The Importance of Business Model Innovation

Business ModelFor any business, becoming more innovative is always a top priority and occupies much of the senior management’s time. In many cases, however, the focus of a company’s effort to improve its ability to be more innovative tends to be narrowly defined. 

Think about what happens in most companies today, especially those companies who manufacture a physical product and have existing product lines, and in small and mid-sized firms. The dominant discussions are more likely associated with how to improve the existing products, or maybe creating a new product to serve a new market, or occasionally even developing a radical, new-to-the-world product. There is a great deal of emphasis on listening to customers for new ideas or the use of open innovation. The problem, and as it turns out the opportunity, is that there is no consideration of the business model itself. There are tremendous opportunities that go well beyond innovation related to the product itself and the market served by rethinking the entire business model in a way that can provide a sustainable competitive advantage.

The goal of this article is to illustrate the importance of business model innovation and the opportunity it represents, and to provide a tool to think about your business model.

Let’s start with a basic definition of a business model. Simply stated it is defined as the rationale for how your business creates, delivers and captures value. Based on this simple definition, you should immediately recognize that how your company generates revenue involves many other factors above and beyond the product itself. Let’s look at several examples of how this plays out in reality.

Wire BasketIn the Innovation Coach Workshop I teach (1), I use a wonderful example of business model innovation based on a small company called Marlin Steel (2). In 1998, a new owner bought the company that specialized in one product, and one product only: wire baskets for bagel shops. These are the baskets used to display the product. Marlin was the “big player” in this niche market, though revenues were modest at about $800k per year.

The problem is that within about five years, Chinese manufacturers entered the market and could undercut Marlin’s price by 50%. They were in big trouble by 2003. That’s when the new owner took a call from Boeing who wanted custom engineered baskets to hold machined parts during cleaning processes. They wanted higher quality compared to what Marlin was used to manufacturing, and they wanted them fast. They were, however, willing to pay a premium.

Needless to say, this crisis forced Marlin to rethink their “mental models” and how their business model really worked. Their existing model was based on phone orders for relatively lower quality, lower margin standardized wire baskets sold to bagel shops. They used simple fabrication techniques, the workforce was technically unsophisticated and the business processes simple. The new model was based on a high level of customization to manufacture high-quality baskets that would be sold into a new market segment, namely high-end manufacturing companies like Boeing who were willing to pay a premium for fast delivery. This required Marlin to invest in new resources including engineers, CAD systems, and high-end automated manufacturing equipment. It required an entirely new way to distribute and sell the product, with more emphasis on dedicated, personal assistance vs. phone sales.

By 2012, Marlin had shifted their business model, and survived the crisis. They had become more “innovative” but it really had nothing to do with the product itself, but with all the factors related to how they created, delivered and captured value. Revenues, while still modest, were in excess of $5M and projected to be about $7M in 2013. The real question when you consider this example is did they have to wait until there was a crisis to envision a new business model? This lesson can apply to many companies and you must always ask yourself: what is our source of competitive advantage and is it sustainable? In Marlin’s case, if they would have simply focused on trying to reduce the cost of their baskets rather than taking the chance to re-invent the business model itself, they may have in fact perished.

EarbudsConsider another example. Normal (www.nrml.com) is a company based in NY that makes custom designed ear buds. Their business model relies on first, a smart phone app that allows a customer to take a picture of their ears (yes, you heard right, their ears). From those photos, the company designs and “prints” your customized ear buds using 3-D printing technology. By customizing the earbuds to fit your ear better than standardized designs, the sound quality is higher. They have re-imagined the business model for manufacturing earbuds using the disruptive 3-D printing technology combined with mobile smartphone applications to deliver a higher performance product.

A recent article in FastCompany magazine (3) illustrates the point as well. The author, Om Malik, points out that what is important in using all the new connected devices is their ability to interact with other services. He uses the example of the Kindle e-reader as an example. The author relates a conversation with the CEO of Nest (connected thermostat) who describes the Nest thermostat as “…a summation of the hardware, the software of the product, the service’s back-end (operations), and all the different apps you need for iOS, Android, the web, tablets, and all the different screen sizes and everything else.”

