How to Assess the Quality of Your Business Model
Just as it is a necessity to visit your doctor on a periodic basis to ensure your continuing health, it is equally imperative that you do regular analyses of your business model to ensure that it is still aligned to market forces.
This leads to small adjustments in the business model which compound over time, but it may also lead to a major overhaul of the model if required. Evaluating the business model is a sure fire to predict how well the business will do in the future.
Furthermore, evaluation tools must be adaptable and applicable to a variety of different business models for them to prove useful.
In this article, we look at 1) why evaluate a business model, 2) concept for assessing business models, and 3) additional measures for assessing business models.
WHY EVALUATE A BUSINESS MODEL?
The business world is littered with brilliant ideas which failed due to poor planning or mediocre execution of the plan. Hence, just having a wonderful idea is not an automatic guarantee for success. The plan and implementation for the business model is crucial to the sustainable success of the idea. Knowing whether an entrepreneur is in possession of a potentially successful plan is, therefore, a key question for the entrepreneur. Some questions that an entrepreneur can ask are;
- What technique or tool can lend validity to my business model and ensure that it is the right choice for my company?
- What method can I use to analyze and monitor my business on a periodic basis?
- What steps do I need to take to ensure continuous improvement in my business?
Business managers, entrepreneurs and company owners must be in possession of tools that allow them to frequently and robustly evaluate their businesses. The reasons for these needs can be;
- Have awareness of their strengths and weaknesses,
- Analyze how well their team has performed,
- Create quantitative goals and encourage smart spending,
- Develop different managerial levels so they are ready for the next step in the business,
- Provide inspiration and delegate decision-making and responsibility to the team,
- Streamline their businesses so they are get more market share and have increased cash flows,
- Face obstacles with a defined plan of action appropriate for the nature of the obstacle.
CONCEPT FOR ASSESSING BUSINESS MODELS
Evaluating Business Models using Business Model Canvas & SWOT
Alexander Osterwalder and Pigneur proposed a twofold assessment tool which represents a SWOT for the entire model and then additionally a SWOT for each building block of the model. Evaluating a business model as a whole or through the building blocks are both complementary activities. Hence to evaluate the SWOT of a section of the business model like Value Proposition will result in a handful of statements and their marks regarding the value proposition. Hedman and Kalling also presented a business model has a few key characteristics like; customers, competitors, offering, activities and organization, resources, supply of production and output and finally to measure the progress of the model over time, there is the management cope which would leave a cultural impact on the children. Eventually, they arrived at the final tally for critical success factors; 42 are considered necessary to success, and 15 can be used as tools to measure the amount of success.
Evaluation Criteria from Morris, Schindehutte, Richardson and Allen, 2006
The nature of the business model employed by the entrepreneur has been of particular interest and importance to authors such as Morris, Schindehutte, Richardson and Allen with varying conclusions. However, they do seem to have common elements like value creation but the language varies because each author assigns their own meaning to the terms they are using for the purpose of the study rather than using a singular language across the board. Just as we need a cohesive language across researchers we also need the business management team of a single company to have a common understanding or language as far the business model for the company is concerned. When they say business model of the entrepreneur, the entire team must be completely aligned on the meaning.
The definition of ‘business model’ is used to
“describe a company’s unique value proposition (the business concept), how the firm uses its sustainable competitive advantage to perform better than its rivals over time (strategy), and whether, as well as how the firm can make money now and in the future (revenue model) (Morris, Schindehutte, Richardson and Allen, 2006, p. 28).”
All models eventually directly or indirectly imply that the company’s competitive advantage which is created through a series of unique competencies is the imperative measure of evaluating the company’s business model. Most studies delve into what is included in the concept of the business model and as well as the parts that make up the whole business model. One such part which is a common theme in most studies is the value network which is the joined group of partners, suppliers and other players who somehow have a stake in the regular running of the new business. Partners are a key element here and can be referring to businesses engaged in joint ventures, strategic alliances, and trade associations. They are usually bound by a legal document defining the relationship. Then we have another element which is related to the consumer segment the business is targeting as the buyer for its products and services. For an entrepreneur, knowing what you are selling to who is a huge win in their pocket. Another undeniable element is, of course, the value proposition of the company; that unique element that it offers to its consumers over all existing options they have in a particular category.
The next competency under consideration is the company’s unique set of internal rules and processes that keep it functioning on a daily basis. It will also include internal expertise such as supply chain management, etc. The next element on the agenda is the cost elements or all the factors that contribute towards representing cost for the company during the course of the products life cycle from conception to creation to selling it to the consumer. Then there is strategy which breaks down the organization’s overall purpose for existence into actionable plans and priorities for the future. Additional elements to consider are the revenue and pricing considerations that the company undergoes.
These are just the tip of the iceberg where research on business model is concerned. Scholars have introduced numerous factors to consider during the course of their study of the business model. This is because this is a relatively untapped field in research, and most of the information available on it is purely theoretical in nature. The subject is not old enough for much facts to have emerged from the testing of various theories.
