly as synonyms (Da Silva, C. 2014).
Assumptions of a business are subject to evolution; an assumption that was made at the company’s first business model might not hold forever. Changes in business environment will occur and the business model must adapt to those changes. Ovans brings from Drucker’s article a discussion of IBM as a good example of a company forced to change their business model assumptions as the business environment changes (Drucker, P.F. 1993).
The business model should provide a thorough description of the customer and the value chain that fulfills the customer’s needs. Ovans discusses additional references that emphasize on these topics. She continued with Joan Magretta who further discussed these concepts (Magretta, J. 2002). To Magretta a company business model should tell a story, which starts with the primary focus of a business, understanding their customers. It should answer the questions: who is the company’s customer? What are the customer’s likes, what do they value? On the value chain aspects Magretta emphasizes on the “make” and selling aspects. The business model should be able to explain to the floor manager: How do we make money on this business? How do we bring value to our customer? By which means? How we can do our business in a cost-effective way to allow for lower prices to the customer? On the sales perspective the business model emphasis should be on finding and reaching customers, enabling a transaction, distributing the product or delivering a service.
To further emphasize on the business model construction, Ovans conveys the work of Alex Osterwalder, defining his proposal of a business model canvas (Osterwalder, A. 2013). Osterwalder’s work aligns very well with the points brought by Michael Lewis, Peter Drucker and Joan Magretta, but goes a step further. Osterwalder develops this system to organize and analyze in a holistic perspective a company’s business model. The business model canvas consists of a series of assumptions organized in a very structured manner that allows the visualization of the underlying principles of business functions and their interactions. The business model canvas brings a fresh way of looking at a company at a glance and is an excellent tool to either initiate or re-formulate a business. It consists of 9 building blocks that explain how a company works. The building blocks are:
- The Value Proposition
- The Customer Segments
- The Channels by which the customer will get the product
- The Customer Relationships
- The Revenue Streams
- The Key Resources
- The Key Partners
- The Key Activities
- The Cost Structure
Ovans shares how a business model can be used also as a business evaluation tool. Magretta makes a distinction between the business model and a business strategy (Ovans, A. 2015, p 4). This discussion is at a central stage in Magretta’s article (Magretta, J. 2002). Answering the question “what about strategy?” Magretta points out that the central point of a business model is a description of how the business runs, while in a business strategy the companies are interested in knowing how they can do better than their competitors.
Moving forward into what a business model can do, Ovans brings the point of using business models to modulate a company stance on business. Clay Christensen’s article (Christensen, C. et al. 2008) and HBR video “The Explainer: Disruptive Innovation” explores the concept of how established companies need to reconsider their business assumptions once an innovator company brings a product innovation that takes a significant market share. To succeed, the established company needs to make a disruptive innovation of their own that changes their business status quo after the innovator penetration. Christensen recommends creating a separate business unit to prepare the new business model with their own objectives and business expectations. Other scholars argue similar points and reinforce the need for adaptation as a key element of a business model. In her HBR spotlight-interview (HBR-editor spotlight, 2011) “When Your Business Model is in Trouble” Rita McGrath discusses the aspect of a business model not fulfilling its expectations. When companies start to perceive that despite innovations in their product the impact on the customer is minimal, and their people are running out of ideas, it is time to make drastic changes in the business model. Paraphrasing McGrath on her interview, the problem is that companies tend to keep doing the same thing all over again. They are like a big wheel’s inertia, when starting it is difficult to get it moving and when it moves it is difficult to stop.
Ovans also discuss the opinion of other authors and their suggestions on specific changes that can be pursued to revitalize a business model. Karan Giotra, and Serguei Netessine (Giotra, K. and Netessine, S. 2014) indicate four critical aspects of a business model that upon change can help re-direct companies, these are:
- Changing the mix of products or services
- Modifying the decision-making process:
- Postponement of decisions
- Replace the decisions makers
- Modifying incentives in the value chain.
Ramon Cassadesus-Masanell and Joan Ricart (Cassadesus-Masanell, R. and Ricart, J. 2011) emphasize on the design of a business model based on a decision-making process that considers 3 major elements:
- Decisions on company policies; what labor policy the company will follow (unionized vs non-unionized), employee expenses policies (travel restrictions), where plants are located.
- Decisions on assets; machinery, manufacturing facilities
- Decisions on company governance policy; arrangement of decision making rights
In addition, Ovans brings examples of business model strategies created by Mark Johnson in his book “Seizing the white space: Business model innovation for growth and renewal,” a table showing different styles of business model analogies from which to pick as examples for companies to build their own business model value proposition. The list of analogies consist on a series of forms or classes of business, the mechanics of how they work and examples of companies that belongs to that form of business. For example, a form or class of business is an “Affinity Club”. The way they work is by paying royalties to some large organization for the right to sell your product exclusively to their customer. The company example given is MBNA a holding company specialized in affinity credit cards (Company Spotlight: MBNA Corporation, 2004).
Another topic I want to discuss in this post is the concept of the five competitive forces of business that HBR brings in their video series “The Explainer: Porter’s Five Forces” (HBR Producer, 2014). The video explains Michael Porter’s concept of the five forces that drive competition between companies. The five forces define company’s competition for profitability as follows:
- Buyers: the influence of buyers or customers drives competition because buyers want to get more from a product while paying less. The airline sector is an example where buyer forces show to be an important factor in price competition between airliners.
