Long-term differentiation from competitors is increasingly difficult with products and services. But what if you could design a better business model than your competitors? In this post we offer you 7 ways to improve your business model.
A value proposition that customers want is a prerequisite for a business to exist. Yet, it's increasingly difficult to obtain a competitive advantage from a great value proposition alone and more often than not it just gives you the right to compete.
Let us show you how you can construct a moat around your business with a superior business model. Strong business models use one or several Business Model Mechanics that give your business a competitive advantage that's sometimes hard to beat.
Check out these 7 Business Model Mechanics that will strengthen your business model:
1. Switching Costs
Ask yourself how difficult and/or costly it is for your customers to switch to another company’s offering?
Nespresso is a great illustration of switching costs. Nespresso sells coffee machines and coffee pods to businesses and households. Once you buy a machine, Nespresso knows you will come back to buy pods. In fact, until 2011 when some of their patents expired, you could only put Nespresso pods into Nespresso machines. Customers were locked in and couldn't switch to competitors unless they were willing to buy another machine.
Other examples: Apple iPod (until streaming subscriptions like Spotify became popular), game consoles, razor blades, printers and cartridges.
Action: Could you increase your customers' switching costs (of course without annoying them)?
2. Recurring Revenues
Ask yourself if every one of the sales in your business represents a new effort, or if it result in (automatic) follow-up sales and revenues?
You might not be aware that many of of your purchases lead to follow-up sales. But when Amazon sells you a Kindle they know you’ll be back for follow-up purchases of content, products or ebooks.
Other examples: A more classic example of recurring revenues are subscriptions to newspapers and magazines (a dying species). In the software business we are currently seeing a transition from transactional sales of licenses to subscription models with recurring monthly or annual revenues.
The particularity of business models with recurring revenues is that there is usually a larger return on the initial sales or customer acquisition costs. In transactional businesses every sales requires a new and sometimes costly effort.
Action: Could you increase your recurring revenues and maybe even entirely replace transactional revenues?
3. Earning vs Spending
Ask yourself if you earn money before you spend it? Do you generate revenues before you incur the costs of producing and delivering your value proposition to customers?
Dell introduced this business model mechanic in the 1990s and revolutionized the business model for PC manufacturing and sales. Traditionally, PC manufacturers would produce PCs (and incur manufacturing costs) and then sell them through retailers. The PCs would wait on the shelves, while losing value. In this model the PC manufactures spent long before ever earning a dime.
Dell turned this model on its head by selling directly to customers and basically assembling PCs after selling them. They perfected just-in-time manufacturing practices to keep the time between selling and delivering as friction-free as possible. Unlike the traditional business models, Dell didn't have to spend a lot of money before earning money and they also reduced the risk of inventory depreciation.
Other examples: When we wrote Business Model Generation we got 470 co-creators to pay us and join the book project before finishing or printing the book. Today this kind of crowd-financing is pretty common on Kickstarter.com.
Action: Could you earn more before spending?
4. Game-Changing Cost Structure
Ask yourself if your cost structure is substantially different or better than that of your competitors?
That’s what Nike achieved when they invented the Flyknit technology for their running shoes. Before Flyknit, running shoes were made with 30-40 pieces stitched together in cheap sweatshops - a labor intensive and costly task. Nike then invented what it now calls ‘micro-level precision engineering’. In this process, a software instructs a knitting machine to knit the upper part of an entire shoe in one piece. This new technology reduces labor costs to a minimum and - as a consequence - also reduces transportation costs from low-cost manufacturing regions. Now shoes can be produced closer to the markets where they will be sold. The cherry on top? Nike’s Flyknit shoes are not only cheaper to produce, they are lighter and far better than their competitors’ shoes!
Other examples: Bharti Airtel, the first telecom operator that dared outsourcing its entire network and thus turned capital expenditures in expensive network infrastructure into a variable cost. In the same industry Skype disrupted the market by offering calls for free because its software-based business model had no network costs to bear.
Action: Could you revolutionize your cost structure rather than just trimming it? Are you aware of potential competitors that might disrupt your business model with a fundamentally different cost structure?
5. Get Others To Do The Work
Ask yourself how much your business model gets customers or third parties to create value for you (for free)?
In the 1950s and 1960s Tupperware was able to turn passionate housewives, their target customers, into a powerful direct sales channel. The kitchenware company leveraged this pool of customers to spread the word and sell their famous plastic containers to other housewives at their famous ‘Tupperware parties. This strategy boosted Tupperware’s revenues without incurring the same costs as of hiring sales people and marketing.
Other examples: Facebook's business model relies on the content of its users more than anything else. In fact, it has a billion+ person strong workforce working for the company for free by posting messages, images, and other content. Without this activity the company would be worth little. Another great example of a company that gets its customers to do a lot of the work is IKEA. Customers (more or less enthusiastically) buy and assemble furniture, a task that used to be performed by furniture manufacturers. Or take credit card companies. In their business model the merchants and the shoppers perform a lot of the work, while credit card institutions focus on operating the transaction platform.
Action: Could you get others to do more work for you?
Ask yourself how rapidly and easily you can grow your business model without hitting roadblocks (e.g. infrastructure, customer support etc)?
Business models that are already configured to face a surge in customer demand (or even produce a better outcome with a strong demand), will have a significant advantage compared to those which will need continuous adjustments. Think of Uber, an app that connects taxi drivers with ride seekers. Uber’s business model doesn't need to be reconfigured much whether 5,000 or 50,000 customers join the platform. Even better, Uber’s value proposition gains in attractiveness the more taxi drivers and ride seekers there are, because customers and drivers have more choices.
Other examples: Of course digital platforms are among the most scalable business models. WhatsApp served 400 million users with 60 employees before being sold to Facebook for billions. But physical business models can also be made more scalable. The restaurant business wasn't very scalable before companies like McDonald's used franchising to scale it. Licensing in general is a very scalable business model that can be applied to a multitude of business models. If you are in interested in why Disney's business model is scalable, check out our blogpost.
Action: How could you make (parts of) your business model more scalable?
7. Protection from Competitors
Ask yourself how much your business model protects you from your competition?
This last point brings it all together. It aggregates all the Business Model Mechanic you have in place that protect your business from your competitors. For example, Apple is one of the leading smartphone manufacturers in the world. But their product doesn’t do it all; in fact, you could argue that there are better smartphones out there. But Apple’s business model has moats that make it extremely difficult for others to overthrow them. For example Apple’s appstore connects its millions of iOS users with countless software developers that supply hundred thousands of apps searching for an audience. It's this ecosystem that's hard to copy, not the technology. Even with the best technology it is very hard to gain market share. Only Google with its Android operating system has managed to create a competing ecosystem.
Other examples: Amazon Web Services offers extremely competitive Web IT infrastructure to B2B customers because its business model shares synergies with its ecommerce business.
Action: Could you redesign your business model in a way that it creates moats? Could you perform better on any of the other questions above?
Let’s take your business model for a quick check-up now! Assess the ‘health’ and competitiveness of your business model design by grading how well you perform on the 7 business model mechanics.
How did your business model perform on the 7 questions? Does your business model protect your business from competitors?