Components of an effective business model Header

Components of an effective business model

  1 year ago (Tue, Mar 14, 2023 at 06:52 PM)

1. Core strategy (how a firm competes)

2. Strategic resources (how a firm acquires and uses its resources)

3. Partnership network (how a firm structures and nurtures its partnerships)

4. Customer interface (how a firm interfaces with its customers)

1. Core Strategy

The first component of a business model is the core strategy, which describes how a firm competes relative to its competitors. The primary elements of a core strategy are the firm’s mission statement, the product/market scope, and the basis for differentiation.

Image name: Components of a Business Model

Figure 1. Components of a Business Model

Mission Statement: A firm’s mission, or mission statement, describes why it exists and what its business model is supposed to accomplish.

Product/Market Scope: A company’s product/market scope defines the products and markets on which it will concentrate. The choice of product has an important impact on a firm’s business model. For example, started out as an online bookseller but has evolved to sell a host of diverse products including CDs, DVDs, shoes, apparel, furniture, and even groceries and gourmet food. Similarly, Yahoo! started as a company offering free Internet search services in an attempt to generate enough traffic to sell advertising space on its Web site. This business model worked until the e-commerce bubble burst in early 2000 and advertising revenues declined. Yahoo! is continually revising its business model to include additional subscription services to generate a more consistent income stream.

The markets on which a company focuses are also an important element of its core strategy. For example, Dell Inc. targets business customers and government agencies, while Hewlett-Packard (HP) targets individuals, small businesses, and first-time computer buyers. For both firms, their choices have had a significant impact on the shaping of their business models.

Basis for Differentiation: A new venture should differentiate itself from its competitors in some way that is important to its customers and is not easy to copy. If a new firm’s products or services aren’t different from those of its competitors, why should anyone try them?

2.Strategic Resources

Core competencies and strategic assets are a firm’s most important resources.

Core Competencies: A core competency is a resource or capability that serves as a source of a firm’s competitive advantage over its rivals. It is a unique skill or capability that transcends products or markets, makes a significant contribution to the customer’s perceived benefit, and is difficult to imitate. Examples of core competencies include Apple’s competence in designing consumer products, Zappos’s competence in customer service, and Netflix’s competence in supply chain management. A firm’s core competencies determine where a firm is able to create the most value. In distinguishing its core competencies, a firm should identify the skills it has that are  (1) unique, (2) valuable to customers, (3) difficult to imitate, and (4) transferable to new opportunities.

Strategic Assets: Strategic assets are anything rare and valuable that a firm owns. They include plant and equipment, location, brands, patents, customer data, a highly qualified staff, and distinctive partnerships. A particularly valuable strategic asset is a company’s brand. Starbucks, for example, has worked hard to build the image of its brand, and it would take an enormous effort for another coffee retailer to achieve this same level of brand recognition. Companies ultimately try to combine their core competencies and strategic assets to create a sustainable competitive advantage. This factor is one to which investors pay close attention when evaluating a business. A sustainable competitive advantage is achieved by implementing a value-creating strategy that is unique and not easy to imitate. This type of advantage is achievable when a firm has strategic resources and the ability to use them in unique ways that create value for a group of targeted customers.

3. Partnership Network

A firm’s network of partnerships is the third component of a business model. New ventures, in particular, typically do not have the resources to perform all the tasks required to make their businesses work, so they rely on partners to perform key roles. In most cases, a business does not want to do everything itself because the majority of tasks needed to build a product or deliver a service are not core to a company’s competitive advantage. For example, Dell historically sought to differentiate itself from competitors through its expertise in assembling computers but buys chips from others, primarily Intel. Dell could manufacture its own chips, but it didn’t have a core competency in this area. Similarly, Dell relies on UPS and FedEx to deliver its products because it would be silly for Dell to build a nationwide system to deliver its computers.

A firm’s partnership network includes suppliers and other partners.

Suppliers: A supplier (or vendor) is a company that provides parts or services to another company. A supply chain is the network of all the companies that participate in the production of a product, from the acquisition of raw materials to the final sale. Almost all firms have suppliers who play vital roles in the functioning of their business models.

The Most Common Types Of Business Partnerships

• Joint venture

An entity created by two or more firms pooling a portion of their resources to create a separate, jointly-owned organization

• Network

A hub-and-wheel configuration with a local firm at the hub organizing the interdependencies of a complex array of firms

• Consortia

A group of organizations with similar needs that band together to create a new entity to address those needs

• Strategic alliance

An arrangement between two or more firms that establishes an exchange relationship but has no joint ownership involved

• Trade associations

Organizations (typically nonprofit) that are formed by firms in the same industry to collect and disseminate trade information, offer legal and technical advice, furnish industry-related training, and provide a platform for collective lobbying

Other Key Relationships: Along with its suppliers, firms partner with other companies to make their business models work. As described above, strategic alliances, joint ventures, networks, consortia, and trade associations are common forms of these partnerships. A survey by PricewaterhouseCoopers found that more than half of America’s fastest-growing companies have formed multiple partnerships to support their business models. According to the research, these partnerships have “resulted in more innovative products, more profit opportunities, and significantly high growth rates” for the firms involved.

