Business Model Generation

15.12.13 Esseen kirjoittaja: Akseli Cairns
Kirjapisteet: 3
Kirja: Business Model Generation
Kirjan kirjoittaja: Osterwalder, Pigneur
Kategoriat: Erikoistuminen toimialalle, Luovat tuotteet ja liiketoimintamallit, Vastuullinen ja kestävä yrittäjyys, Oppiva organisaatio

One of the most used tools at Proacademy? –Check! Easy to visualize and applicable in reality? –Check! Suites different kinds of (business) ideas and helps making them happen? –Check! Consists of theory behind the visualization and practicality? – Check!

I’m of course talking about Osterwalders and Pigneurs book Business Model Generation, which has given us the tool Business Model Canvas (BMC from now on). Even though I’ve used this model or applied (read: tried to apply) it into practice, aside from browsing and picking suitable sections, I haven’t dealt with the book as a whole before. Now it’s in place because the model applies very well to putting business plans that are just ideas on paper and into concrete plans – and I’m dealing with business plans in my bachelor’s thesis.

I’ll start with my own opinion on traditional planning. Firstly I don’t like it per se. I think that we often spend too much time planning and all that time is time we could use better by just doing, trying to apply and perfecting. This is something that we do also at Proacademy quite often. We sit down in our training sessions planning possible ideas, thinking aloud and describing what we think our possible customers might like. In essence there’s nothing wrong with planning. It often forces us to write down our ideas and helps us see possible faults or issues in our plans. Even the writers of the book explain that business model innovation isn’t a new thing by a long shot. But they go on to explain that in today’s world businesses transform so fast that we need to “address the challenge of business model innovation” in new ways.

Indeed we could use different methods to achieve realistic business based on our ideas – such as the Lean method which in short is a circle of building our ideas into a product (be it physical or a service), measuring data on how well the product is selling or working and learning on this data and improving our ideas. In other words the Lean method describes a cycle of conscious trial and error and bases the product on ideas and improvements that work and constant evolution. I believe in this method but I’m not going into great detail about Lean aside from using it here as an example because this essay isn’t about it. If you want to read more, I suggest picking up the book Lean Startup by Eric Ries.

On the other hand we do also sometimes need to be able to visualize our ideas into a plan of sorts and in many cases financiers or banks require us to write down a business plan before financing our businesses. The BMC is a fantastic way of visualizing our ideas and it covers all the necessary topics from traditional business plans but in a different way compared to traditional business plans. Another reason why I like the BMC is because I’m not a terribly visual person. To be more specific, I’m not very good at visualizing things but I do like visualizations and it helps me learn and understand. This tool helps me visualize just about any business model or plan in a comprehensive but short and logical way.

The canvas

All business is about creating value. A bank creates value for its customers by keeping their money safe and paying interest on their savings and by giving loans to individuals or companies to improve their lives. A marketing company creates value by increasing the visibility of their customers and gives them tools to improve communications and public relations. A charity organization creates value by improving life standards, organizing disaster aid and other solutions. If a business doesn’t create value, it isn’t a business. The Business Model Generation describes a business model in the following way: “a business model describes the rationale of how an organization creates, delivers, and captures value”.

Once we have an idea about how we can create value and we are have an understandable but comprehensive idea of a possible business, the canvas helps us build a bigger picture via nine building blocks: Customer Segments (CS), Value Proposition (VP), Channels (CH), Customer Relationships (CR), Revenue Streams (R$), Key Resources (KR), Key Activities (KA), Key Partnerships (KP) and Cost Structure (C$). While we have used the canvas and our head coach has even printed and laminated a few poster-sized canvases, we sometimes use this tool without really understanding where to start and WHAT the different sections in the canvas actually mean. I’ll try to cover each section in the canvas in the order that the writers intended.

