Business model Innovation – A generic Perspective

Business Model Innovation (BMI) refers to the creation, or reinvention, of a business itself. Whereas innovation is more typically seen in the form of a new product or service offering, a business model innovation results in an entirely different type of company that competes not only on the value proposition of its offerings, but aligns its profit formula, resources and processes, and its value network to enhance that value proposition, capture new market segments and alienate competitors.

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Evolution and key principles of the theory

Adrian Slywotzky, a consultant and author of several books on economic theory and management has highlighted the importance of adjusting the Business-Design in order to adjust to value migration or drive value value migration within an industry.

Customer Value Proposition First and most important, a successful company is one that has found a way to create value for customers — that is, a way to help customers get an important job done. By job we mean a fundamental problem, in a given situation, that needs a solution. The best customer value proposition is an offering that gets that job–and only that job–done perfectly. The lower the price of the offering and the better the match between the offering and the job, the greater the overall value generated for the customer. The more important the job is to the customer, the lower the level of customer satisfaction with current options, and the better your solution is than your competitors’ at getting the job done, the greater the value for your company.

Profit Formula The profit formula is the blueprint that defines how the company creates value for itself. People often think that profit formulas and business models are interchangeable, but how you make a profit is only one piece of the model. It consists of the following:

Revenue model (price × volume)
Cost structure (assets; direct and indirect costs; and a model of how, and whether, scale affects costs)
Margin model (How much does each transaction need to net to cover the cost structure and deliver target profits?)
Resource velocity (How much revenue do we need to generate per dollar of assets and per dollar of fixed costs, and how quickly?)

Key Resources The key resources (or assets) are the people, technology, products, facilities, equipment and brand required to deliver the value proposition to the targeted customer. The focus here is on the key elements that create value for the customer and company, and the way those elements interact. Every company also has generic resources that do not create competitive differentiation.

Key Processes Successful companies have operational and managerial processes that allow them to deliver value in a way they can successfully repeat and increase in scale. These may include such recurrent tasks as training, development, manufacturing, budgeting, planning, sales and service. Key processes also include a company’s rules, metrics and norms.

Market context and circumstances fueling BMI

Bob Higgins, founder and managing general partner of Highland Capital Partners, is quoted in Johnson, Christensen and Kagermann’s Harvard Business Review article as saying, “I think historically where we [venture capitalists] fail is when we back technology. Where we succeed is when we back new business models.”

Business model innovations have reshaped entire industries and redistributed billions of dollars of value. Retail discounters such as Walmart and Target, which entered the market with innovative business models, now account for 75% of the total valuation of the retail sector. Low-cost U.S. airlines grew from a blip on the radar screen to 55% of the market value of all carriers. Over the past decade (1997-2007), 14 of the 19 entrants into the Fortune 500 owed their success to business model innovations that either transformed existing industries or created new ones.

A 2005 survey by the Economist Intelligence Unit reported more than 50% of executives believe that between now and 2010, business model innovation will be even more important for success than product or service innovation. A 2008 IBM survey of corporate CEOs echoed these results. Nearly all of the CEOs polled reported the need to adapt their business models; more than two-thirds said that extensive changes were needed.

An analysis of major innovations within existing corporations in the last decade (1998-2008), though, shows that precious few have been business-model related. And a recent American Management Association study determined that no more than 10% of innovation investment at global companies is focused on developing new business models. The authors therefore highlight five strategic circumstances companies commonly face that often require business model change:

The opportunity to address the needs of large groups of potential customers who are shut out of a market entirely because existing solutions are too expensive or complicated for them. This includes the opportunity to democratize products in emerging markets (or reach the bottom of the pyramid).

The opportunity to leverage a brand-new technology, wrapping the right business model around it or the opportunity to leverage a tested technology in a whole new market.

The opportunity to bring a job-to-be-done focus to a marketing-driven industry. Such industries tend to make offerings into commodities. But a jobs focus allows companies to redefine the industry profit formula.
The need to fend off low-end disruptors. If Tata’s 1 Lakh ($2300) Nano is successful, it will threaten other automobile makers.