There are also hybrid forms of business partnerships that allow companies to maximize their efficiencies. One relatively new approach referred to as insourcing, takes place when a service provider comes inside a partner’s facilities and helps the partner both design and manage its supply chain. An example is a unique partnership between Papa John’s and UPS. Since 1996, UPS has managed, routed, and scheduled the delivery of tomatoes, pizza sauce, cheese, and other ingredients from Papa John’s food service centers across the United States to its more than 3,500 pizza delivery stores twice a week. The ingredients are delivered in UPS trailers marked with Papa John’s insignias.

Partnerships do carry risks, particularly if a single partnership is a key component of a firm’s business model. For a number of reasons, many partnerships fall short of meeting participants’ expectations. When this happens, partnerships are thought to have failed. Many of the failures result from poor planning or the difficulties involved with meshing the cultures of two or more organizations to achieve a common goal. There are also potential disadvantages to participating in alliances, including loss of proprietary information, management complexities, financial and organizational risks, risk of becoming dependent on a partner, and partial loss of decision autonomy. The percentage of alliances that fail remains an unresolved issue with some suggesting that the failure rate is around 50 percent while others suggest that the failure rate is as high as 70 percent.

Still, for the majority of start-ups, the ability to establish and effectively manage partnerships is a major component of their business model’s success. For some firms, the ability to manage partnerships is the essence of their competitive advantage and ultimate success.

4. Customer Interface

Customer interface—how a firm interacts with its customers—is the fourth component of a business model. The type of customer interaction depends on how a firm chooses to compete. For example, sells books solely over the Internet, while Barnes & Noble sells through both its traditional bookstores and online. Sometimes a company’s customer interface will change as conditions change. For example, until 2001, Apple sold its products through retailers like Sears and CompUSA (CompUSA is now a part of a larger firm called Apple experienced sales declines in the late 1990s, and in 2001 made the strategic decision to take control of retail sales of its products, in part to “own” the customer retail experience. The first two Apple stores opened in 2001 in McLean, Virginia, and Glendale, California. The Apple stores have been a hit, and are partly responsible for Apple’s surge in popularity. In 2002, Apple enhanced its stores by adding the Genius Bar, which is a place where customers can receive technical advice or set up service and repairs for their Apple products. This added dimension of Apple’s customer interface has provided the company a forum to physically interact with people who have questions about Apple’s products or need help with a repair.

For a new venture, the customer interface that it chooses is central to how it plans to compete and where it is located in the value chain of the products and services it provides. The three elements of a company’s customer interface are target market, fulfillment and support, and pricing structure.

Target Market:  A firm’s target market is the limited group of individuals or businesses that it goes after or tries to appeal to. The target market a firm selects affects everything it does, from the strategic resources it acquires to the partnerships it forges to its promotional campaigns. For example, the clothing retailer Abercrombie & Fitch targets 18- to 22-year-old men and women who are willing to pay full price for trendy apparel. So the decisions it makes about strategic resources, partnerships, and advertising will be much different from the decisions made by Chico’s, a clothing store that targets 30- to 60-year-old women.

Fulfillment and Support: Fulfillment and support describes the way a firm’s product or service “goes to market,” or how it reaches its customers. It also refers to the channels a company uses and what level of customer support it provides. All these issues impact the shape and nature of a company’s business model.

The level of customer support a firm is willing to offer also affects its business model. Some firms differentiate their products or services and provide extra value to their customers through high levels of service and support. Customer service can include delivery and installation, financing arrangements, customer training, warranties and guarantees, repairs, layaway plans, convenient hours of operation, convenient parking, and information through toll-free numbers and Web sites. Dell Inc. for example has a broad menu of tiered services available to provide its corporate clients the exact level of support they need and for which they are willing to pay. Making this choice of services available is a key component of Dell’s business model.

Pricing Structure: A third element of a company’s customer interface is its pricing structure. Pricing structures vary, depending on a firm’s target market and its pricing philosophy. For example, some consultants charge a flat fee for performing a service (e.g., helping an entrepreneurial venture write a business plan), while others charge an hourly rate. In some instances, a company must also choose whether to charge its customers directly or indirectly through a service provider. A popular way to sell a service on the Internet is via the freemium pricing structure.  The word freemium is a blend of the words free and premium. Businesses that utilize a freemium pricing model give away a basic product or service for free, and offer premium services on a tiered pricing plan. 

Reference: Entrepreneurship, Successfully Launching New Ventures   


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