While everyone in the tech industry focuses on innovating their product, one great way to create value is by innovating your business model. A recent article in the MIT Sloan Management Review, Creating Value Through Business Model Innovation by Raphael Amit and Christoph Zott, does a great job of showing ways to innovate and create value. The article also points out that innovating the business model and not focusing just on products can be less capital intensive. Finally, it puts you at less risk, because currently in the tech and gaming space you are one innovation away from people not needing your product.
There are three primary reasons you should consider focusing on innovating your business model
- It represents an often underutilized source of future value.
- Competitors might find it more difficult to imitate or replicate an entire novel activity system than a single novel product or process.
- Leaders must be attuned to the possibility of competitors’ efforts at business model innovation because it is so potentially powerful.
One of the best examples of a company dominating an industry by innovating business models is Apple with the iPod. Companies like Sony and Samsung were creating neat little MP3 players, competing on features and price. Apple came along and went for a product model to a closed ecosystem where it sold music online that worked on its audio device. With a market value now over $440 billion, I would call it a good success story of business model innovation.
How to innovate in business model design
An innovative business model can create a new market or allow you to exploit new opportunities in existing markets. The way Dell disrupted the computer industry by making computers to order exemplifies this opportunity. Alternatively, changes to business model design can be subtle; even when they might not have the potential to disrupt an industry, they can still yield critical benefits. An example Amit and Zott used is Taco Bell, which did not create a large-scale disruption but changed models by sending food in precooked bags to restaurants. This allowed them to price their food less than competitors.
There are multiple ways companies can innovate their business models:
- Add novel activities through forward or backward integration. This is referred to as new activity system content.
- Link activities in novel ways; this form of business model innovation is new activity structure.
- Change one or more parties that perform any activities, or new activity system governance.
Enough changes to one or more of these elements is how you change your business model. The next challenge is increasing the odds of finding the optimal business model for your situation. The articles authors identified four interlinked value drivers of business models:
- Novelty captures the degree of business model innovation that is embodied by the activity system.
- Lock-in refers to those business model activities that create switching costs or enhanced incentives for business model participants to stay and transact within the activity system. Nespresso is an example of this, as people who purchase the system then need to buy its coffee pods.
- Complementarities refer to the value-enhancing effect of the interdepencies among business activities. An example would be how Microsoft acquired Bungie to provide games exclusively to its gaming console.
- Efficiency refers to cost saving through the inter-connections of the activity system.
Interdependencies in business models
Entrepreneurs create interdependencies in several ways: when they choose the organizational activities that satisfy a market need, when they design the links that weave activities together into a system and when they shape the governance mechanisms that hold the system together.
Content, structure and governance can be highly interdependent. An example would be Uber, the car service that is disrupting the taxi industry. They let drivers and customers select who will pick up whom. This was a structural choice that settled the question of how finding a taxi and finding customers were linked.
Leaders also need to consider the interdependency between a company’s business model and its revenue model. Although business and revenue models are distinct, they are closely related and intertwined. The adaption of a free-to-play by Playdom, Zynga and Playfish represents this interdependency. Not only did they change their revenue model but they created a new business model based on analytics and live game support.
Questions to ask before launching a new model
Given the risk in launching a new business model, there are several questions you should consider before implementing a new model
- What perceived needs can be satisfied through the new model design?
- What novel activities are needed to satisfy these needs?
- How could the required activities be linked to each other in novel ways?
- Who should perform each of the activities that are part of the business model (e.g., company, partners, customers)?
- How is value created through the novel business model for each of the participants?
- What revenue model fits with your company’s business model to appropriate part of the total value it helps create?
Moving forward
As I have discussed before when writing about Blue Ocean strategy, the best way to increase profits and your company’s value is to innovate on strategy rather than trying to win in a competitive market. While blue ocean strategy helps you find new markets and build new products, innovating on your business model is another way to create long-term value. Coupled with blue ocean strategy, it is an effective way to grow your business.
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