The Business Model Concept

and Its Use 2

Abstract
This chapter denes the business model concept formally and relates it to the
strategy and competitiveness of a rm. Next, it describes various business model
ontologies and how business models can be validated and evaluated. Use of a
popular tool to represent a business modelthe business model canvas
(BMC) is explained next with an example.

2.1 Business Model

It is generally accepted that no part of the known world is so simple that it can be
completely grasped and understood without some level of abstraction. In abstrac-
tion, the concept of models and modelling become important, in which only the
most salient parts of the entity under study is included to simplify and foster
comprehension (Rosenblueth and Wiener 1945). Models are, therefore, important
parts of the scientic approach. Models are simplied and conceptualized repre-
sentation of the entity concerned, in which a subset of the attributes can be depicted
in various forms. Consequently, a model does not necessarily have to include all
aspects of that which it seeks to depict. A model can be constructed to t with
different requirements, such as ease of comprehension, visual acuity or other
aspects of that make the model more applicable in understanding the modelled
entity better.
Turning to the most simplistic view of the term business modelthe deni-
tions of the words business and model itselfmight give us some indication of
the constructs intention. The dictionary denition of business is the activity of
providing goods and services involving nancial, commercial and industrial
aspects; and model has been dened above. Thus the concept of a business model is

Springer India 2017 13

K.B.C. Saxena et al., Business Model Innovation
in Software Product Industry, Management for Professionals,
DOI 10.1007/978-81-322-3652-8_2
14 2 The Business Model Concept and Its Use

an attempt to break down business activities into something simpler and more
tangible.
The term business model rst came into popular use in the late 1980s, after a
large number of people gained experience with personal computers (PCs) and
spreadsheet software (such as Visicalc, Multiplan, etc.). Popular use of these
technological innovations made the entrepreneurs and business analysts believe that
they could easily model the cost and revenues associated with any proposed
business. After this model of the business was set up, it took them only a few
keystrokes to observe the impact of individual changes (for instance in unit price,
prot margin, and/or supplier costs) on the bottom line. This business modelling
could easily provide pro forma nancial statements, which were then a great help in
business modelling. When the dot com fever became rampant in the late 1990s, the
term business model had already rose to prominence and became increasingly
ubiquitous in the daily how to capture value business conversations. Business
people, journalists, academics and other observers found they could not relate easily
to the notion of a new economy, given the difculty of pointing to specic assets
and tangible products. However, the business model concept gave them something
to relate to. So the businesses used the magic term business model to justify future
potential prot valuations built on frenzied multiple concepts, and to blame it if the
valuation did not work. Interestingly, even then, most people were not able to
articulate exactly what a business model meant.
In spite of the increasing popularity of the term business model, there has not
been any generally accepted denition of the term (Shafer et al. 2005; Zott et al.
2011). Though the business model concept is still considered an ill-dened buz-
zword (Osterwalder et al. 2005; Al-Debei and Avison 2010); convergence has
arisen around specifying the business model as the way a rm creates and captures
value (Aspara et al. 2013; Zott et al. 2011). In particular, Teece (2010) argues that
a business model articulates the logic and provides data and other evidence that
demonstrates how a business creates and deliver values to customers. It also out-
lines the architecture of revenues, costs, and prots associated with the business
enterprise delivering that value.

2.2 Definition of a Business Model

Zott et al. (2011) give a representation of what business models have been referred
through recent years in literature: At a general level, the business model has been
referred to as a statement (Stewart and Zhao 2000), a description (Applegate 2000;
Weil and Vitale 2001); a representation (Morris et al. 2005; Shafer et al. 2005); an
architecture (Dubosson-Torbay et al. 2002; Timmers 1998), a conceptual tool or
model (George and Bock 2009; Osterwalder 2004; Osterwalder et al. 2005); a
structural template (Amit and Zott 2001); a method (Afuah and Tucci 2001); a
framework (Afuah 2004), a pattern (Brousseau and Penard 2006), and a set (Seelos
and Mair 2007). However, all these denitions represent only a part of what a
2.2 Definition of a Business Model 15

business model is; and none of them represents what a business model really is
(Al-Debei and Avison 2010).
Al-Debei and Avison (2010) have developed a hierarchical taxonomy of the
business model concept by nding different denitions of the business model
concept and then combining these to one unied denition. To come up with this
unied denition, several inference criteria have been used:

The denition should be comprehensive and general

It should dene more than just the components; and
It should synthesize the different points of view presented in earlier literature.

Such a combined denition of business model is dened by Al-Debei and

Avison (2010) as
an abstract representation of an organization, be it conceptual, textual, and/or graphical, of
all core interrelated architectural, co-operational, and nancial arrangements designed and
developed by an organization presently and in the future, as well all core products and/or
services the organization offers, or will offer, based on these arrangements that are needed
to achieve its goals and objectives.

