Business Model Write for us: business model refers to a company’s profit plan. It identifies the products or services the business plans to sell, its identified target market, and any anticipated expenses. Business models are essential for both new and established businesses. They help new, developing companies attract investment, recruit talent, and motivate management and staff.
Established businesses should regularly update their business model, or they’ll fail to anticipate trends and challenges ahead. Business models also help investors evaluate companies that interest them, and employees understand the future of a company they may aspire to join.
Understanding Business Models
A business model is a high-level plan for profitably operating a business in a specific marketplace. A primary component of the business model is the value proposition. This describes a company’s goods or services and why they are desirable to customers or clients. It ideally states to differentiate the product or service from its competitors.
What Is a Business Model?
Everyone agrees that executives must know how business models work if their organizations are to thrive, yet there continues to be little agreement on an operating definition. Management writer Joan Magretta defined a business model as “the story that explains how an enterprise works,” harking back to Peter Drucker, who described it as the answer to the questions: Who is your customer, what does the customer value, and how do you deliver value at an appropriate cost?
Other experts define a business model by specifying the main characteristics of a good one. For example, Harvard Business School’s Clay Christensen suggests that a business model should consist of four elements: a customer value proposition, a profit formula, essential resources, and critical processes. Such descriptions undoubtedly help executives evaluate business models, but they impose preconceptions about what they should look like and may constrain the development of radically different ones.
What is the Definition of a Business Model?
A business model answers foundational questions about the operation of a business — identifying the problem you will solve, the market that you will serve, the level of investment required, what products you will offer, and how you will generate revenue. Pricing and costs are the two levers that affect profitability within a given business model.
The most basic definition of a business model is that it defines how a company will create, deliver, and capture value. A business model is part of your overall business strategy. Some business models extend beyond the economic context and include value exchange in social or cultural terms — such as the intangible impact the company will have on a community or industry. Constructing and changing a business model is called “business model innovation.”
What is the Benefit of Building a Business Model?
Innovation is about more than the products or technologies that you build. How you operate your business is critical to standing apart in a crowded marketplace. The benefit of building a business model is that you can use the exercise to expose and exploit what makes your company unique. Choosing your offering is better for customers than any alternatives and how you will grow the business over time.
Many people associate business models with lengthy documents that describe a company’s problem, opportunity, and solution in the context of a two-to-five-year forecast. But business models do not need to be a lengthy treatise.
A one-pager is just as compelling for distilling and communicating the essential elements of your business strategy. The concise format helps share with broader teams so everyone understands the high-level approach. Done right, a business model can become a touchstone for the team by outlining core differentiators to promote and defend in the market.
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Pros and cons of different Business Models
Some types of business models work better for specific industries than others. For example, software-as-a-service (SaaS) companies often rely on freemium business models. This makes it easy for potential users to experience the product’s value and incentivizes paid conversions via access to additional features.
Many social media platforms make money through advertising. These companies attract more users by providing full access to the platform for free. In turn, this creates a more valuable audience for advertisers and increases revenue for the business.
How do you Analyze a Competitor’s Business Model?
Business analysts and investors often evaluate a company’s business model as part of due diligence for funding or market research. With a few caveats, you can apply the same tactics to analyze a competitor’s business model.
Public companies are subject to reporting requirements. This means the business must regularly disclose financial and performance data to the public — these disclosures occur quarterly and annually. The data includes gross revenue, operating costs and losses, cash flow, reserves, and lead discussions of business results. Designed to protect and inform investors, these reports can provide the information you need to understand the basics of the company’s business model and how well it performs against the model.
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