Organizations and Markets

The Soft Underbelly of Business Model Innovation

29 January 2014 at 4:26 pm Nicolai Foss 3 comments

| Nicolai Foss |

Business models have become important tools in the top-manager’s toolbox.  A business model is the articulation of the logic by which a business creates and delivers value to customers. It also outlines the system of revenues and costs that allows the business to earn a profit. It is both a map—i.e., a mental representation—and the real structure of the company’s internal and external activity systems.

However, in spite of more than a decade’s interest in business models and the innovation, their specific leadership and organization design challenges are only beginning to be understood. What is specific about these challenges is that top-management needs a map of the existing business model and the one it aspires to implement and execute, and a plan of how to get there.  Moreover, business models can be very complex systems, with many interlocking elements, requiring coordination.  Hence, business model innovations are truly major organizational change projects.

Writers on business models typically outline a number of elements of a company’s business model. These include the value proposition, segments, the value chain, and revenue model. But many writers and practitioners alike tend to stress only or a few of these.

Indeed, very often a single element of the business does stand out. For example, the tipping point business model of Groupon, Moolala and similar seems to be all about the value proposition centered on providing discounts on meals, products and services with local merchants.

Focusing on this single element makes sense from the point of view of communicating to stakeholders. It best captures what is truly distinctive about the company. But, in actuality, the elements of a business model are connected in a system. It may be a highly complex system.

Neglecting this can be highly misleading. For example, if one focuses solely on value proposition and segment as the truly distinctive part of, say, the business models of H&M and Zara, the conclusion is that these companies have basically the same business model. Namely one that offers fast fashion to young urban shoppers. But they don’t have the same business model. In particular, these two companies differ with respect to how they have organized their value chains (namely, little versus very heavy integration).

The one element highlighted by company communication may be, if not by any means unimportant, then an element that only becomes successful when it is properly linked to the other elements of the business model. For example, Zara’s fast fashion business model rests on the tight integration of imitative design, short product life cycles, flexible manufacturing, efficient logistics, and cheap prices.

This becomes salient when firms seek to innovate their business model. The degrees of freedom are far from unlimited. Zara’s ability to innovate is constrained by the current set of elements in place. Changing any of these elements will have ramifications for the entire system. The general point is that what Company X does to business model element a has implications for what it can do to business model element b, and perhaps c, d, etc.

This is not a complicated point. Managers are usually acutely aware of how changing activities in one part of a company may have implications for other parts. However, it is not a point that been brought to the foreground in the massive discussion of business model innovation. And yet, it may matter tremendously. For example, many of the large pharmaceutical firms now pursue much more service-intensive business models. They have had to revise their initial notion that it would be possible to move closer to patients with few changes in existing business models. On the contrary, more patient-centric models require major, related changes in communication, job descriptions, KPIs and rewards, notably for sales people.

Future blogs will explore the “soft underbelly” on business model innovation in greater detail, looking at, for example, cognitive and change management issues.

[This appeared originally at the NHH Center for Service Innovation Blog.]

Entry filed under: - Foss -, Innovation, Management Theory, Strategic Management.