Chesbrough and Rosenbloom (2002) dene the business model as the method of
doing business, by which a company can sustain itself; that is generating value. The
business model spells out how an organization makes money by specifying where it
is positioned within the value chain. They dene the requirements that the business
model should full at all level of analysis

Articulate the value proposition, the value created by users by the offering.
Identify a market segment; the users to whom the offering and its purpose are
useful.
Dene the structure of the value chain within the rm required to create and
distribute the offering.
Estimate the cost structure and prot potential of producing the offering, given
the value proposition and value chain structure chosen.
Describe the position of the rm within the value network linking suppliers and
customers, including identication of potential complementors and competitors.
Formulate the competitive strategy by which the innovating rm will gain and
hold advantage over rivals.

According to an analysis done by Morris et al. (2005), there are three general
categories of denitions of business model, based on their principal emphasis,
which they call economic, operational and strategic and represent them as a hier-
archy in that the business model perspective becomes more comprehensive as one
progressively moves from the economic to the operational to the strategic levels.
At the beginning level, the business model is dened solely in terms of the
economic model of the rm, where it describes the logic of prot generation giving
a statement of how a rm will make money and sustain its prot stream over time.
16 2 The Business Model Concept and Its Use

At the operational level, the business model represents an architectural congura-

tion focusing on internal processes and design of infrastructure that enables the rm
to create value. Business model denition at the strategic level emphasizes overall
direction in the rms market positioning, interactions across organizational
boundaries and growth opportunities; also of concern is competitive advantage and
sustainability.
Baden-Fuller and Morgan (2010) classify business model denitions into three
categories: (1) scale models and role models, which explain how a rm organizes
itself to create and distribute in a protable manner. Scale models offer represen-
tations or short-hand descriptions of things that are in the world, while role models
offer ideal cases to be admired. For instance, Teece (2009) describe a business
model as the manner by which the rm delivers value to customers, entice cus-
tomers to pay for value, and converts those payments to prot. (2) Business models
as model organisms of biology and the mathematical models of economics, which
helps to explain why a particular kind of business model is successful. (3) Business
models as recipes: as practical models of technology that are ready for copying, but
also open for variation and innovation.
Though it is difcult to nd an operating denition for the business model
concept on which academics, business practitioners and commentatorsall can
agree, in the most basic sense, a business model describes how an enterprise pro-
poses to make money. According to Hamermesh et al. (2002), a business model is
a summation of the core business decisions and trade-offs employed by a company
to earn a prot. These decisions and trade-offs could fall into four groups

Revenue sources. The money which comes from sales, service fees, advertising
and so forth.
Cost drivers. For example, labour, goods purchased for resale, energy, etc.
Investment size. Every business needs a measurable level of investment to get
off the ground and, in the case of working capital, to keep it operating.
Critical success factors. These factors depend on a particular business, and
could be the ability to roll out new products on a sustained basis, success in
reaching some critical mass of business within a certain time, etc.

According to Johnson et al. (2008), a business model can be perceived as

consisting of four interlocking, interdependent elements that taken together, create
and deliver valuecustomer value proposition (CVP), key resources, key processes
and prot formula.
CVP refers to nding a way to create a value for customers by designing a
product or service that helps customers do more effectively, conveniently and
affordably a job that they have been trying to do. The term job here refers to a
fundamental problem in the customers situation that needs a solution. Once the job
is understood along with all its dimensionsfunctional, emotional and socialthat
are needed, we can dene the customer experience that needs to be provided to the
customer to get the job perfectly. However, if a value proposition helps customers
2.2 Definition of a Business Model 17

do something that they are not trying to doeven if they should be trying to do it
there is not a viable basis for a business model.
Key resources are things such as people, technology, products, suppliers,
facilities, equipment, distribution channels, and brands and cash. The CVP helps
dene these resources for the business, which must be put in place in order to
deliver the value proposition. The focus here is on the key elements that create
value for the customers and the rm, and the way they interact. However, there may
be other generic resources with the company that do not create any differentiation
with the companys competitors.
Key processes are those operational and managerial processes (Garvin 1998) that
need to be executed successfully by a company for using its key resources to deliver
the CVP. These processes may include processes such as training, development,
manufacturing, budgeting, sales and service, etc. Successful companies are also
able to use these processes in such a way that they can successfully repeat and
increase the value in scale.
Prot formula denes the gross and net margins the company must achieve,
given the structure and magnitude of the xed and variable costs inherent in its key
resources. It species how big the company must become in order to break even,
and the pattern of prot improvement, if any, that comes from increasing scale. The
prot formula also denes how fast the company must turn over its assets in order
to achieve adequate returns.
In general, the value proposition denes the value for the customer and the
prot formula denes value for the company and its owners. The resources and
processes describe how that value will be delivered to both the customer and the
company.

