Business models for innovation
Innovation and change in the twenty-first century is not simply about new products or services, new production processes, or new marketing strategies or channels. It requires all of these to be put together. Firms today must compete on the basis of their business model simultaneously including all of the above plus new financial arrangements, new organisational structures, and so on. Furthermore, it is vital for the business model to change as required so as to keep ahead of, or at least to keep up with, the competition.
A firm s business model is the collective of its various strategies and tactics. It is the particular way that the firm does business. Obviously, a new way of doing business that improves access to customers, reduces costs of operation, provides a superior product, or gains some other cost or marketing advantage will provide the firm with a competitive advantage over its rivals. All too soon, however, rivals will mimic the new business model and gain back market share, or introduce their own new business model that similarly wins market share and profitability. And thus the game continues.
Examples of new business models include Pizza Hut s decision to offer home delivery of pizza at a time when all pizza was sold and consumed in restaurants . This decision gave Pizza Hut access to customers who could not or would not drive out to eat pizza. But the new business model brought with it a host of necessary changes. Pizza Hut now needed delivery vehicles and reliable drivers whose knowledge of the suburbs was as good as a taxi driver s. They needed new technology to keep the pizzas hot while they were being delivered. They also needed to cope with hoax orders, with people having no cash or change, with disputes over what was actually ordered, and so on. Despite such issues, the new business model (of dine-in, take-out, and home delivery) soon replaced the old model (simply dine-in and take-out) and eventually virtually all other pizza restaurants switched to the new way of doing business.
Michael Dell introduced a new business model for the sale of personal computers. At a time when potential computer buyers went to the computer store and had to choose between the limited number of configurations offered by the manufacturers, Dell offered to assemble the exact configuration of memory, hard disk capacity, chip speed, and so on, that the customer specified. Dell took orders by telephone, by mail order, and later on the Internet, and could assemble and ship the computer within days. Rather than distribute through wholesalers and retailers, Dell marketed direct to the end user and provided a totally customised product. Moreover, Dell offered these computers at a price that reflected the savings he was making by not supporting an inventory of finished products and not having to wait weeks or months for payment from wholesalers or retailers.
Starbucks sells their own branded coffee beans (ground or whole) from its coffee shops . Until that time, in the US coffee beans were only sold in food stores and supermarkets. The new business model allowed Starbucks to expand around the world and take a substantial share of the coffee market. Meanwhile, the world s largest coffee company, Nestl , was pursuing its old business model and asking the wrong questions, such as what new variations in the size and colours of their packaging should they introduce next .
The changing of predominant business models
Hardware retailing provides a good example of how a predominant business model can change over time. Back in the 1950s and 1960s, there was a hardware store in the main street of every town and city in Australia. Relatively small by today s standards, each was a congested place with thousands of products stacked high and low, but the owner usually knew where to find what you were looking for. And if the item you wanted was not in stock, what s the rush? It could be ordered for you, after all.
In the 1970s and 1980s these stores came under severe pressure from the ˜category killer department stores like Big W and Kmart, who set up hardware departments in their bright and spacious stores. They purchased in great volumes , so in general were able to offer better prices than the small and independent hardware stores. They also offered other departments that ˜ killed off butcher shops, fruit and vegetable stores, clothing shops, and so on. Such department stores offered ˜ one-stop shopping so that the shopper no longer had to drive all over town or try to find parking at several different stores.
In the 1990s these hardware departments in turn came under pressure from the ˜big box hardware stores, such as Hardwarehouse and Bunnings, that offered not only a huge range of hardware items but also supplies for gardening , electrical, home renovations, painting, decorating, craft, and so on. They offered almost unlimited stock and variety in each product category, and even better prices. These hardware emporiums were inspired by the phenomenal growth in the United States of Home Depot, which opened over a thousand huge stores at the start of the decade . By the late 1990s, the phenomenal growth of the ˜Do-it- yourself home repair and renovation movement (supported by a myriad of ˜How-to books and television shows) spurred demand for hardware from ˜Mr and Mrs Average . This new business model is now the industry standard. The surviving hardware departments and the few remaining old-fashioned hardware stores hang on (like the corner food store) because they still have enough local customers (for whom they offer convenience) to survive.
What is likely to be the next business model for hardware retailing? It is Internet retailing, of course. On-line we can peruse images and data on the various items available, read reviews by satisfied and perhaps dissatisfied customers, place our orders and have them delivered. Without the need for bricks and mortar, and with negative invoice time (they receive your money before they spend any money fulfilling the order), such on-line marketers can offer even better prices! Again, like the ˜main street hardware store and the hardware departments of multi-category retailers, some of the ˜big boxes will hang on, almost certainly also becoming on- line retailers, surviving as long as they still suit some people.
