Business Model Generation (Alexander Osterwalder & Yves Pigneur) — Summaries EP21

This book talk about taking your idea to a successful business, or optimizing your existing business, by creating a business model. A business model is essential to your business and defines: who your customers are, which markets you operate in, who your partners are, what costs you have, where your revenues come from, which activities you engage in, and how is value created and delivered to your customers.

If you enjoy my business book summaries, please follow me because there are lots more to come, and you can get notified as I publish new ones.

  1. Every kind of business out there, from selling chocolates, to selling clothes, has one thing in common: they create and deliver value to their customers. Because businesses can’t survive without customers, every business model has at its heart: a definition of a market for whom your product creates value (first element).
  2. There are two categories of market: mass market and niche market.
  3. A mass market serves a large group of people who have similar needs, such as napkins or milk.
  4. A niche market serves a very specific, smaller, narrow group of people with specific interests. For example: a vintage record store.
  5. After choosing the customer, in the business model, we choose the value proposition (second element). This describes exactly what problem is being solved for our customer and how their need is fulfilled. This value proposition should also show why your product is worth choosing over others.
  6. This value can come from many factors, such as: stunning design (think of Apple products), risk reduction (many IT companies focus on this), or performance (making a faster computer or device).
  7. After you are finished defining the market and value proposition, you define the channels that you will use (third element) to reach out to and connect with your customers. There are many options, such as: having a physical storefront, a website, and sales people. Channels can also be business partners, or wholesalers who stock your product.
  8. The fourth element of business model generation is: the customer relationship strategy. This strategy is important because it controls how customers will perceive the value of your company and products. It controls the tone and style of your outreach to your customers. Questions include: how personalized are you going to make the customer communication? How automated are you going to make it? Depending on the business, some customers may need more personal assistance. IKEA uses the self-service option. Amazon uses a “co-creation” model, where customers leave meaningful reviews on products, to benefit other customers shopping online.
  9. The fifth element is defining a revenue stream. This is synonymous to veins and arteries carrying blood through the body from the heart of the business, which is your customers. There are three types of revenue streams: transaction revenues, recurring revenues, and usage fees.
  10. Transaction revenues are one-time payments, such as selling a single product. Recurring revenues are subscription fees for services, for example: Netflix, or Norton Antivirus. Usage fees, however, depend on how much your customer uses your service, for example: a data plan you use on your phone.
  11. The sixth element of a business model is: key resources. This controls how your business will get access to the resources that it needs. This is analogous to nutrients that feed the body, and help it do it’s job. There are three types of resources: physical resources, human resources, and intellectual resources.
  12. Physical resources are materials, equipment, facilities, and buildings you need to run your business. A small store will require a store front location and cash registers, but large stores like Walmart or IKEA require massive warehouses.
  13. Human resources are your employees, and have been chosen by you due to their skills, experience and professional qualities that will help make your business succeed. If you are an advertising agency, you will have dependence on creative talent. This category also includes copyright and patents, which huge companies such as Microsoft or IBM rely on.
  14. The seventh element is Key Activities. These are critical actions your business performs in order to survive. There are 3 categories: production, problem-solving and platform hosting.
  15. A production activity are, for example, manufacturing a smart phone or cooking a pizza.
  16. A problem-solving activity can be a consultancy business which offers ideas and recommendations.
  17. A network or platform hosting activity are what large e-commerce sites such as eBay or AirBnB do.
  18. The eights element is Partnerships. If you want to run a large business, this aspect is essential. Apple, as an example, partners with Foxconn for the production of their iPhones.
  19. Partnerships can be a way to reduce risk. For example, when the blue-ray data storage format came out, it was a result of many companies collaborating on a shared format. They did not want to each run a risk of developing their own proprietary format, only to be outperformed by their competitors and displaced in the market.
  20. The ninth element is Cost Structure. This defines which costs you have and where they are in your business. There are cost-driven businesses, and value-driven businesses. A cost-driven business focuses on reducing costs as much as possible, by for example, automating processes. An example of a cost-driven business is EasyJet. A value-driven business doesn’t focus on cutting cost, but rather offering higher end services and products, which justify the higher costs. An example of a value-driven business is a private airline.
  21. As an entrepreneur, your job is to create something that hasn’t been done before, and doesn’t yet exist. One tool that will hep you with this is: customer insights.