Business_Model_Canvas

1. Customer Segments are the first and probably most crucial part of a (potential) business. No company can cater for “all people” and even mass market businesses distinguish on specific albeit large groups that have broadly similar needs and problems. The general idea from marketing books and also from the Business Model Generation is that customer groups differ from each other if:

  • Their needs require and justify a distinct offer – which means that the products or services need to cater for a specific need that a specific group has. A good example might be retirement centers. They need people who can help the customers (the elderly) to move around and exercise but also need to be careful enough not to strain the muscles, joints or lungs and heart too much. Physical therapists know how to do this but a general sports teacher or maybe a gym instructor might not.
  • They are reached through different Distribution Channels – this means that different groups have specific ways of communicating and different ways of acquiring their products. A great example could be the Finnish postal company Itella which has gone through lots of changes recently to cater for different distribution methods of communicating and “keeping in touch”. Older Finnish people might prefer to communicate via the telephone, they send cards or letters if they want to congratulate or tell their peers something and they expect to receive a paper bill from their electricity company. While modern day teens use text messages and online social networks to “keep in touch” and want their bills online.
  • They require different types of relationships – which again sounds quite self-explanatory but requires a bit of thinking to get right. A company that manufactures laptop computers as an example needs to consider two very different customer groups. The other one is individuals who buy their laptop and only communicate to the manufacturer if there is a problem with their device and the retailer can’t help them get it repaired or changed. The second group is corporate customers that buy perhaps tens or hundreds of devices. They expect the manufacturer to help them with installations, tech support and long-time updates to gain value for money. The manufacturer needs to make sure that they have methods of communicating and serving individuals who perhaps don’t require very close relationships and they need to have people that might be responsible of serving individual companies and satisfying their needs.
  • They have substantially different profitability’s – meaning that different customers create different revenues in different situations. A sports-product retailer will have people who buy sweatpants twice a year, people who come in once to buy gym equipment and people who buy a packet of tennis balls every week. The revenues these customers bring depend on the prices of the products, the intervals of purchases, the lifespans of the products and the customers themselves.
  • They are willing to pay for different aspects of the offer – a good example might be the modern day tech-market and smartphones. Tech blogs and tech websites and some people around the world will always be willing to pay more to be first. They are the early adopters and perhaps even expect their products to have some small issues or bugs that can be ironed out with updates while they still have them and before they move on to the next device. For them the aspect of desire is NEW. And the same device maybe half a year later can be sold to bigger groups of people who aren’t willing to pay such a premium price and want a device that works without hassle. Their aspect of desire is STABILITY. The product is the same but the time, reason and price of purchase is different. The manufacturer needs to understand how their pricing works and how to produce updates, when to increase the amount of retailers etc.

It’s easy to homogenize groups of people based on the “obvious” such as demographics but for a business to be successful, it really needs to be specific on its customers. Not ALL elderly people require glasses for example. And not ALL Finns want a Sauna to be built in their house. This section of the BMC is the most crucial because without understanding who the desired customers are and who we should ignore, we can’t understand our value proposition, what kind of resources and partners we need and where to we get revenue from.

2. Value Propositions is the second block and as the name implies, it demonstrates the value that a product or service provides the customer with. This section isn’t a description of the products and services but a description of WHY would each of the customer segments become our customers. The values can be new and innovative or they can be similar with other values already on the market but with additions. The key questions when thinking of VP are:

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

There is probably an endless list of possible values that a business can offer and as technology and innovation improves, the list will keep growing. To give an idea, some possibilities of provided value can be: newness (e.g. tech markets & early adopters), performance (e.g. new televisions), customization (e.g. car tuning), design (e.g. clothes & fashion), brand (e.g. “I prefer Coca Cola because it’s made by Coca Cola”), price, risk reduction (e.g. insurances, guarantees) and convenience (e.g. gaming consoles versus complicated pc machines & operating systems).

This section improves on the selection of customer segments that came before, because no company will get customers without providing value to them. In many cases it might feel almost impossible to come up with ways to create value because many markets are almost exhausted with companies already. But there are always ways to create value and the more innovative your business idea is, the more probable it is that you can find something that adds on what is already at the market. Did Apple fear the massive Nokia who had by far a majority of the world’s cell phone markets 10 years ago? Probably yes, but instead of fearing, they came up with a way to generate additional value on top of what Nokia was already providing customers with. It did so by differentiating its products (touchscreen vs buttons) and with a constant evolution of convenience by combining its products with services such as music services, cloud storages etc.