2.3 Goal of a Business Model

The signicance of business models for companies in the current business envi-
ronment is widely spoken of in the business model literature (Osterwalder et al.
2005). Every company has a business model, whether it is documented or not. The
more knowledge there is about the phenomenon of business models, the better the
companies can make use of it to their advantage. A business model provides a
holistic view of a particular business (Chesbrough 2007; Al-Debei and Avison
2010). Business models can be used to briefly describe how a company creates and
captures value (Osterwalder and Pigneur 2010).1
The terms value creation and value capturing reflect two fundamental func-
tions that every company has to perform in order to sustain in the market. Suc-
cessful rms create value by doing things in a certain way that differentiates them
from their competitors. Companies might develop their own core competencies,

1
This is what exactly a newly start-up business would like to have: a clear view and
understanding of its business, and a method for exploiting the product/service it provides.
18 2 The Business Model Concept and Its Use

capabilities and positional advantages that are different from other companies in the
same industry. They might have a unique way of securing capital that is needed for
fund creation to develop their core competencies and capabilities. Also companies
have to make money to survive; their viability is therefore linked with both the
creation and capturing of value, which then generates prots for the company.
The logic behind value creation is the transformation of inputs into products and
services. Without offering the right value to customers, rms cannot create value
and capture the value from the customers by selling their offering. Only sustainable
value offerings will keep rms in the market. This stresses the point that the offering
made to the customer has to be attractive to this customer segment; just throwing a
product in the market does not guarantee that it will be sold. Working with potential
customers to nd out their needs and wants and the value they assign to this product
is very critical for business sustainability.
According to Osterwalder et al. (2005), business models have several useful
functions

To understand and share the business logic of the company;

To analyze the business logic of the company. The business model has emerged
as a new unit of organizational analysis, which can improve measuring,
observing and comparing the business logics of companies.
To help manage by making it easier to identify points of improvements and the
measures needed.
To describe possible futures of a company through business model portfolio,
business model innovation and simulation.
To ensure a competitive advantage for a company by patenting the business
model or a part of it.

The useful roles of the business model and the benets that rms can achieve by
appropriately employing the concept are highly signicant. The business model is
derived directly from the business strategy, from which the business processes and
the required information system of the rm are derived. The business model is a
multipurpose concept; its utility is diverse and the concept could be used for three
main functions within contemporary organizations.
As a conceptual tool of alignment to ll the gap between an organizations
strategy and business processes (including its information systems), and to provide
a harmonization among these three organization layers.
As a mediating construct (interceding framework) between technological arte-
facts and the fullment of strategic goals and objectives. The business model
portrays a sound translating method essential to obtain and capture value (Al-Debei
and Avison 2010). Business models have been perceived as the main reason behind
the success or failure of technologies. It can prove as a backbone, providing a
consistent and systematic approach for designing, evaluating and managing tech-
nologies and their connected products and services.
2.3 Goal of a Business Model 19

As strategic-oriented knowledge capital; the business model portrays the logic of

a business system. It is considered as strategic-functional algorithms demonstrating
high-level business rules and practices. It answers to questions relating to value
creation and capturing, which is the most important question for companies to
sustain in the marketplace (Al-Debei and Avison 2010).
Explicit business models help business managers control their businesses and
enable them to compete better, because of the appropriate levels of information that
the business model provides. It also provides the additional knowledge required for
deciding how the business organization should adapt their strategy, business
domains, business processes and information systems to cope with the complex,
uncertain and rapidly changing business and technology environment. This is
because the information that a business model provides is neither highly aggregated
as in the case of business strategy, nor highly detailed, as in the case of operational
business process model.

2.4 Business Models and Competitiveness

There is virtually a consensus that to remain competitive, rms must continuously

develop and adapt their business models (Wirtz et al. 2010). A well-designed
business model that ensures harmonization among strategy, business processes and
information systems is crucial. In the todays digital economy, it should even be
reviewed continuously to ensure the t with the complex, uncertain and rapidly
changing environment (Morris et al. 2005; Al-Debei and Avison 2010). Firms do
not execute their business models in a competitive vacuum. Instead companies can
compete with their business models, the business model itself represents a source of
potential competitive advantage, novelty presented by new business models can
result in better value creation or value capturing than before. To guarantee a rms
success, a unique business model is needed to fully realize the commercial potential
of the product or service (Zott et al. 2011). Technology on its own has no inherent
value (Chesbrough 2007), it is the business model behind the technological arte-
facts that makes the success and allows companies to achieve their strategic goals
and objectives.
If a business model is to be a source of competitive advantage, it must be more
than just a logical way of doing business. It should meet certain customer needs, be
hard to imitate or replicate (Teece 2010). According to Margretta (2002), When a
new model changes the economics of an industry and is difcult to replicate, it can
by itself create a strong competitive advantage. Novelty oriented business model
design matters to the performance of entrepreneurial rms. However, by trying to
incorporate both efciency- and novelty-centred design elements in the business
model may be counterproductive (Zott and Amit 2007). But, novelty-centred
business model combined with differentiation, cost leadership or early market-entry
enhance the performance of the rm.
20 2 The Business Model Concept and Its Use

According to Linder and Cantrell (2000), a company succeeds when it has an

effective business model which is executed superbly, and the business model is
renewed when competition threatens the uniqueness of this business model. Thus
mastering the ability to change its business model can enhance the chances of
success. Though there is no guarantee for nancial success (business success), there
are however three characteristics of a successful business model: it offers unique
value; it is hard to imitate, and it is grounded in reality (Linder and Cantrell 2000).
These are, however, business model characteristics and do not dene necessarily
the business success of the rm with this.
According to Teece (2010), a good business model yields value propositions that
are compelling to customers, achieves advantageous cost and risk structures, and
enables signicant value capture by the business that generates and delivers
products and services. Designing a business correctly, and guring out, then
implementingand then reningcommercially viable architectures for revenue
and for costs are critical to the rms success. It is essential when the company is
rst created, but keeping the business model viable is also likely to be a continuing
task.
It thus becomes clear that there is a general consensus on what constitutes a
successful business model: It should be dynamic, change with the environment or
make the environment change (business processes and the environment are not
static). A compelling value proposition is necessary to attract the customers
and capture value from them. A strong business model is unique, hard to
replicate/imitate and provides compelling offers to customers while being grounded
in reality. Technology on its own has no inherent value; it is the business model
behind the technology that determines the success of this technology and the
attainment of the companys strategic objectives.

