Business Model Alchemist

Today I returned to my local Chiang Mai coffee shop after a week on a business trip to Australia. It’s the day Wawee Coffe is celebrating its 5^th anniversary. The small coffee chain which I have already written about now has 5 shops and is at a crossroads: It’s growing out of its children shoes. I wonder what I’d do myself at this stage if I were the owner. Would I invest the returns in an expansion or would I invest in a completely different business? Would I extend to other cities or focus on Chiang Mai? Would I look for investors or would I grow organically? Would I grow in a centralized manor or build a franchise?

Well, first of all I would do a reality check. If I were Wawee’s boss I would analyze why I have been successful? I wouldn’t do it alone, but I would involve the people that deal with customers every single day: my employees. I would do a team exercice reflecting on the following questions:

• Was it the business model design that brought success? Was it because I am different than the other coffee shops? Then how strong would my competitive advantage be compared to the market? Example from another industry: Skype.
• Was it simply the market circumstances I came across that brought growth? It is relatively easy to ride a growing market. Then I would have to prepare for harder times. Example from another industry: Vodafone.
• Was it my execution skills that allowed me to thrive? Exceptional leaders can make almost any business model grow for a while. Then my success could be temporary if my business model was not sound. Example from another industry: Steve Jobs with Apple (will the iPod/iTunes success last?).
• Was it my team? Sometimes when exceptional people come together in a team success happens on its own. Is the Wawee team different from others? Then I would have to invest in my team and make sure I find similar people. Example from another industry: Google.

Personally, I think Wawee strived based on a combination of sound business model, growing market and good team & execution. This, of course, gives an appetite for expansion. So what would I look at if I were to expand? Some uncooked thoughts:

Brand building

In Chiang Mai the brand is one of Wawee’s strongest assets, particularly among students. I don’t know if energy and money went into brand building or if it just happened (a la “tipping point”). Probably it was mainly the latter. This means it will be very challenging to build a brand image in other cities. Personally, I think a range of “guerilla marketing methods” could be effective. Small online games attached to emails and SMS campaigns could have a viral marketing effect among their core customer targets that include students, yuppies and young aspiring professionals.

People

I believe one of the reasons Wawee is striving are their people, their team. In Thailand I have often missed good service levels. Wawee is one of the rare places where I feel the team is trained to run a business and to serve its customers. I have never understood why Thai businesses don’t invest in good customer service levels. This is the face of the company which the customer gets to see day in day out. When alternatives are available good service is the thing that customers look at – and in the Thai coffee market there are definitely alternatives. A small, well trained and well paid team in each Wawee Coffee will definitely make a difference.

Location

This one seems to be a no-brainer, but nevertheless a challenge. For any new shop that Wawee sets up they have to be driven by the customers they target (where do they go?) and the brand image they want to build (does my brand fit into a shopping center?). This seems obvious, but so many companies are incoherent when it comes to location. They just try to be where everybody else is… following the herd. Being first is the real game: The big names like Yum Brands (owner of KFC) use sophisticated geo-software to test potential new locations as a function of the number of potential target customers. In the case of Wawee I would guess they would want to be close to business faculties and offices of big businesses.

Franchise or Control

One of the challenges if Wawee is to expand is to give away control. Franchising is an often chosen route for rapid expansion. The advantages are obvious: an entrepreneur that buys a franchise often has a bigger interest in making it succeed than a manager that lives on a salary. However, choosing franchisees is a challenge and giving away control means taking risks.

Differentiation

I am still not entirely sure how Wawee can differentiate itself from other coffee shops over the long term. Its main assets seem to be its people, its brand, its style and its locations. Given its target customers I was wondering if adding free Internet would make a difference. Though easy to copy it could be a strong attractor if connected to the Wawee brand. In any case differentiation has to be constantly on the radar screen in a market that is getting so populated.

So what?

My global readers might wonder why I went to such lengths to reflect on a small local Thai coffee chain. But, I think Wawee Coffee is quite an exciting case: It’s building a new brand in a growing market that is already dominated by some big players such as Starbucks and Black Canyon Coffee. To disrupt or not to disrupt the Thai coffe market is now the big question.

The last few days I have been working with Dr. Vijaya Thyil from La Trobe University in Melbourne, Australia. She is a marvellous and funny Indian intellectual with a very diverse background. She and Prof. Geoffrey Durden have kindly invited me to start a new business model research with them based on a series of qualitative interviews with various companies. This in itself is quite interesting, but today Vijaya and I discussed another exciting area where the business model concept could potentially contribute: financial valuation of companies.