- Suppliers: the company suppliers force wants to have greater earnings from fewer products or services provided. Powerful suppliers will insist on having the most favorable terms possible on their business. In the airline sector this translates to, for instance, suppliers of aircraft or aircraft components which have a great stake of airliners expenses. Also, unions are a significant factor of labor supply that exert tremendous pressure to the airliners operations.
- Substitute products and services: in fulfilling a need, customers may have options that may not be in the same business as one’s product. The substitute products or services force may affect a business when the customer’s need is less differentiated and multiple options are available even between sectors. In the airline sector example, the customer has other options like driving a car, taking a train and maybe in the future flying drones or comfortably seat in an autonomous car.
- New Entrance: new participants in a business sector, particularly in sectors where business entry factors or constrains are less, is another competition force to consider. In the case of the airliners, business entry is relatively easy, and many small companies emerge. This is the case brought in the video of Southwest Airlines which challenged the industry by having a single aircraft vendor and model approach, where they can leverage on equipment cost.
- Existing Rivals: sectors may have many rivals who compete for the same market and irremediably share the stake of customers. Again, in the airline sector there are many airlines that have worldwide presence and competition is actually global for essentially the same customers.
The five forces provide a framework to understand business environment pressures and how companies interact with these forces in the effort of making profit. It also provides a system by which companies can measure themselves an establish strategies for improvement on their business and increase their earnings. In relation to the article from Ovans (Ovans A., 2015), the five forces can be an adequate addition to the options a company can use to understand their business environment in preparation for their business models.
In conclusion, a business model reflects what a company must do to be profitable. It is based on assumptions made on the business to guide the business components’ integration and success in making profits. In combination with a strategy, a business model complements the actions taken by a company into their resilience and ability to survive in an ever more competitive business environment. As a company becomes aware of its own assumptions and follows expert guidance such as those brought by Andrea Ovans in her article, the higher the probability that it will be successful in making profits.
References
Ovans, A. (2015). What is a Business Model? Harvard Business Review Digital Articles. http://web.b.ebscohost.com.library.capella.edu/ehost/detail/detail?vid=0&sid=21250346-7166-4b95-93ec-104faee06d79%40pdc-v sessmgr06&bdata=JnNpdGU9ZWhvc3 QtbGl2ZSZzY29wZT1zaXRl#AN=118648215&db=bth
Osterwalder, A. (2013). A better way to think about your business model [article video]. Available from https://hbr.org/2013/05/a-better-way-to-think-about-yo
Lewis, P. (2000). The new new thing: a silicon valley story. New York, NY, W.W. Norton & Company, Inc. http://web.a.ebscohost.com.library.capella.edu/ehost/ebookviewer/ebook/ bmxlYmtfXzMyNjcyX 19BTg2?sid=91f23cca-cf1e-4781-be2ff2705bc6c8e1@sessionmgr 4010&vid=0&format=EB&rid=1
Drucker, P.F. (1993). The Theory of the Business. Harvard Business Review Digital Articles. https://hbr.org/1994/09/the-theory-of-the-business
Porter, M. (1996). What is strategy? Harvard Business Review Digital Articles. https://hbr.org/1996/11/what-is-strategy
Da Silva, C. and Trkman, P. (2014). Business model: What it is and what it is not? Long Range Planning, electronic source. https://www.sciencedirect.com/science/article/abs/pii/S0024630113000502?via%3Dihub
Magretta, J. (2002). Why business models matter. Harvard Business Review Digital Articles. http://web.b.ebscohost.com.library.capella.edu/ehost/pdfviewer/pdfviewer?vid=22&sid=b6dd3523-d2b1-4ee0-ba57-21bd6f7b4aa6%40pdc-v-sessmgr01
Johnson, M., Christensen, C.M., and Kagermann, H. (2008). Reinventing your business model. Harvard Business Review Digital Articles. http://web.b.ebscohost.com.library.capella. edu/ehost/pdfviewer/pdfviewer?vid=25&sid=b6dd3523-d2b1-4ee0-ba57-21bd6f7b4aa 6%40pdc-v-sessmgr01
Harvard Business Review (Producer). (2013). The Explainer: Disruptive Innovation
Available from https://hbr.org/video/2688242135001/the-explainer-disruptive-innovation
Harvard Business Review (Producer). (2011). When your business model is in trouble. [Interview] Available from https://hbr.org/2011/01/when-your-business-model-is-in-trouble
Giotra, K. and Netessine, S. (2014). Four paths to business model innovation. Harvard Business Review Digital Articles. https://hbr.org/2014/07/four-paths-to-business-model-innovation
Cassadesus-Masanell, R. and Ricart, J. (2011). How to Design a Winning Business Model. Harvard Business Review Digital Articles. https://hbr.org/2011/01/how-to-design-a-winning-business-model%20
Harvard Business Review (Producer). (2014). Explainer: Porter’s Five Forces
Available from https://hbr.org/video/3590615226001/the-explainer-porters-five-forces
MarketWatch: Global Round Up (2004). Company Spotlight: MBNA Corporation. http://web.b.ebscohost.com.library.capella.edu/ehost/pdfviewer/pdfviewer?vid=5&sid=38c8e0c8-9b8d-4615-93ea-3c8efcd66bff%40pdc-v-sessmgr01