2.5 Business Models and Strategy

According to Magretta (2002), the business strategy explains how companies hope to
do better than their rivals, while the business model describes how the pieces of a
business all t together. Strategy also includes competition, whereas the business
model does not. The business model concept has been mistaken in recent years as a
substitute for corporate strategy, business process or business case. Al-Debei and
Avison (2010) give three main reasons for this confusion. One reason is that the
business model concept and its associated research is very newthe business model
concept got recognition only since 1990s (Osterwalder et al. 2005). Second reason is
the fact that it comes from different disciplinese-business and e-commerce,
information systems, strategy, economics and technology (Shafer et al. 2005). Third,
the newness of sectors within which the business model concept is being investigated,
also creates confusion. According to Pateli and Giaglis (2003), the business model
concept functions as an intermediate layer between business strategy and business
processes (including information systems) as shown in Fig. 2.1.
2.5 Business Models and Strategy 21

Fig. 2.1 The business model as intermediate layer

A business model also encompasses information helpful in translating strategic

objectives to implementation tasks and functions (Al-Debei and Avison 2010).
Some researchers argue that although both concepts are related, they represent
different levels of information, useful for different purposes. They see the business
model as the intermediate layer between business strategy and the business pro-
cesses including information systems (Morris et al. 2005; Osterwalder et al. 2005;
Al-Debei and Avison 2010; Zott et al. 2011).
According to Osterwalder et al. (2005), the business model can be seen as the
conceptual link between strategy, business organization and systems. The business
model as a system shows how the pieces of a business concept t together, while
strategy also includes competition and implementation. Moreover, business model
implementation contains its translation into concrete things, such as a business
structure (e.g. departments, units, human resources), business processes (e.g.
workflows, responsibilities) and infrastructure and systems (e.g. buildings, infor-
mation technology). Business models are subject to external pressure and thus
constantly subject to change. Strategy is not included in the business model; they
are related but not the same. Competition is very important for strategy but does not
exist in the business model conguration.

2.6 Business Model Ontologies

An ontology is a formal explicit specication of a shared conceptualization (Studer

et al. 1998). Business model ontologies here explicate some of the research efforts
to further illustrate business models as a construct, and their range of conceptual-
izations. Each ontology is applied here to describe the business model itselfan
attempt to describe in detail what the business model actually is. The ontology is
22 2 The Business Model Concept and Its Use

structured as follows: the explicit denition of a business model according to that

ontology; its explicationa more detailed discourse on the concept; and synthesis
a short summary of the approach.

2.6.1 Zott and Amits (2010) Ontology

Zott and Amit dene the business model as a depiction of the content, structure and
governance of transactions designed so as to create value through the exploitation
of business opportunities.
Explication. Zott and Amit conceptualize a business model as a system of
interdependent activities that transcends the focal rm and span its boundaries.
They support an activity system perspective of business model. When designing a
new business model, they suggest two parameters for the activity system: design
elements and design themes. Design elements are divided into content, structure and
governance. Design themes are the value creation drivers and are divided into
novelty, lock-in, complementarities and efciency.
Synthesis. The Zott and Amits ontology is a relatively abstract approach to the
business model construct, focussing on structure, content and governance of
activities. By including themes they blend the ontology with a sort of typology in
the design themes of the business model.

2.6.2 Johnsons (2010) Ontology

Johnson et al. (2008) dened a business model consisting of four interlocking

elements that taken together create and deliver values.
Explication. The four elements of a business model are: the CVP, the prot
formula, the key resources and the key processes. The CVP describes how the rm
helps the customer to get an important job done. The more important the job to the
customer, the more attractive becomes the value proposition. The prot formula
consists of the following elements: revenue model, cost structure, margin model
and resource velocity (the turnover rate of inventory and assets). Key resources are
the elements that are necessary to deliver the value proposition to targeted customer
segments. Key processes are operational and managerial processes that allow them
to repeat and increase their sales.
Synthesis. This ontology is structurally oriented, in line with some other
approaches.

