The biggest challenge that entrepreneurs face when launching a new project is designing the Business Model—the plan that describes how the company will generate cash flow, with which products or services, in what reference market, and with which resources, partners, and distribution channels.
All startups must design a scalable and sustainable business model. This applies to all companies with innovative products, as they represent a break in the value chain of the sector they operate in. The challenge lies in the fact that all stakeholder relationships and the economic-financial model must be conceived and built from scratch, without the advantage of established industry best practices.
Such a challenge may seem daunting, but it is the only way to innovate within a sector or niche market and thus grow and establish new standards for the companies that operate there.
To develop their business model, startups must first determine and validate their value proposition.
The value proposition is the core of the business model and will shape most business decisions. In other words, many decisions about the business model depend on the definition of the value proposition—not the other way around.
Without a value proposition, it is difficult to determine if and how the company will make money, with which partners, the nature of key activities, and even how to acquire and manage customer relationships. The value proposition is also necessary to ensure that all these elements, taken together, are financially feasible and sustainable.
Definition of Business Model
There are various ways to define a business model. Simply put, it describes how a company generates cash flow. However, a definition focused solely on revenue generation is too limited.
Entrepreneurs designing their business model need an approach that allows them to understand if and how their value proposition can scale successfully.
To make this assessment, a business model must include operations, methods for customer acquisition and retention, supply chain management, and aspects related to costs and revenues.
“A business model describes the value an organization offers its customers, outlines the activities and resources required to create, market, and deliver this value, generating profitable and sustainable revenue streams.”
(Osterwalder, A., Pigneur, Y. & Tucci, C., May 2005. Clarifying Business Models: Origins, Present, and Future of the Concept. Communications of the Association for Information Systems, Volume 15)
This definition is particularly useful for entrepreneurs because it is based on a holistic business perspective and emphasizes the sustainability of a business model.
To start designing the business model, the team should answer a few essential questions:
- How are customers acquired? What are the necessary steps, timeline, typical deal value, and stakeholders involved?
- After acquiring a customer, how will the relationship be managed?
- What is the revenue model?
- How and how much are customers billed? Can revenues be forecasted for the next month, quarter, and year?
- What resources are available and under your control?
- Who are the key partners?
- What key activities are needed to realize the value proposition?
- What are the fixed and variable costs?
- Can the total cost for the next month, quarter, and year be calculated?
Read: 6 reasons to start working on the financial plan right away
The Business Model Canvas
Given the number of factors to consider, designing a business model can be quite complex.
The Business Model Canvas (a visual tool created by Alexander Osterwalder) can simplify the design process.
Business Model Canvas
Its visual nature simplifies understanding of how the different business components affect each other. It also enables team and advisor engagement in the design process.
The canvas is composed of nine interrelated blocks, described in this post.
As familiarity grows with the content and flow of the blocks, the Business Model Canvas becomes easier to use. It is versatile and serves as both a diagnostic and scenario-planning tool.
A Couple of Practical Tips for Developing the Business Model
It’s a team exercise
Entrepreneurs should work with their team and advisors. This fosters a shared vision and understanding of the current position, direction, and the process to get there. The business model should not be developed by one person alone but through a shared experience.
Document, track, and update your work
Documentation in various stages fosters discipline and structure, which are essential when working. This should be done intelligently, without slowing down the process.
One practical example is creating slides to track business model progress—useful for review and team brainstorming.
Keep in mind: business model design is not a linear process, and may require several iterations before a final version is reached.