A final example comes from another recent article in FastCompany, but this time it concerns a much larger organization, IBM, and its willingness to consider business model innovation (4). IBM is considering selling its semiconductor operations as the price of computer power keeps falling for consumers and R&D and manufacturing costs continue to rise, leading to lower margins. They seek to leverage their material-focused tacit knowledge in other higher-value industries such as nanotechnology applied to pharmaceutical, consumer-products, and medical devices. Because they do not have the expertise to commercialize products in these industries, they intend to collaborate with partners to jointly develop IP and generate revenue in ways not currently part of their existing business models.

The point of these four examples is that your company’s business model can be a powerful opportunity for innovation that has nothing to do with the product per se. Now, let’s consider a tool that can help frame the discussion about your current business model(s) and help conceptualize changes or entirely new ones.

CanvasThe tool is based on the “business model canvas” as described by Alexander Osterwalder and Yves Pigneur in their book Business Model Generation (5) and one that I use in my Innovation Coach Workshops. The tool utilizes a grid with nine (9) building blocks. In practice the grid can be plotted on a large format document that can be attached to the wall and used with sticky notes as an interactive and engaging way to discuss not only your existing model, but brainstorming other models. In other words, innovating on your business model.

The nine segments of the “canvas” include all the important aspects of how you create, deliver and capture value. In addition, based on a thorough understanding of all nine, a financial model can be built that reflects the cost structure and revenue streams. The nine (9) segments include:

Customer Segments: For whom are we creating value? Who is our most important customers?

Value Proposition: What value do we deliver to the customer? Which one of our customer’s problems are we helping to solve? What bundles of products and services are we offering to each Customer Segment? Which customer needs are we satisfying?

Channels: Through which Channels do our Customer Segments want to be reached? How are we reaching them now? How are our Channels integrated? Which ones work best? Which ones are most cost-effective? How are we integrating them with customer routines?

Customer Relationships: What type of relationship does each of our Customer Segments expect us to establish and maintain with them? Which ones have we established? How are they integrated with the rest of our business model? How costly are they?

Revenue Streams: For what value are our customers really willing to pay? For what do they currently pay? How are they currently paying? How would they prefer to pay? How much does each Revenue Stream contribute to overall revenues?

Key Resources: What Key Resources do our Value Proposition require? Our Distribution Channels? Customer Relationships? Revenue Streams?

Key Activities: What Key Activities do our Value Proposition require? Our Distribution Channels? Customer Relationships? Revenue Streams?

Key Partnerships: Who are our Key Partners? Who are our key suppliers? Which Key Resources are we acquiring from partners? Which Key Activities do partners perform?

Cost Structure: What are the most important costs inherent in our business model? Which Key Resources are most expensive? Which Key Activities are most expensive?

In summary, your business model(s) are key to creating value and meeting your company’s financial goals. Your first step is to make sure you fully understand your current model(s) and those of your competitor’s. Finally, you need to continuously consider if there are opportunities to modify or create new models. A high level of senior management engagement in this effort, like all facets of new product development, is crucial.

Do you understand your current business model? Do you continuously investigate new opportunities to innovate on your business model? Is your company too focused on the actual product rather than looking at the business model? Have you successfully implemented a change to your existing model or created a new model?

Notes:

(1)For more information on the Innovation Coach Workshop and download a brochure, see this link: http://bit.ly/innovationcoach2

(2)Fishman, Charles. 2013. The Road to Resilience: How Unscientific Innovation Saved Marlin Steel. FastCompany July/August 2013.

(3)Malik, Om. 2014. Get Smart: What Connected Devices Must Do To Succeed Beyond The “Internet of Things” Hype. FastCompany May 2014

(4)Bluestein, Adam. 2014. How IBM is Using Nanotechnology to Tackle MRSA and HIV. FastCompany May 2014

(5)Alexander Osterwalder and Yves Pigneur, Business Model Generation. (Hoboken, NJ: John Wiley & Sons, 2010)

New Product Visions is a consulting company that helps organizations improve the effectiveness of their new product development processes. We specialize in small to mid-sized companies that manufacture highly engineered products. Contact us today about how we might help you!

Specialties: NPD consultants, new product development consulting, developing new products, new product development seminars, small business consulting, new product development expert, product development process, new product development strategies, integrating NPD for mergers & acquisitions, organizing for innovation, management role in NPD, project risk analysis, innovation management

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