2.6.3 Osterwalder and Pigneurs (2010) Ontology

Osterwalder and Pigneur (2010) dene a business model as the rationale of how an
organization creates, delivers and captures value. This framework can be shown as
a diagram referred to as a Business Model Canvas (BMC) (Fig. 2.2).
2.6 Business Model Ontologies 23

Fig. 2.2 Business model framework of Osterwalder and Pigneur (2010)

Explication. Osterwalder and Pigneurs (2010) business model ontology is built

up of nine components, which together give an approximation to a holistic view on
the business model of a company. As this approach to the business model is widely
used by academia as well as practitioners, this will be described in some detail.
Customer Segments: This block describes the different groups of people or
companies that a provider hopes to reach and serve. It is at the centre of every
business model, since no company will survive without its customers. Since not all
groups or companies have the same needs, segments can be formed with the same
needs, behaviour or other attributes. Osterwalder and Pigneur (2010) claim that a
rms understanding of the customer segment is instrumental for its survival and
success, and has dened it as a compartmentalized part in the BMC.
Value Proposition: This building block describes the bundle of products and
services that create value for a specic customer segment. The value proposition is
the output from the activity system and is the reason why customers turn to one
company compared to another. It solves a customer problem or satises a customer
need. Each value proposition consists of a selected bundle of products and/or
services that caters to the requirements of a specic customer segment. The value
proposition is an aggregation, or bundle, of benets that a company offers to its
customers. Some of these may be innovative while others may be similar to existing
offers, but with added features and/or attributes.
Channels: This component describes how a company communicates with and
reaches its customer segments to deliver a value proposition. This encompasses all
the ways the business interacts with the customers, including distribution channels,
sales channels, marketing and other forms of communication. The choice of and
utilization of channels is claimed to greatly affect the way the customer values the
product offering. Thus the channels have an important role in the customer expe-
rience. The functions that channels serve are raising awareness among customers
24 2 The Business Model Concept and Its Use

about a companys products and services, helping customers evaluate a companys

value proposition, allowing customers to purchase specic products and services,
delivering a value proposition to customers and providing post-purchase customer
support.
Customer Relationships: The types of the relationships with each of the cus-
tomers required are very important for doing business. The relationships depend on
the customer segments; different target groups can have different expectations and
requirements from the company. Customer relationships are also very important in
the evaluation of the company and its business model. Customer relationships can
increase the number of customers through customer acquisition; keeping customers
through customer retention, or moving customers from one of the value proposition
to another through customer transformation.
Key Resources: The key resources are the most important assets needed in order
to support the business model. These can be either human, intellectual, nancial or
physical assets, and they support, for example, the value proposition, keeping or
building relationships with the selected customer segments and utilizing the
channels in the best possible way. The key resources can either be owned by the
company or leased or acquired through its strategic partners.
Key Activities: This category comprises the activities a company has to perform
to make its business model work. These activities may vary based on the kind of
business model, but they should all support the other critical building blocks of the
framework. Examples of such activities could be supply chain management,
problem solving or management of a business platform. These activities can be
categorized into production related, problem-solving related or platform/network
related.
Key Partners: This category describes the network of suppliers and partners of a
company. Partnerships are useful for reducing the risk a company has, using the
channels of the partner and therefore having a bigger scope and market. Partnership
can thus help in optimizing the business model.
Revenue Streams: This block represents the revenue a company generates from
each customer segment. For a for-prot organization to survive and grow, it must
nd a way to monetize its product/service offering to its all the customer segments,
generating revenue streams to the business and paying its costs. This implicates that
value capture is a required part of a business model. Good business models have a
novel way to capture value from the business system (Osterwalder and Pigneur
2010).
Cost Structure: This category includes all the costs incurred by the complete
business model. There can be two broad classes of cost approaches, which is either
the cost-driven business model, where costs are minimized; or the value-driven
business model, where costs are less important than increasing the value delivered
to the customer.
Synthesis. Osterwalder and Pigneur (2010) ontology has more focus on the
structure of the business model and business system, and less on the behaviour or
dynamics of the system, leaving this to the business model generation process itself.
2.7 Business Model Validation 25

2.7 Business Model Validation

In spite of its importance, business model validation as a topic has not received
much attention in the literature. Some researchers have described measurements and
indicators that can be used for measuring the performance of the business model,
but that cannot be called business model validation. There is, however, one
method for this called the customer development method. This method is based on
a trial-and-error method, iteratively searching for a viable business model. The
Customer Development Methodology is rooted on start-ups getting out of the
building, talking to customers and using that feedback to develop and rene their
product (Blank 2006). When the desired business model is proposed, obviously it is
important to know if the target customers will be interested in the value proposition,
the relationships kept, channels used, etc. If the customers reject some part of the
business model in the validation process, this part will have to be modied in such a
way that both the customers accept the modication and that the company can also
be content with the conguration and has a viable business model. A consensus
between the customers and the company is necessary to make a business model into
a feasible and successful one.
The customer development process consists of four steps: (i) customer discovery,
(ii) customer validation (feedback loop to discovery), (iii) customer creation and
(iv) company building. Customer development is useful in the learning and dis-
covery before executing the business model (Blank 2006). Trial-and-error experi-
mentation involves organizational members retaining actions that produce desired
results and discarding those that do not. Trying organizational actions out and
detecting and correcting errors during the process generates learning. The iterative
nature of the trial-and-error process allows the company to introduce the variations
that produce results that converge with goals, and also fosters collective/
organizational learning about exploration and exploitation streams, promoting
organizational change or stability at different times (Sosna et al. 2010). In highly
uncertain, complex and fast-moving environments, strategies are as much about
insight, rapid experimentation and evolutionary learning as they are about the
traditional skills of planning and rock-ribbed execution (McGrath 2010). Experi-
mentation is very important for new business models, and can itself form a source
of competitive advantage, as some rms develop superior capabilities at experi-
mentation and therefore can build better business models and quicker than the
competition (McGrath 2010; Teece 2010).