The need to respond to a shifting basis of competition. Inevitably, what defines an acceptable solution in a market will change over time, leading core market segments to commoditize.

The innovation revolution spurred by venture capitalists decades ago has created the conditions in which scale enables big companies to shift from shackling innovation to unleashing it. Three trends are behind this shift:

The ease of innovation and its decreasing cost mean that start-ups now face the same short-term pressures that have constrained innovation at large companies. Taking a page from start-up strategy, large companies are embracing open innovation and integrating entrepreneurial behaviors with their existing capabilities. Innovation increasingly involves creating business models that tap big companies’ unique strengths. In this context, entrepreneurial individuals, whom the author calls “catalysts,” are working with corporations’ resources, scale, and growing agility to develop solutions to global challenges.

Here are the stories of four corporate catalysts: Keyne Monson, at Medtronic, spurred the creation of a program called Healthy Heart for All, which seeks to bring pacemaker technology to hundreds of thousands of Indians who desperately need it. Yuri Jain, at Unilever, sought and found a scalable solution to purifying drinking water–Pureit, a portable system that provides safe water at half a cent per liter. Nick Musyoka, at Syngenta, devised a program called Uwezo (Swahili for “capability”), which uses the sachet distribution model to provide smallholding farmers with affordable packages of crop protection chemicals. Colin Harrison, at IBM, was instrumental in developing the company’s Smarter Cities program, which offers bundled technological infrastructure and related services to help cities save money and improve lives.

In the complex sport of American football, teams rely on playbooks as thick as the Manhattan phone directory. But when it comes to creating innovative growth businesses—which is at least as complicated as professional football—most companies have not developed detailed game plans. Indeed, many managers have concluded that a fog enshrouds the world of innovation, obscuring high-potential opportunities. The authors believe that companies can penetrate that fog by developing growth strategies based on disruptive innovations, as defined by Clayton Christensen. Such innovations conform to a pattern: They offer an entirely new solution; they perform adequately along traditional dimensions and much better along other dimensions that matter more to target customers; and they are not initially appealing to powerful incumbents. Companies can develop customized checklists, or playbooks, by combining this basic pattern with analysis of major innovations in their markets. The key early on is to focus not on detailed financial estimates—which will always guide companies toward the markets most hostile to disruptive innovations—but on how well the innovation fits the pattern of success. It’s also crucial to encourage flexibility: Companies must be willing to kill projects that are going nowhere, exempt innovations from standard development processes, and avoid burdening project teams with extra financing, which can keep them heading in the wrong direction. Companies can create competitive advantage by becoming champions at defining the pattern of successful innovations and executing against it. But as that pattern becomes obvious—and others emerge—building a sustainable advantage on innovation competencies will again prove elusive.

In today’s increasingly complex environment, business model innovation can be critical to organizational success.

In a follow-up to the “IBM Global CEO Study 2008, The Enterprise of the Future,” we analyzed 28 successful business model innovators to understand how and when business model innovation is most valuable. The business model consists of four components: the value delivered to customers, how revenue is generated, how a company positions itself in the industry and how value is delivered.

In the new economic environment, companies can start developing a strategy and transformation approach by answering two questions: (1) Under what conditions should companies innovate their business model? and (2) What characteristics support the design and execution of successful business model innovation?

Successful timing of business model innovation depends on the economic environment, the specific market and industry conditions, and a set of internal factors impacting the organization.

It was found that successful companies are innovating their business model in three ways: (1) Revisiting the enterprise model to reduce cost through new partnership models and by re configuring the asset mix, (2) Using strong financial resources to introduce alternative industry models and disrupt competitors and (3) Rethinking revenue model and value propositions to respond to a different set of customer behaviors and market requirements.

Not every organization needs to innovate its business model immediately, but the capabilities need to be established in order to act when the time is right.

Three capabilities – we call them the Three A’s – can improve the execution of business model innovation: organizations need to be aligned with customer value, analytical to gain insight from differentiated intelligence, and enabled by an adaptable operating model.