Defining Your Business Model When Your Business is Still Up in the Air

There is a point where every venture has to figure out how it’s going to make money. Obvious, right? But there are many who deny this reality for as long as they can.

Whether you are leading a startup, an innovation team within a large company, or a social enterprise, you eventually need the value you create and capture to exceed the cost of creating that value. Some ventures start capturing value from the first day of product launch and others don’t have a plan for financial sustainability in place until a few years have passed, a phenomenon that is increasingly common for software and service companies.

Part of the reason why achieving sustainability is pushed off is because it can be hard to know ahead of time what offerings others are willing to pay for. Take LinkedIn, for example. It was founded in 2002 as a professional networking site. Its first goal was to hit 100 million users — not 100 million paying customers. As a result, LinkedIn didn’t make money until 2005, at which point it experimented with providing a set of premium features, such as advanced search capabilities, to users who were willing to pay for them. Advertising wasn’t launched until a couple of years later when it was clear that LinkedIn’s demographic was attractive to advertisers and marketers and that LinkedIn had the capability to build specific products for this customer segment.

LinkedIn isn’t the only example. Facebook, Pandora, Instagram, Dropbox, and Coursera are all ventures that focused on user acquisition first. It was only after attracting a strong following that they figured out how to make their venture sustainable. The success of these ventures is proof that the business model can come later.

While it’s true this approach works for some, it’s not without risks. Due to investments from their founders and venture capitalists, these firms had a long funding runway to sustain them while they figured out their winning business models. This is an advantage you may not have.

To increase the odds of your product’s success, in this new world of agile development and continual customer feedback, you need to be designing all the elements of the business model as early as possible.

The consequences of failure are smaller when you iterate on the business model early on. Early adopters are usually more forgiving of mistakes. And when your user base is small, it is easier to find new users if you alienate current customers. Finally, the negative public relations impact may be more minimal in the early years when you are less well known. Failing early is always better.

A lesser-discussed risk of not tackling your business model early on is missing the opportunity to optimize the design of your product and your business model together, in tandem, to improve both.

What often happens when companies put off defining and designing the business model is that they later pivot the product in order to make the business model work. But pivots are costly. They can result in large-scale and disruptive efforts such as a product redesign, a staff re-org, and customer confusion and frustration. Coming back to LinkedIn as an example, as the company added features to capture value from professionals, advertisers, and recruiters, it needed to completely redesign its product in 2011 as the website “crumbled into a broken mess.” For two months, all new features were put on hold while the engineers rebuilt the once fragile infrastructure from the ground up. The result is a new system that allows for continuous changes so that LinkedIn can easily refine and add offerings that keep customers engaged.

So how can you design your business model early on when you are still defining and designing your core product or service?

Consider providing multiple offerings

The answer lies in knowing that there are multiple offerings that a venture should explore — some core to the venture and others that are supplementary.

The core offering advances the venture’s mission and is the focus of its brand. In the case of LinkedIn — the core offering is its website for professionals, which “connects the world’s professionals to make them more productive and successful.”

Supplementary offerings are provided to end users, businesses, or other partners but are ancillary to the mission. LinkedIn’s hiring solutions, which allow recruiters to mine through LinkedIn’s vast network of professionals, are an example of a supplementary offering.

While your core offering will likely get all of the glitz and glamor, your supplementary offerings may be the ones that allow you to capture the most value.

This value capture could be in the form of money or something else — or both — as is the case with LinkedIn. Not only do LinkedIn’s hiring solutions generate the largest share of revenue for the company, but they also strengthen its core offering. How so? The fact that LinkedIn attracts recruiters to its site provides additional value to professionals who are often using the site to make a change in their career and appreciate the connection to recruiters. This attracts new users to the site and makes sure they will become repeat users every time they are in the job market.

Identify the value you have to offer and what value you want to capture in return

Knowing what value you have to offer, and developing it into offerings that can be traded, is the foundation of designing a successful business model.