2.8 Business Model Evaluation

Evaluation of business models is inherently complex and to some extent dependent

on other knowledge domains such as change methodologies. Consequently, there
are fewer researchers who have written about business model evaluation compared
to those who have written about the validation of business models.
26 2 The Business Model Concept and Its Use

Hammel (2000) has proposed a business model evaluation framework with a focus
on its wealth potential, which covers four factors: (i) the efciency of business model
in delivering benets to customers; (ii) the uniqueness of the business model; (iii) the
degree of t of the business models components; and (iv) the exploitation of prot
boosters that can generate above average returns for the company. Prot boosters are:
increasing returns, competitor lock-out, strategic economies and strategic flexibility.
Afuah and Tucci (2003) evaluate the business model on three levels: protability
measures, protability predictor measures and business model components attribute
measures. The protability is measured by earnings and cash flow. The second level
embraces prot margins, revenue market share and revenue growth. The third level
provides benchmark questions for each of the business model components proposed
by Afuah and Tucci (2003). Torbay et al. (2001) propose a method for evaluating
business models based on a balanced scorecard approach. A balanced scorecard
provides a balanced view of an organizations objectives in four areas (Kaplan and
Norton 1996). These four areas correspond precisely with the four business model
components proposed by Torbay et al. (2001). The areas are unied in an integrated
and global strategy, expressed by a cause and effect relationship. The rst area is
product measures, which assess the originality of the value proposition, and identify
what the organization has to build for learning, long-term growth and innovation (e.g.
creativity, employee capabilities, motivation, turnover, stock option, etc.). The sec-
ond area is customer measures that evaluate the relationships of the organization with
the customers (e.g. retention, acquisition, satisfaction, protability, etc.) and the
appreciation of the value proposition by the customers (in terms of functionality,
quality, price, timelines, brand image, availability, shopping experience, etc.). The
third area is infrastructure measures which identies internal and outsourced activ-
ities of the value chain and processes with the greatest impact on customer satis-
faction and nancial objectives (e.g. design, build, delivery, service, etc.). The last
(fourth) area is the nancial measures that serve as the focus for the objectives and the
measures for all other perspectives and concern revenue growth, cost management,
asset utilization and market capitalization (Torbay et al. 2001).

2.9 Building a Business Model for a Small Software

CompanyMira Software Solutions2

Mira Software Solutions is a small business process software development com-

pany in India which is struggling to stay in business. The economic crisis has made
it harder for them to nd and retain customers and generate sustainable revenue
streams. A business model for this company is made here using the BMC tool for

2
Mira Software Solutions is a hypothetical name used here for illustration, though the company
description is typical of many such companies in India. In Europe also, there are many small
software producers who generally do business in their own home country within established
customer relationships, without performing much of marketing.
2.9 Building a Business Model 27

analysis and improvement, so that it is able to stay in business and grow. To make
the business model, a customer-driven approach has been taken because customers
play a very important role in the business model, as well as are also very important
for the innovation and growth of a small business.
Mira Software Solution (MSS) provides fully customized software solutions for
business processes. The software solutions developed are tailored according to the
requirements and wishes of its customers. Every software solution is developed from
scratch, which makes it a time-consuming process. Mira Software Solutions has only
a small customer base and, therefore, its cash flow is unstable and irregular due to a
payment system based on the labour cost and the development time (in hours) taken.
Once the development is over and accepted by customer, the project is considered
nished and the cash flow essentially stops from the project. Since the customer base
is small, this creates a nancial unbalance which has made the rms continuity at
jeopardy. The nancial unbalance and the time needed to develop the software
solutions are the main reasons for developing a generic software architecture which
will allow Mira Software to build the software solutions at a faster rate and with a
higher quality. To fully exploit this software architecture in a most optimal manner,
the company needs to build a business model as the technology alone has no inherent
value for business purposes. MSS always had and still has the focus on helping
customers, and by doing so making a prot. The relations kept with these customers
are very important for Mira Software and should remain on a friendly basis.
To build the existing business model of Mira Software, we use the BMC tool,
and start by looking at the nine building blocks of the BMC tool. Each of these
building blocks is also analyzed for the problems and issues found in the current
business model.
Value Proposition. Mira Software offers its customers a fully customized
software solution for their business processes. Customized software is usually very
expensive but Mira Software is able to perform this work for a relatively low price
to be paid per hour worked. This is a strategic choice of Mira Software in order to
compete with other vendors of standardized (packaged) software. The services or
products are bundled, Mira Software has their own server-park and most of the
customer software solutions run on these servers. Customers become the owner of
the software which, in theory, restricts the revenue stream after the project has been
nished to a non-recurring stream.
Generally, the functionality, reliability and usability of the software solution
meet the customer expectations. Since the software is fully customized to a cus-
tomers requirements, each software solution is different. The completion of the
service/product is clearly dened, that too for a reasonable price. If the customer
wants, the software maintenance is also given to Mira Software, which ensures that
the software always works as per customer requirements (which may change over a
period of time). Customer can also receive the training from Mira Software in
maintaining the software and decide to maintain itself rather than contracting
maintenance to Mira Software.
28 2 The Business Model Concept and Its Use

