How to make a solid business model
How does your company make money? It may seem like a simple question, but many business owners have a surprisingly hard time explaining exactly what their company does to bring in revenue.
That’s where a business model comes in handy. A business model gives a big-picture view of how a company works, clarifies problem areas and is essential for developing a successful business strategy.
“Most entrepreneurs just sit there in awe when we do a business model with them,” says Jivi Cheema, a Senior Business Advisor with BDC’s Advisory Services who coaches companies on strategic planning. “They didn’t realize there was a tangible way to get a quick snapshot of how the business functions and identify bottlenecks holding them back.”
Below, Cheema walks you through how a business model gives your company a competitive edge in four steps.
1. What is a business model?
A business model is a description of the current state of your business. Strategic plans and business models are often confused for each other, but the two are different.
A strategic plan describes a desired future state for the company and needed steps to get there. In contrast, a business model outlines how a company currently functions, with a breakdown by customer segment or product.
For Cheema, creating a business model is a key step before starting work on a strategic plan. “We have to know how the business functions to identify bottlenecks and improvements.”
Example of a business model canvas
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2. Why do you need a business model?
Besides being important for strategic planning, a business model brings other benefits:
- Better decisions—A business model gives you a factual basis for making decisions, instead of being guided by gut and instinct. “If you have a strong understanding of your business, you can make better decisions,” Cheema says.
- Team alignment—The process gives your team an opportunity to step back and talk about the business in a way they may never have tried before. “It gives an opportunity to ask questions and build alignment on where you want to go and how to achieve that,” Cheema says. “The thing I hear most frequently is, ‘I didn’t realize we were on the same page and how aligned we were.’”
- Identifying breakdowns—The exercise can show where value is broken for clients and where you need to be more efficient. It can be especially useful when:
- a company’s revenue, productivity or profitability have declined
- team communication, performance, accountability or cohesion need improvement
3. How to create a business model
Business models come in a wide variety of forms. A common tool that Cheema uses with entrepreneurs is a business model canvas. The canvas was co-created by Alex Osterwalder, a leading management and innovation expert and a bestselling author.
The canvas is a one-page chart on which a business details how revenue comes into the company by customer segment or product. It’s a clear way to break down and visualize a business model through nine essential components. Despite its simplicity, the canvas has been described by Harvard Business Review as “arguably the most comprehensive template” for business models.
On the canvas, you start by listing your main customer segments. For each one, you fill in key elements that allow you to make money. To illustrate the process, Osterwalder gives the example of a company selling pod coffee machines. The company tried several business models before finding success with this combination of winning elements:
- Customer segment: households
- Value proposition (value you deliver to customers): coffee machines and coffee pods
- Channels (how you reach customers): retail for coffee machines; mail order, e-commerce site and brick-and-mortar stores for coffee pods
- Customer relationships (how you get and keep customers): acquire and lock in
- Revenue streams (how money comes into the company): one-time sales for coffee machines; repeat sales for the pods
- Key resources (resources needed for each value proposition): patents, marketing and branding for the machines; distribution channels, coffee and production facilities for the pods
- Key activities (activities needed for each value proposition): marketing and branding for the machines; production and B2C distribution for the pods
- Key partners (most important partners or suppliers): manufacturers for the machines; coffee growers for the pods
- Cost structure (most important costs): marketing and branding for the machines; production and distribution for the pods
A canvas can be developed in person or digitally. When done in person, a large print-out of the canvas can be taped to a wall, and your team works together to fill in elements with a marker or sticky notes. You can use different colours to represent elements of each customer segment or value proposition. The same can be done digitally using differently coloured text.
4. How to use a business model
A business model can be used to identify problem areas, refocus on higher-margin products and develop a value chain proposition and business strategy.
When the canvas is done, Cheema guides clients to look for missing elements or bottlenecks on the chart. Those can be labelled with red sticky notes.
“You can quickly see where the bottlenecks are,” she says. “If you can’t name a key activity for a market segment, we know there is a bottleneck that needs to be analyzed and improved. For example, if a key needed activity is strong inventory management but that’s missing, you have a bottleneck.”
You can also trace the revenue stream for each customer segment and see if the effort needed is paying off. “If you see you need a lot of effort for a market segment that has a low revenue stream, it opens up a dialogue on why you’re doing it and whether it’s better to serve another segment,” Cheema says.
A next step can be to make a future-state canvas by adding a new potential market segment. “We can see if it makes sense to add a new segment and what resources and activities would be needed,” she says.
Out of these discussions, a picture usually emerges of a list of possible improvements to the business. These in turn can be fleshed out in a 12-month action plan as part of a business strategy.
“Out of a business model canvas, we then develop a strategic plan,” Cheema says. “The business model is the foundation.”
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