3. The Channels building block is a description of methods and ways to communicate and reach customers. They can be self-developed, owned or through partners and each channel has a purpose, whether it’s about creating awareness or providing post-purchase support. The book describes five distinctive channel phases that I remember reading about in other books also so let’s take a quick look at them:

  • Awareness is the channel how the business reaches its potential (and other) customers and raises awareness about the company and/or its products and services. This often means sales and marketing but doesn’t need to limit itself to just that.
  • Evaluation is a description of the methods to help customers evaluate the Value Proposition. So again we go back and look at the previous building blocks and need to understand that just HAVING Value Proposition isn’t enough – we actually need to communicate it also.
  • Purchase is a distinctive description of methods how the customers can purchase specific products or services. Is it an online store, phone sales or perhaps a place to buy a product at a place where they move around in? This means that we can’t just assume that because we have a product, the customers will come. We need to make sure that the methods of buying are right for the selected segments. Again it comes clear why the book goes through the canvas in the order that it does.
  • Delivery can be either physical or non-physical ways of delivering our Value Proposition to the customers. If our Value Proposition describes a service that we provide that gives customers customization, then how do they customize this service? Do they select or deselect what they want online and then make an order after which we deliver the service to where they are? It’s not enough to just have a VP and communicate it but we also need to deliver.
  • After sales means post-purchase (customer) support in one way or another. We all know that most technology-related product have warranties or services but services can also provide after-sales support just the same. It’s up to us to decide and understand what post-purchase support we WANT to give and what kind of post-purchase support we NEED to give our customers.

4. Customer Relationships is the block which clarifies the types of relationships the business has with its customers. The relationships can be based on customer acquisition, customer retention or boosting sales and answers questions such as “what type of relationship does each of our Customer Segment expect us to provide” and “how costly are each of our relationship models”. There are several categories of Customer Relationships and here’s a few examples of them:

  • Personal assistance
  • Self-service
  • Automated services
  • Communities

It is up to us and our businesses to describe and understand our customers, their needs and the profit they can bring us and in many cases it’s better to go ask them than think for ourselves. Instead of assuming that “our cleaning service doesn’t need any after-sales services” we could go ask our customers or potential customers what kind of a relationship would they want or need to become our customers. It might be as we said but it might just as well be a description like: “to use your cleaning services, we want to have the same cleaning person on the same day every week, and we want a direct communication method to get hold of either you or this cleaning person to use in the case of an emergency”. This customer just described a very personal, almost dedicated assistance model whereas we had prepared to launch a service that has perhaps self-service or no after-sales support at all.

5. Revenue Streams represent the cash that a business generates from each Customer Segment. It means that in the BMC we need to go deeper than just assuming that “we will get customers from this group” but instead we estimate or describe the methods that they use to pay us. There are two types of revenue streams; the first one is one-time payments (such as buying a packet of sugar off the supermarket shelf) and the second is recurring payments that might be generated by e.g. subscriptions or usage fees (such as paying Spotify a monthly fee to use their music libraries).

In this section the most important thing for us to remember is that we need to be specific. To fully benefit from the BMC we are using, we need to describe the types of ways to generate revenue (such as one-time sales, usage fees, rents, licenses etc.) and our pricing mechanisms for each revenue stream. There are two types of pricing mechanisms:

  • Fixed Menu Pricing where the prices are based on static variables such as amount of products sold (volume), features, customer segment value (some segments will prefer to buy a premium for a Rolex for example) etc. The fixed pricing mechanism is often used in consumer markets because it’s both time consuming and expensive to start negotiating prices or vary prices depending on real-time market supply and demand.
  • Dynamic Pricing in which prices change based on market conditions such as supply and demand, negotiations, auctions etc. Dynamic pricing is often used when dealing with (large) corporate customers because it pays off to keep them satisfied even with slightly smaller margins if they generate enough money. As an example we might only provide consumer customers online support or community support for software products and charge them list price for the software. But for corporate customers we might go as deep as providing personal after-sales services and charge them a negotiated price to keep them happy as they bring in the same amount of revenue that a hundred individual consumers would.

To make this building block provide the most benefit, we need to combine each of our Customer Segments with their Value Propositions leading to very specific revenue streams and pricing mechanisms. This will help us design and plan our products and services accordingly and it helps us to discover possible loopholes or new revenue ideas if we have missed something. The more specific we are when filling this section, the better.