Customer segments. There is only one customer segment, which consist of the
companies that require software solutionswhether tailor-made (customized) or
standard packages. Mira Software is not aware if this segment consists of an
identical group in terms of their needs, protability, relationship and willingness to
pay for Mira Software Solutions value proposition, but they perceive this as only
one customer segment as all of them want a reliable and user-friendly software
solution at the lowest cost. In either case, Mira Software cannot afford to be choosy
about the customers because they have only a small customer base.
Customer relationships. The customer relationship describes how and to whom
the company delivers its value propositionthe rms bundle of products and
services. Mira Software has not really been active on this part. The only thing they
feel important and put effort in, is having a friendly relationship with customers
and on a long-term basis. This too is to build a lock-in effect with very expensive
software and trying to establish future revenue streams. This is a problem in the
current business scenario, since the customers retain the ownership of the software
and have a choice to stop the project-related work after its completion, and thus
stopping the companys future revenue streams as well from the project.
Revenue streams. In the existing situation Mira Software has no real pricing
mechanism. They bill the customer on the hours they have worked on the software
solution for the customer. The company rst estimates the costs of the solution for
the customer so that the customer can decide if they have sufcient budget for the
software solution. Once the estimate matches with their budget, the software
development starts the billing for the actual hours in development. This could also
be lower than the estimate given. The revenue stream here comes out of a one-time
deal and is therefore, non-recurring. Contract for maintenance of the software
solution is not a mandatory requirement, and if the customer does not go for it, there
is no recurring revenue stream after the completion of the project. Thus the transfer
of ownership of software, the non-recurring revenue stream, and the uncertainty for
the maintenance contract of software are a problem at present.
Channels. Since Mira Software is a rather small company, the channels they use
for communications with customer, distribution and sales, etc. are limitedface to
face, telephone and e-mail are the only channels they currently use. However, Mira
Software uses the channels of their partners. They use the word-of-mouth commu-
nication from their existing customers to their potential customers as a marketing
technique very effectively, and it has been very helpful in the growth of the com-
pany. Though Mira Software can also use intermediaries such as resellers and cyber-
mediaries (as many small software companies do), they at present are not doing this.
The channel concept covers the customers entire customer buying cycle, which
is divided into four phasescustomer awareness and acquisition, evaluation of the
value proposition, the moment of purchase and after-sales service. At present
customer awareness and acquisition comes mostly from partners and the word-of-
mouth effect. In the rst meeting with the customer, the value proposition is
delivered and can be evaluated. Based on this, the customer can decide to continue
or stop the project (based on the cost estimation provided by Mira Software). When
the rst version of the software is ready and live, software support will start for the
2.9 Building a Business Model 29

customer, unless they stop the project immediately after completion. The software
support function consists of maintenance, small additions and updates. The support
is only for the software requirements agreed upon in the contract; for other software
solutions or additions, a new contract needs to be made and signed.
Key activities. The most important activities at Mira Software Solutions are the
mapping of the business processes, nding the customer wishes and requirements
(requirements analysis), and the development of the business process software.
A problem-solving attitude is very important in this whole process. All instances of
customer wishes are not always that easily implemented in the software solution,
and smart ways need to be found in these cases. Since the software developed is
client-specic, there is a need for a regular contact with the customer about the
needs and requirements that need to be fullled by the software, and after the
completion of the implementation phase, to evaluate if the software solution
functions according to the expectations.
Another very important activity is the adaptations and the support/maintenance
delivered to the customers. If a customer wants the software to be modied to full
its expectations, it is very important that Mira Software should make these adap-
tations and/or support the customer in using the software. Support after the
implementation of the software generates money on a continuing basis, if the
project is not stopped at that time. The support is necessary when the customers
want more functionality in the software. Also business processes change over time
or because of changes in the regulations; and these changes need to be reflected in
the software as well. Therefore, the relationships Mira Software keeps with the
customers are very important and preferably need to be long term. This, however, is
not a consistent matter at present because all the customer companies do not switch
all of a sudden between software solutions for their business processes, due to high
switching costs, and therefore can stop the investment in the software.
Customer acquisition is another very important activity for Mira Software, but
they are not very active in this, and do this mostly through the word-of-mouth effect
by their satised customers and partners. Also, because the software development
for a project takes long time to complete, Mira Software does not have high
capacity to take up multiple projects at the same time. The focus, therefore, now on
developing the software framework, instead of serving customers with the old
way of software development. Mira Software intends to serve all new customers
with the support of the new software framework.
Cost structures. The most important costs incurred at Mira Software for pro-
viding the value proposition are those of labour (business process mapping and
software development). Mira Software Solutions is a service company with the
primary resource of human capital. The ofce space and the computers are not
expensive compared to the costs of personnel. Costs are being kept to a minimum in
order to be able to offer customers a relatively low price for very high-quality
customized software. Fixed costs include the rent of the servers, and the rent of the
ofce space. Variable costs are those for personnel. Economies of scale and scope
are not in the picture at present; Mira Software is too small a company to be able to
benet from these.
30 2 The Business Model Concept and Its Use