Overall progress on evaluating business models has been slow for the most part. Some authors have presented alternates to the criteria discussed above. These alternates are;
- Uniqueness or novelty; this defines what sets the business model apart from others of its kind in the market
- The future likelihood of making profit from the business model or the business model’s ability to remain unique from the rest.
- Comprehensiveness or how thoroughly it covers the entirety of the scope it is aimed towards
- Inimitability; how difficult it is for others to emulate the same model due to the unique factors that make it up.
- Robustness or how well the business model stands various tests and still remains viable.
- Sustainability or the business model has the ability to continue at a consistent rate or level
Other frameworks for assessing business models
NICE framework from Amit & Zott
Amit and Zott boiled down their analysis to four major criteria. These are primarily aimed towards e-businesses but can be applied to companies following the brick and mortar model too.
- Novelty: This refers to the renewal ability of the company. In essence, novelty refers to anything the company could be doing which represents a fresh new approach to the business previously unemployed in the industry or the market.
- Lock-in: Also known as switching costs, this criterion measures the company’s ability to create loyal repeat customers as well as partnerships that will not be dissolved in favor of the competition. Parties with a relationship with the company should remain with the company if ever the chance for making a choice arrives
- Complementarities: This refers to how the various product lines of a single company and how complimentary are they to each other so that if a consumer is buying one, will he automatically feel the need to buy the second making his purchase more meaningful.
- Efficiency: This refers to transaction efficiency and proclaims that the more the volume of transactions, the less cost incurred by the company per transaction.
Hamel 4 performance indicators
The nine building blocks by Osterwalder and Hammel’s four performance indicators share a significant overlap. Hamel defines the following four factors as indicators of wealth potential
- Efficiency: The efficiency in delivering the value proposition to the target market by the company
- Uniqueness: How novel the premise of the company’s existence is
- Fit: how the various building blocks your business stands on tie into each other and complement one another
- Profit Boosters: How much the company employs “profit boosters” so it can increase it returns past the industry average
ADDITIONAL MEASURES OF ASSESSING BUSINESS MODELS
1. Are your switching costs a deterrent to customer churn?
The cost time or effort it would cost a customer to find an alternate to your or product or service in the market is called switching costs and most organizations strive to keep switching costs high, so customers continue to use their product and service. A company that used this measure to stunning success is Apple. When the iPod first came out, Steve Jobs also had software created which allowed users to sync their music to their music player. This meant that the effort required for a user to switch music players would more than double, a cost too high for most customers to attempt the switch.
2. How scaleable is your business model?
Scale-ability refers to how easily the business model allows the owner to increase the size of the business without a significant impact on the bottom line. This is the most easily done for businesses that operate online but is also possible for companies operating in the actual world. Facebook is a valid example since it required only a few thousand engineers to create profiles for millions of users.
3. Does your business model produce recurring revenue?
Recurring revenue is revenue that the company gets on a regular basis through repeat customers without having to expend any extra money to keep them attracted to your business. Another form of recurring revenues is through supporting products that the customers have to invest in on a regular basis such as cartridges that you have to keep buying for a new printer to keep it functional and useful
4. Do you earn before you spend?
This is an obvious metric and one used with great success by Dell, who would assemble the computer once the order has been booked creating revenue before any costs are incurred. This helps the business remain liquid.
5. How much do you get others to do the work?
This is a unique yet most vaunted quality in a business model. The kind of business model that saves you the labour costs and asks others, sometimes even the customer, to help put together or create the product. IKEA charges a premium for getting it’s customers to assemble their own furniture saving IKEA millions in labor and storage costs. Similarly, Facebook is popular for the access to content it provides but very little of this content is actually produced by Facebook itself.
6. Does your business model provide built in protection from competition?
Some business models are so unique in their features that they become impossible to emulate which is a competitive advantage permanently belonging to the business owner. Apple has complete monopoly on its business model which helps it create game-changing trend-setting technology which leaves most players trying to copy the end product because they cannot create and sustain the same kind of creative energy at their own offices.
7. Is your business model based on a game changing cost structure?
Smart spending is a great buzz word in the corporate environment today and a popular theme at strategy meetings. There are, however, a lot of companies who have taken smart spending to a whole new level by creating a cost structure so innovative, it has changed entire industries. Bharti Airtel, one of the leading telecom providers in India realized early on the cascading costs of an expensive infrastructure and IT would not be a successful strategy for India’s price sensitive regular customer. So they did away with both units and instead bought up network capacity on a variable cost basis from a group of companies. In this way, it is able to provide extremely low cost telecom services to its customers.
8. How does your business model design perform?
It is natural that not all business models will score well on all the above-mentioned areas. However, some business models have been known to score extremely low in these areas and yet experience wild success. However, evaluating your business model according to the methods mentioned in this article will help the entrepreneur thoroughly test the business model and discover weak spots if any.
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