6. Key Resources are the things that make a business possible and they make it work. Every single business requires Key Resources and these things allow the business to build and maintain distribution networks, products, and communications and they make earning revenues possible. They can be physical (such as buildings, vehicles etc.), intellectual (patents, CRM systems, software etc.), human (employees, sales forces etc.) and/or financial (credit systems, stocks, loans etc.). This block might feel a bit self-evident but in reality it’s not, it’s easy to disregard crucial key resources or how to tie those resources to the business. Answer the following questions in this block:

  • What Key Resources do our Value Propositions require?
  • What Key Resources do our Distribution Channels require?
  • What Key Resources do our Customer Relationships require?
  • What Key Resources do our Revenue Streams require?

7. Where the Key Resources describe the things that allow the business to exist and operate, Key Activities describe the necessary activities to tie everything together. And just like resources, Key Activities differ depending on the type of business model. A software company’s main activity is developing software, and a car manufacturer’s main activity is making vehicles that can be sold. The activities however are not just tied to the most vital and obvious aspects – there are other crucial activities too. If the car manufacturer didn’t make an effort to build a network with car selling networks or ignored subcontractors, they couldn’t make or sell the vehicles. Some examples of Key Activities are:

  • Production (making, designing, delivering etc.)
  • Problem Solving (consulting, curing, cleaning etc.)
  • Platform/Network (matchmaking, software maintenance, networks etc.)

8. Key Partnerships are partners and suppliers necessary to optimize the business model, reduce risk or acquire resources. They can consist of subcontractors, sellers, manufacturers, raw material producers and can at the same time be a good partner and a direct competitor. Often for a business it is not sensible or cost-productive to maintain and do everything and instead forming different kinds of partnerships can be of great benefit. In modern day business there are even some companies that base their whole business model on partnerships. The book distinguishes four different types of partnerships:

  • Strategic alliances between non-competitors that are often formed for the sake of optimizing the allocation of resources/activities or enabling a bigger scale than either party could acquire on itself. These alliances can also be formed to acquire certain resources or activities. As an example we could take Google and Samsung. Neither competes directly with the other but both benefit from their alliance. Google provides Samsung with its mobile operating system Android, and in return gets its name and services on every Android device Samsung sells. Samsung on the other hand gets a fully developed platform and can focus on its core activity – making electronics which in this case are smartphones.
  • Cooperation and strategic partnerships between competitors can be used to mitigate or reduce risk even though both partners might compete in another field. To continue using smartphones as an example, it has (even after the past few years of continuous trials) a strategic partnership with Samsung. The latter provides Apple with high quality screens that are then put on iPhones which are sold around the world. Apple benefits financially from buying the screens instead of manufacturing them itself but still competes directly with Samsung with its end-product iPhone on the cellphone market.
  • Joint ventures to develop new business is a path that two very different companies might taking for the benefit of both. A good example from our recent years could be Nokia and Microsoft. They didn’t form just a strategic partnership but thy combined their efforts in building smartphones on a new platform. Microsoft had a background in software but had never manufactured devices itself and while Nokia did have some experience in cellphones and even smartphones, it needed a mobile platform to gain foot in the competition that seemed almost too hard to catch up with.
  • Buyer-supplier relationships to assure reliable supplies. These alliances are often formed to reduce costs and might involve outsourcing or sharing of infrastructure. A good example of this type of operation would be Foxconn and Apple. It makes little sense for Apple to produce all the millions of iPhones, MacBooks and other products in the US, when it can buy the production services from a company that has all the required facilities, machinery and staff to do it. Both parties benefit from this alliance and they don’t compete against each other.

9. Cost Structure is the final block that puts everything together. Every Value Proposition, Customer Relationship, Key Activity and the other blocks have a cost or multiple costs tied to them. What is important to understand is that while virtually everything a business does to provide its customers with value, it needs to understand those customers and whether they want to pay for value or pay as little as possible.

Some businesses (RyanAir, Tokmanni etc.) focus on minimizing their costs by all means and offer their customers as low prices as they can with still gaining a profit from volume rather than from margins. Other companies (Rolex, Rolls Royce etc.) provide their customers with premium quality and a brand that portrays their customers as wealthy and these companies make their earnings from margins that can be massive compared to other companies in the same field.