Key resources. Tailored software solution to be delivered to customers is a

labour-intensive job. The staff of Mira Software helps and thinks with the customer
to nd the best solution to their problem, since the friendly and long-term rela-
tionship with customers is the focus. The location and machinery expenses are low
compared to the costs of personnel. The only thing an employee requires to be able
to perform is a work station and a desk. The human factor is very important. Mira
Software requires a high standard from its personnel; which consists of skilled and
highly educated personnel only, mostly for programming and software develop-
ment purposes. All programmers are university graduates with a problem-solving
attitude towards complex programming issues. The slogan of Mira Software is not
to think in problems but in solutions. The work experience at Mira Software has
been developing from 2002 onwards with satised clients as proof of Mira Soft-
wares capabilities. The knowledge base incorporated in Mira Software Solutions is
a key resource, due to the number of years of experience in the eldthe company
has built up intelligence and knowledge that it uses every day. The combination of
human capital with many years of experience, a friendly perspective on the busi-
ness, and the customer focus form the core capabilities of Mira Software Solutions.
Key partners. Mira Software has customers that also prove to be very useful
partners. Okhla Engineering Works (OEW) is one of these companies. Mira
Software Solutions at present is located in the ofce building of this company, and a
lot of work Mira Software does for them. OEW already proved to be a good partner
due to the word-of-mouth effect. Through OEW, Mira Software has been able to get
new customers, due to the enthusiasm they have for the software solution and show
their system to their customers. Mira Software considers all customers as partners,
due to the long-term relationships Mira Software tries to forge with them. Also
customers mostly want to have these kinds of relationships due to the high costs of
software solutions and the lock-in effect, switching over to another software
solution provider is very expensive.
Mira Software uses its partners mostly for customer acquisition, which will be
very important after the completion of the rst version of the software framework.
Other options like co-development or cooperation were not considered, since Mira
Software wanted to keep the information, intelligence and owner rights in house.
Partnerships are on the basis of oral agreement at this point. This is a problem since
there are no formal contracts with partners. Customers are only involved in the
development of their own software, so co-creation is applicable but not on a general
level (framework development will be purely in-house, although suggestions will
always be considered).
Business Model Canvas of Mira Software Solutions. A summary of the
conguration of the existing business model of Mira Software is provided in the
BMC (Fig. 2.3). The problems found in this business model can be addressed to
come up with an improved BMC. The changes required are primarily in the Cus-
tomer Relationships block, the Revenue Streams block and the Value Proposition,
which affect some other blocks as well.
2.9 Building a Business Model 31

Fig. 2.3 Existing business model of Mira Software Solutions

Mira Software Solutions price level could not represent a too low image but
also not be too high. In order to compete with standardized packaged software
suppliers, the price had to be levelled. Similarly, the flexibility Mira Software can
offer is very important. Every customer is different; therefore, offering several
instalment-based payment policies is important. Monthly payments based on per
user per month terms, increasing monthly payments and decreasing monthly pay-
ments are also available options. In some cases, a one-time full payment or com-
bination of payment terms could also be considered depending on, for example, the
attractiveness of the customer and the size of Mira Softwares customer base.
Negotiations on payment terms are possible since Mira Software wants to help
customers in nancing for the use of the software. However, recurring/non-variable
revenue streams are important to ensure the continuity of Mira Software. In the
improved business model, continuity of Mira Software should never be at stake. For
strengthening the Customer Relationships, long-term contracts can be considered
with close involvement pf the customer in the development process of the software
solution. The Value Proposition should also be attractive; therefore, the software
product has to be of a high quality, usability and security, which should be ensured
by the use of the software framework. The framework may also make the software
development faster. More focus will have to be on customer acquisition and making
formal contracts with partners. A customer portal should also be developed for
interaction with the customer and gathering knowledge from them. The website and
social media should also be put more into play for raising brand awareness and
attracting customers. To attract and retain customers and the word-of-mouth effect,
incentive programs can be introduced for the customers (such as discounts or
freemium). If Mira Software Solutions can improve their BMC by considering
32 2 The Business Model Concept and Its Use

these recommendations and can actually implement these practices, they can better
create value and expect a sustainable business growth.
This case clearly shows the utility of a BMC to formulate a business model in
one page and analyze to address real business issues.

2.10 Conclusion

The business model is a powerful concept which helps in visualizing the imple-
mentation of a business idea and/or a strategy. The business model itself can also be
seen as a source of competitive advantage (Zott et al. 2011). With a hard-to-imitate
business model, it does not matter if a competitor tries to copy the service or
product a company provides, since the process of how value is created and captured
differs. A successful business model will eventually be imitated, just like a new
product, but can for a time create a temporary lucrative situation for the company
(Teece 2010). There is, therefore, a need for continuous monitoring, evaluation and
improvement of the business model to sustain the business advantage.
A business model can take many different forms and be described in many ways.
By creating a map of a business model such as a BMC, it can be more easily used
and experimented with before actually investing in changes. It is also a very good
way to concretize theoretical elements, and at the same time make it easily over-
viewed. The BMC is one such aid, which has become very popular in business
model design and improvement studies.

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