Business model part 2
A business model is an expansion of the vision. It outlines a complete detail on how a business will operate and make money. Translating a startup vision into a profitable business is a complex process that requires a lot of efforts and should be done carefully. A poorly defined business model is a guarantee for failure. All components of the business model must be completely examined to ensure startup has a good foundation and all risks are identified. If a component is missed, or if a risk is not identified, startup may encounter serious problems later that cannot be fixed.
A startup must be clear on what value it will give to its customers. The value can be direct to customers or indirect in case of supports another business to deliver its value. For example eBay is a website that allows people to buy and sell things online and for its support, it gets commission of the sales from people who sell things. eBay creates value by establishes the needed technology, setting up facilities and resource to support online sale activities.
Entrepreneurs must be able to explain why their idea provides value to customers and what types of products or services it will provide and why customers will buy it. This is a serious question that many entrepreneurs often ignore because of “personal biases”. If they cannot clearly explain what problem they are solving, what need they are fulfilling, or how their products or services meet customers’ demand than they should not go any further because they will fail.
Traditional business provides values by satisfy the need of customers based on market demand. However, it is possible to provide values that satisfy a need that customers did not even know because there was no similar offering. This is often a case of innovation or new technology. This is the best reason for entrepreneur to get into startup business. For example, Personal Computer did not exist before Steve Jobs started Apple (before that it is only an assembling kit for hobbyist). Mobile telecommunication is another example of a new technology opens a new industry because this market did not exist before.
Value can be created by helping customer get certain jobs done. For example, Airline companies depend on Jet engine companies to manufacture and service their airplane engines. This arrangement allows airliners to pay engine makers monthly maintenance fee so they can focus on operate an airlines without worry about maintaining engines. Another way of providing value to customers is making thing easier and convenience to use. For example, Apple iPod and iTunes provide users an easy way to search, buy, download and listen to music. That is why today Apple completely dominates the music industry with this service. Helping customers reduce costs is another way to provide value. For example, Cloud Computing Company will host all information technology applications on their servers where customers can access to them via the Internet and pay per usage. This relieves customers from expenses of maintaining IT applications and keeps an organization in house to buy, install, and manage all IT products. Another way of providing value is to perform needed software activities for customers at lower costs as in software outsourcing services.
Providing value involves the identification of specific channels to reach the customers and deliver the value to them. A channel can be used to raise awareness among customers about a company’s product and services; helps customers to evaluate the company’s value; allows them to buy specific products and services; deliver the value to them and provide supports when they needed. To complete this business model component, entrepreneur must answer the following questions: How do customers know about our company’s products and services? Do we need marketing and sales people? Do we need to advertise? Where do we advertise? How much does it cost? Do we need to set up our own website? How do we get people to go to our website? How do we set up a search engine optimization (SEO) process to get them to our website? How do we help them to evaluate our products and services? How do we allow them to buy our products and services? How do we deliver our products or services to them? What type of transportation do we need? Should we use truck, railroad or airplane? Should we deliver by our people? Should we hire another company to deliver our product? Can customers download our products from our website? How do we provide support after sales? Which one work best? Which ones are most cost-efficient?
Many Entrepreneurs only focus on their products and services but do not pay attention to channel. When they are ready to do business, they found that customers cannot find them, know about them or buy things from them. It is important to figure out these details before even think about starting a company.
For startup, the most important factor is having customers. Without customers there is no business. But the second important factor is revenue. Revenue represents money a startup generates from each customer and entrepreneurs must ensure that the costs of making and delivering products and services are much less than the revenue it gets, thus make sure the business is profitable. Profits depend not only on sales revenues but also on sales volumes. Volume is very important as it will allow the company to grow. For example, if your cost is $100 and you can sell for $150 then your profit is $50 but the question is how many times can you make a sale? What will happen if you only make a few sales? If you have 100 customers then your profit is $5000 and is $5000 a profitable business? If you have 1000 customers than your profit is $50,000. Is it what your business goal is? As an entrepreneur, you must understand that there is direct cost of making a product but also indirect cost of operation such as administration and financial expenses. Entrepreneur must review and write down on paper everything, from selling prices, operating costs and sales volumes to have an accurate number to make sure the business is profitable.
There are several ways of generate revenue: The most common is selling the ownership of a physical product such as books, foods, electronic devices etc. Where customer pays directly to get the product. The second way is to generate money by providing a service. The more the service is used, the more customer pays. A hotel charges customer for the number of night, rooms are used. The student pays for each hour of tutorial. It is also possible to generate money by subscription fees by allow customers to access to a service. For example, members pay a monthly fee to access to website of online games; readers pay a monthly fee to access to on line magazines, or newspapers. It is possible to generate revenues for advertising a products, services, or brand in newspapers, magazine or online websites.
To ensure the startup is making money, entrepreneurs must thoroughly working on these business model components in details to understand all the processes involved then conduct a market research to validate it to determine how to execute the processes in an optimal fashion to achieve the business goals. Entrepreneurs must have the answers on how the startup makes money? How much is possible within a year, in three years, and in five years.
Entrepreneurs must understand how will the startup compete in the market with others? Competing typically involves identifying a market with certain needs that they can meet and doing better than competitors. They must organize a new way to do it and be able to convince customers to do business with them. They must plan for business grows because the strategy is to become an enterprise. The business model must look at the issue of business growth and describe how it will be achieved.
A business can grow through entering new markets, expanding its range of offerings and taking over existing businesses. In a highly competitive market, with many existing competitors, the best way is using innovation technology to get advantage over others. That is why in the past fifty years, all new startups are based on technology. It was the fast CPU that enabled the personal computer of Apple to compete with the mainframe IBM computers. It was software that allowed Microsoft to dominate the market. It was the search engine algorithms that make Google to be the number one search company. It also explained the reason that 85% of the millionaire and billionaire in the world today, all come from or investing in technology area.
Sources
- Blogs of Prof. John Vu, Carnegie Mellon University