The costs structures on the other hand can vary depending on the company and product or service and both types (value-driven and cost-driven) of businesses can have one or more of the following types of cost structures:

  • Fixed costs where the costs remain the same despite volume or products. A good example can be salary which is often hourly or monthly based and only differs if the company needs the employees to do overtime.
  • Variable costs that depend on volumes of services or products produced. These are often tied to raw materials or random costs that increase proportionally with volume.
  • Economies of scale mean that the bigger the company get, the more it can cut costs relatively. Great examples could be bulk-orders that naturally increase the total costs when the orders grow but the relative unit price goes down as the magnitude grows. This is often utilized to great benefit by large companies and in the Finnish food and retail industry, the two major chains are sometimes even accused of exploitation of small producers.
  • Economies of scope sounds similar but is NOT the same as economies of scale. The benefits that scope can bring are advantages that come with a large scope of operations. A large shipping company doesn’t need to buy a new ship for each container it transports and thus it benefits from the scope of its business. The same could be applied to marketing divisions of huge conglomerates. Those marketing divisions can use the same methods of marketing without additional work in several subsidiaries with little to no extra costs. When Windows 8 came out, Microsoft proudly announced that it spent about 3 billion US dollars on its marketing campaign. It would probably have been even more if the marketing departments of each country had to plan every advertisement and every channel separately. Instead they used to a great advantage the fact that the same advertisements and communications can be used around the world with just translation costs.

How to?

The canvas can be worked on worked on whatever way you please and a popular (at least in my team) is to plot the canvas on a poster if a poster-sized version isn’t ready, put it on the wall or a table and sketch out the business model by adding post-it’s for each section. The post-it’s can be short and include just a few words to give a rough or a general idea about the model and then each section can be thought of with more detail and even written down as a business plan. A good example of how to do this can be found on Theseus, which is a repository for Finnish theses and publications from Universities of Applied Sciences. Seek Terhi Salonen and her thesis “Burning Leather Oy” which she built using a Business Model Canvas.

The canvas can be used in various ways and circumstances such as:

  • Establishing externalized as-is and to-be business models
  • Easily illustrating how the model makes financial sense
  • Showing all project members in a visual way the big picture and their own roles and the interdependencies
  • Translating he business plans into processes
  • Showing the links between the needs of people’s day-to-day work
  • Reminding the team to think comprehensively about their business and helping them to not get stuck on details
  • Establishing a common understanding with colleagues
  • To make a move from budget-driven institutions to an entrepreneurial value-adding organization
  • To do a reality check!

And even though I mentioned a few times that the book goes through the building blocks in a logical order, it doesn’t mean that you absolutely have to! Different models can have a very different starting point depending on the business types. In a resource-driven model, the epicenter is the resources and partners blocks and the innovations often originate from existing infrastructure or partnerships. In offer-driven models, the starting point is the Value Proposition and the point of the model is to create (new) value propositions that affect other building blocks. Customer-driven models start from the Customer Segments and are based on their needs and convenience thus affecting the other blocks beginning from that point. Finance-driven models start from the bottom and are affected by pricing mechanisms, new kinds of revenue streams and optimized cost structures resulting in a very different type of model. Or instead of one type of business model, an idea can also start from multiple “central blocks” highly affecting and intermingling with other blocks and each other’s.

The book also gives an idea how to tackle some of our common problems with misconceptions regarding a business ideas viability. We have a tendency (and I totally agree with this based on my experience at Proacademy) to “be overly realistic” resulting in many ideas being shot down as useless before thinking further. One way I personally technique I like to use is to ask: “what could we do to make this idea more viable” or “what does this aspect require to be more realistic” or “what would make this project more profitable”. The book improves upon that by mentioning the question “what if” which takes my “what” –questions one notch further. We have tried it a few times in my team Extempo by starting with just a random word and doing a circle of “what if” –questions to build upon that word or idea. The results have been interesting and it’s a bit sad we have mostly done it as a mind-opener before going to “real work”.

The book is also covered by examples from real life companies and guides how to avoid mental blocks and fears. The canvas is a small but the most tangible part of the book and is an excellent tool to get started with a business idea. Reading through the various examples and tips in the book is almost mind boggling because after knowing and occasionally using the BMC for over two years, I “thought I knew it all”. My biggest lesson from this book was probably the one most of us should learn: “NEVER ASSUME!”

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