  22. Customer insights is when you learn as much about your customers as possible, and understand what they value. You then discover potentially untapped business niches. In the example of EasyJet, they learned that lower income families desperately wanted to travel by plane, so the whole business was created around creating this opportunity in the lower-price segment.
  23. Zipcar found out that rental cars were badly needed in metropolitan areas, but customers didn’t like the maintenance and insurance costs. So Zipcar made a yearly membership for their customers, and allowed customers to rent at an hourly rate.
  24. An “Empathy-Map” method is a 4-way analysis of how your customers behave. Draw a large X on a page. On the top of the X, you write down what your customers Think and Feel. On the right of the X, you write down what your customers See. On the bottom of the X, you write down what they Say & Do. On the left of the X, you write down what your customers Hear. This way, you map out every aspect of your customer experience.
  25. Now write down a “fictional persona” for your imaginary customer. This includes their demographic details: age, marital status, income, and state of employment.
  26. Now that you defined your sample customer, ask the following questions, filling in the Empathy Map. What emotions do your customers feel? What do they think privately that they don’t share with anyone else? What’s their environment look like? What people are these customers surrounded by, and how do these people influence them? What do they hear from their friends, colleagues, wives or husbands? How do they act in public? What do they tell other people?
  27. The combination of all these in-depth questions may unlock needs that even the customers themselves don’t know they have. These answers can become the secret ingredients of your business’ success.
  28. The next step is writing out business scenarios in story form, with your customer being the main hero. The first approach is: taking your empathy map and coming up with the most straightforward scenario about the customer, their needs, goals, aspirations, worries, and personas. Aim for 300 words.
  29. As an example of the first scenario approach: You are a telecom company attempting to improve your GPS technology. Your customers could be tourists traveling in Rome, without having planned any activities in advance. They get guidance from the GPS instead. Or a young businessman, running his home-delivery service using GPS for the delivery directions.
  30. The second approach for writing scenarios is: imagining the future state of the world as it applies to your customers. As an example, if you are a transportation company, think about how in 50 years, the internet of things, AI, Big Data and technology will change the way our children get dropped off at school, or how we travel to work. These questions may lead you to: “Will we need train drivers?”, “Can we track our children’s path as they return from school?”, “Will all underground trains have unlimited Free WiFi?”. Such questions will help build business scenarios that will enable future possibilities, and not just solve today’s world’s problems.
  31. The next way to get inspiration for your business model is: looking at existing, successful brands. Skype uses a freemium model. They realized that people needed to talk to family members frequently, and Skype made this basic feature free. The premium service they have, offers more powerful features, such as being able to call land lines. In this model, the premium users cover the costs of the free users. The freemium model works very well for web companies, but can work in any industry, if the pricing is viable.
  32. To determine if freemium will work for you, you need to know the average cost generated by free users, and the conversion rate of those users to paying customers. These numbers will help set the price of the premium product and decide whether the business can be made profitable.
  33. The open-source model is a variation on the freemium model. Red Hat knew they could build a strong business by giving out free software which is built by a community of open-source developers, but charging for customer support and malware testing. These open source developers work for free. Red Hat charges a yearly fee for support, maintenance and upgrades to the software.
  34. The last business mode is the “long-tail model”, and it focuses on selling a small variety of products to a large number of people. An example of this is Lulu who print highly specialized, niche literature on a small scale, and print books on demand. This keeps their inventory costs low, thus keeping their revenues up.
  35. Long tail business models need strong platforms for customer outreach. Lulu is doing this by having authors who publish on this platform, that are also customers and readers of this same platform. It’s a tightly-knit community where people publish, sell and buy.
  36. Lego is another example of the long-tail model. They have a platform that allows you to design your own minifigs, vehicles and buildings. You can create your own Lego product, along with it’s packaging. You can also place orders for other custom products people have designed. Platforms like these open up product creation to the customer, democratizing product creation, and serving as a cheap, commoditized, manufacturing engine.
  37. Summary: Building a business is about creating value in your customers’ lives. You have to delve into every conceivable aspect of analyzing your customers and your business’ details, and take everything into consideration, from the customer, to pricing, to your communications and resources. Step into your customer’s shoes by using the empathy map, and get inspiration by writing many customer scenarios.

Summarizing all of the above elements into a Diagram:

You can print this out as a 1-pager.

If you enjoyed this book summary, please follow me, so you will know when I publish new ones.