Innovation doesn’t just happen at the product or service level – managers must also be prepared to challenge accepted business model templates and frame them as a source of value creation, say the IE Business School and Wharton authors of Business Model Innovation Strategy
Friction is the archenemy of mechanical systems – it reduces the power of machines; leads to overheating; and causes wear, breakdown and seizure in moving parts. FriCSo, a young Israeli engineering company, achieved a significant technological breakthrough with an invention that reduced friction by over 15,000%.
Surely such a staggering technology – with clear and wide applicability in industries with products and industrial applications that involve moving parts (such as machine manufacturing, automobile, shipbuilding, and so on) – would be a sure bet for commercial success.
Or would it? Once a target industry (say, automobile) had been defined, what kind of company would you have built in order to commercialise the intellectual property? What business model would you have adopted in order to embed the new firm into the existing ecology of original equipment manufacturers (OEMs), and the myriad of tier one, two, and three suppliers to the industry? Would you have chosen to become a machine manufacturer, building machines embedded with the new technology, and selling them to the OEMs? Or, would you rather have built and operated a factory (what the founders of the firm called a ‘job-shop’) that would perform the surface treatment of moving parts for clients who would outsource that step in their commercial production line to you? Alternatively, would you rather have opted for a pure R&D firm that sells its technology (via licensing agreements, for example) to third parties such as machine manufacturers?
Implications of business model choice
Each of these choices involved a fundamentally different business model. That is, they each implied a different set of activities, as well as different resources and capabilities to perform them – either within the firm, or outside it, through co-operation with partners, suppliers, or customers. Each of these choices also had implications for the performance potential of the venture. They would affect what capital expenditures were necessary, what prices could be charged, what margins would be earned, and, perhaps most importantly, the customers and competitors the new firm would deal with.
In other words, the design of the business model was a key decision for the entrepreneurs who created the new firm. It was of fundamental importance to FriCSo. The value that the firm would create, and (of crucial importance from an investor’s perspective) the value that could be appropriated upon exit, critically hinged on this choice. The question for FriCSo was not which business model could create incrementally more value. Rather, it was: Which business model would allow them to survive and thrive?
The choice of the business model is also a crucial task for general managers who are charged with rethinking their old business model to prepare their firm for the future. Once the template is set, the activities are in place, and the resources have been developed and honed, that template will be
difficult to change, due to forces of inertia (failure to change when change is needed) and resistance to change.
Now, here comes the catch. Entrepreneurs and general managers often do not pay enough attention to the design of their business model; in other words, the ‘what’, ‘how’, ‘who’, and ‘why’of the activity system. Instead, they focus on more conventional strategic choices, such as: what market segments to serve; how and when to enter into the selected markets; and how to compete in the firm’s selected markets. In fact, the design of the business model is not always viewed as a major strategic choice, as it is taken as a given. In other words, managers accept the received business model templates in their industry without questioning them.
Mental blind spots
What might explain this oversight? There are several factors. The business model is an activity-system-level construct, and (business)people are simply not used to thinking in terms of activities (rather than products) or organisational systems (rather than functions or business units). Therefore, the business model as a concept is not the first thing that comes to a manager’s mind when pondering the future.
Instead, people tend to focus on what they are cognitively familiarwith (such as product-market strategy choices within well-known and well-established business model templates) simply because it is easier for the human brain to make a connection to it. This can leave them with mental blind spots. Because managers do not pay enough attention to these blind spots, they are not aware that they exist. For example, executives of car manufacturers first reacted to Tesla’s new entry into their industry by reflecting on their own product portfolios, and whether they needed to add new hybrid or electric models to it, rather than fundamentally questioning their firms’ business models in a more holistic fashion.
That is, they kept focusing on the car as a product – a concept with which every manager in the automobile industry was intimately familiar, which had formed the basis of competition in that industry for a century. At the same time, however, Tesla founder, Elon Musk, had already adopted a much broader perspective on his firm’s innovation strategy, taking Apple as an inspiration for not only promoting distinctive technology and sleek product design, but also imitating and incorporating key aspects of Apple’s business model, such as placing its stores in high-end malls instead of relying on dealer franchises.
Raising awareness
Failing to question the received business model can be outright dangerous, as the case of Polaroid shows. Anchored on the strong beliefs of the company’s founder, Edwin Land, Polaroid managers were so used to making money through selling film (what could be called a ‘razor/blade business
model’), that they had difficulty imagining possible new business models involving digital photography. This was despite the fact that Polaroid was one of the early players in the digital camera business, with the introduction of a digital technology, the PDC-2000 model, in 1996. However, the firm failed to capture a large enough market share in that segment, and in 2001
had to declare bankruptcy.
To avoid a similar fate, and in order to harness the value creation potential of their own business models, managers need to develop and raise their own awareness (along with the awareness of their entire organisation) to the importance of business models for value creation. In other words, they need to strategically frame business models as a source of value creation and capture. In particular, when innovation is desired, firm leaders need to ensure that managers or employees who wish to innovate no longer focus solely on their firms’ products and services, or on management processes, but also consider creative new ways in which the firm can engage with its stakeholders to conceive, produce, deliver, and consume the firm’s products and services. In short, managers and employees need to adopt a business model mindset to acknowledge and leverage the possibility that innovation can happen at the business model level – in addition to innovation at the product/service level.
This is an edited extract from Business Model Innovation Strategy: Transformational Concepts and Tools for Entrepreneurial Leaders by Raphael Amit and Christoph Zott (Wiley, 2020).
Raphael Amit is a Professor of Management at the Wharton School, University of Pennsylvania.
Christoph Zott is a Professor of Entrepreneurship at IESE Business School.
AMBA members can benefit from a discount on copies of Business Model Innovation Strategy, courtesy of the AMBA Book Club. Please click here for details.