There are many sources of value that can be exchanged:

• Brand equity — as a signal of consumer desirability and/or a positive reputation, your brand or social equity can be valuable to others. The reputable Khan Academy, a nonprofit that is a leader in online learning, partnered with Bank of America, which sought an opportunity to improve customer engagement and strengthen its reputation following the mortgage crisis. The result was Launch Better Money Habits, a free platform that incorporates educational content from Khan Academy to provide financial literacy to Bank of America customers. Khan Academy benefits from a wider viewership, which helps the nonprofit achieve its mission of free education for anyone, anywhere, while Bank of America benefits from associating itself with Khan Academy’s brand.
• Intellectual property — your venture may have data, insights, know-how, and patents that are valuable to players in adjacent industries. Patients Like Me is a free patient network that allows patients to share their experiences with others who have the same disease or condition. For a fee, Patients Like Me now offers pharmaceutical companies like Genentech access to their data so that they can learn more about their specific patient population — valuable information that could be leveraged in their research and development efforts.
• Access to users — you may have developed a community of users that partners want to communicate with. The traditional advertising model applies here but so do other novel partnership models such as Coursera’s Capstone Project. Coursera is an education platform that offers courses from universities and other organizations. The Capstone Project is a challenge sponsored by a corporation such as Swiftkey that Coursera students solve for their final assignment. Swiftkey gets a new channel for engaging ideas and possible avenues for recruiting, while Coursera gets a fee and the ability to attract students to the platform who seek to work on real world challenges from leading companies.
• User-generated content — the content that your users generate can be of value to partners. Tumblr is a micro-blogging platform that allows users or creators to easily share photos, quotes, links, music, and video. In January of this year, Tumblr launched a Creatrs Network, which connects a curated group of Tumblr artists with brands like AT&T, Universal Pictures, and Gap. The brands get original content from the Creatrs, the Tumblr artists get wide reach and compensation for their work, and Tumblr gets a cut of each advertising deal.
• Stakeholder networks — you may have affiliations with policy makers or other influencers that others desire access to. PATH, an international global health non-profit, informed key international policies for injection safety. This paved the way for auto-disable syringes, such as those created by Becton Dickinson, a medical device company, to be procured by the United Nations Children’s Fund (UNICEF).

Not all of these sources of value will be relevant to your venture’s offering. Smaller, lesser known ventures won’t have a brand they can leverage. Others may be in industries like banking and healthcare, where strict regulations may prevent them from leveraging some sources of value.

Furthermore, some of these sources of value take time to acquire or accumulate. User data and insights, access to users, and access to user contributions won’t be valuable enough to trade until you attract a large customer base. However, you should still consider these possibilities early on and include a plan for developing these sources of value. For example, think through what data you want to collect from customers. Some of the information may not seem relevant to your business at first but may be valuable to third parties at a later point.

Make sure that your defined value aligns well with your core product and internal capabilities.

Duolingo, a language learning application with more than 60 million users, is a great example of the importance of making sure the company’s core offering and internal capabilities can support its value exchange.

Duolingo’s business model leverages user-generated content by having learners translate the web as they learn. Duolingo makes money by charging CNN and BuzzFeed for its translations, allowing it to offer language learning to users for free and without ads. Its value proposition to CNN and BuzzFeed relies on Duolingo’s ability to offer an accurate translation at a competitive cost. To compete with other translation services and gain the business of CNN and BuzzFeed, Duolingo built specific features like the ability for users to vote on the most accurate and well-written translation.

However, over the past year and a half, Duolingo has realized that in order to scale this business model, it would have to hire people to focus on quality control and sales people to bring in new business relationships. This, they felt, would cause the venture to focus most of its efforts on being a translation business as opposed to its core offering of providing free language learning as “businesses tend to focus on the parts of the company that are profitable.” To avoid this drift, Duolingo is exploring additional business models that support its mission such as providing test certifications for a nominal free.

Duolingo realized that the value that was being exchanged, user-generated content, was creating a tug between its business model and its core offering. This drove the decision to seek other sources of value that would better align these two things.

When you are envisioning your next breakthrough product or idea, start designing your business model in tandem. By exploring the multiple offerings you can create and making sure they align well with your mission and capabilities, you may unlock sources of value you never knew you had.

As Joan Magretta wrote in her Harvard Business Review article Why Business Models Matter, “business modeling is the managerial equivalent of the scientific method — you start with a hypothesis, which you then test in action and revise when necessary.” It takes work to hit upon the winning formula. That funding runway can only carry you so far. Start early.

By Neeti Nundy, strategist at Artefact.