For firms that act as the intermediary between the producer and the customer, such as travel agents , Internet marketing and sales may almost totally replace the old ˜shop-front business model. For others, it will become a major adjunct to their business. Note that while Dell Computer sells less than half its computers via the Internet, the marketing value of its website almost certainly contributes to a hefty proportion of the remaining store-based sales.
The business model life cycle
Business models experience a life cycle of birth, youth, maturity, senility, death and decay. [ 5] At first the firm with a successful new business model grows rapidly as it steals market share from rivals operating with the existing traditional (mature) industry model. The rivals ˜feel the pinch on sales and profits (as they enter the senility phase) and switch to the new model (or die) until most firms in the industry are following the new business model. Inevitably, the new business model will enter the maturity phase of its own life cycle, by now almost totally replacing the old model that has entered the senility and the death phases of its life cycle. But in turn, the new business model is vulnerable to the emergence of the ˜next big thing .
Have you ever caught a fish? If so, you may have noticed that, long after the fish is dead, its eyes still gleam and it looks as if it would twitch back to life and swim away if it was put back in the water. Business models are the same. They look fine even after they are actually dead ”it takes a long while before they really start to stink. In the meantime, managers are looking at the business model, mouthing the usual platitudes of non- entrepreneurial management, such as ˜I think it s just fine , and ˜Don t fix it if it ain t broke , and ˜Let s just wait for a while to see what happens next . Such managers, who often have a vested interest or emotional investment in (as authors or creators of ) the status quo, have an amazing ability to deny reality, to not see the obvious, and to filibuster against change.
The invasion of the new business model
New business models usually invade from outside the industry, or at least from outside the major players in the industry. Often the invader is a small firm that is a new player in the industry. It might (like Compaq) be formed by ex- employees of a major player (Hewlett-Packard) whose top managers failed to see the writing on the wall and would not change the business model. Or the invader might be an outsider to the industry (like Michael Dell) who simply saw a better way to give customers the computer they wanted rather than the ˜one size fits all computer that was sitting on retailers shelves .
Why does the new business model typically invade from the outside? There are three main reasons. The first might be called technological myopia . The incumbent firms are focused on their own technology and the continual refinement of that technology. This includes not only their technology of production, but also their marketing technology (the way they actually do their marketing) and, more generally , their technology of management. For example, steel companies were focusing on making a stronger and lighter steel plate when the plastics industry invaded the automobile industry and took away a substantial proportion of the body panels, bumper bars, inside trim, and so on. Similarly, Nestl was focusing on the colour of their packaging and the efficiency of their wholesaler “retailer distribution system when an upstart company named Starbucks began selling coffee beans in brown paper bags from their chain of coffee shops across the US (and now around the world).
Second, the major players tend to focus on their existing customers , who seem to prefer the product they are getting (as after all, they are still customers). In the US, Cadillac kept asking its diminishing pool of owners (whose average age was growing at one year per year, indicating that hardly any new younger buyers were buying Cadillacs) what they wanted in the next model Cadillac. In the meantime, Lexus picked up the great majority of the younger buyers who were seeking a luxury car that was sportier than the Cadillac but cost less than a Mercedes or BMW. Sony, when developing a series of new products (from the video recorder to the Discman) looked beyond their current customers in order to build products that they knew were possible and that customers would probably want to buy in the future.
Thus, a firm can pay far too much attention to its existing customers. The lesson is: your customers may not know what is possible, they may not know what they want until you show it to them, and as a group they exclude the people who are currently not buying your product or service (and wouldn t you like to know why?).
Third, in larger firms, typically the capital allocation process is very unfriendly towards innovation . In most large companies, formal processes exist for consideration of new business ideas. The ˜keepers of the gate require flawless business plans that promise virtually no chance of losing any money. Usually the new product or service must complement the existing business if it is to have a chance of gaining the approval. In addition, the approval chain of command may go all the way up to the chief executive officer and ultimately the board of directors. A single ˜no along the line usually kills the project. Speed to market is vital (as discussed later), but the multiple and sequential committee approval process slows the forward momentum of projects, and thus reduces their chance of success when they finally do hit the market.
[ 5] This discussion owes much to Gary Hamel s article, ˜Reinvent your company , Fortune ,June 12, 2000.