The idea came up while we were driving back from a software demo and were discussing the evening lecture on financial valuation that Vijaya was about to give. Without further ado she invited me to give a short guest lecture on the link between the business model concept and financial valuation at the beginning of her MBA teaching. Though I didn’t have a clue what exactly I was going to say I happily accepted because intuitively I felt the connection between the two. And Vijaya and I indeed came up with some good and rather clear ideas during our brief discussion. For example, while the finance industry is very strong in number crunching and has strong methods rooted in (historical) financial data it performs less well on methods that analyze where those numbers actually come from: The business logic – what a company does day-in day-out.

I organized the hour the MBA students and I spent together on discussing business models and financial valuation as a participatory session (or as I called it a “collaborative thinking session based on our collective intelligence”). After briefly touching on the business model concept we came up with the following contributions that financial valuation could get from an increased business model understanding (among other discussed ideas):

• If we understand the business model of a company better, we get more accurate assumptions on growth estimates and risks. This is an interesting contribution because the financial industry is chronically weak on defining these (despite the “exact” nubmers like 8.9% growth). It mainly relies on historical data, which particularly in the case of young and innovative companies can be problematic.
• Understanding the business model includes understanding cost structures and revenue streams. This should definitely lead to a better understanding of free cash flow.
• Understanding the business model better allows to identify who exactly the competitors are. The financial industry still mainly thinks in industry categories while it becomes more and more difficult to put companies into one of these categories (as experienced by the students in their assignments). For example, is Apple in the hardware business (iMac), software business (iTunes, MacOS), consumer electronics (iPod) or retail (iTunes, iShops)? Describing the business model will lead to understanding who the competitors are and in return this will help better define growth and risk
• …

In any case I would say we had an interesting discussion and I enjoyed the exchange with the students. Since I took up my nonprofit management job I only had little time for teaching… So it was great fun! And maybe if we had had time to dig a little deeper into this topic we could come up with a better understanding of how, for example, eBay came up with a valuation of $2.6 billion in up-front cash and eBay stock, plus potential performance-based considerations to buy Skype.

This is an idea I must credit my friend and former PhD director, Professor Yves Pigneur for: It’s about the three levels of business model alignment.

Level 1: Alignment & Fit of your Business Model Building Blocks: At the very least you must achieve a fit of the different business model bricks of your company. It means that the 9 building blocks of your business should be mutually reinforcing and form a coherent whole. For example, you must find the best distribution channels to deliver your value proposition. But when you have found those channels you must ask yourself what the best distribution channel design is for your specific customer segmentation. Then you must go on and ask yourself what kind of customer relationship you should build up with these customers for your particular value proposition and how your distribution channels can support this. Once you have designed these customer-facing aspects of your business model you have to go on and achieve a fit with the infrastructure related aspects of your buisness model. You must ask yourself what kind of activities you have to perform to deliver your value proposition? What kind of resources and capacities do you need in order to build the customer relationships your business model requires? What kind of partnerships make sense to leverage your business model? And finally, all this has to fit together in a cost structures and a revenue model that allow you to maintain a healthy profit. That’s basic business model alignment.

Level 2: Alignment & Positioning of your Business Model in the Environment and Competitive Landscape: The second level of business model alignment is with the business model environment and competitive landscape. What sense would it make to have a business model with neatly fitting building blocks that can’t withstand the stiff wind of competition. Having a business model that is aligned with competitors mainly means understanding the competitive environment and designing your business model accordingly. In the 90s Dell understood how selling computers through direct-to-customer channels could disrupt the business models of its competitors. When Compaq (now HP) tried to follow Dell in directly selling to its customers they didn’t realize that their business model was neither aligned internally nor with the market place. Because they traditionnally sold through resellers they couldn’t switch to direct channels because their resellers would threaten them with drastic sanctions. More broadly your business model should be aligned with the 5 forces of your business model environment: Technology, Competition, Customer Demand, Social Environment and the Legal Environment.

Level 3: Alignment of your Business Model with Future Scenarios: Good companies are those that have a business model with a perfect fit and a strong competitive position in the market. Great companies are those that have a business model or a portfolio of business models that are ready for the future. The music industry for instance is an example of what can happen when you are badly aligned with possible futures. The major recored companies were taken by surprise when illegal trading platforms allegedly stole a large portion of their growth & market. Yet, one could argue that they were simply too lazy to align their traditional business model with the realities and opportunities of the digital age. They were much too late in trying to figure out how their current business models would perform in the future.

In terms of alignment this means that if you want to move from level 2 to level 3 you have to try to understand how the 5 forces of your business model environment could evolve in the future. You should reflect on how technology, competition, customers, society and laws will change and what possible impact this could have on your current business model. There are many different techniques to evaluate possible futures, such as scenario planning, prediction markets, systems dynamics and so on. All you need to do is to map these possible outcomes of an uncertain future back to your current business model in order to be better prepared for the rough days ahead of you.

Every few months my wife urges me to take a weekend off from the family and leave our house to have some time for myself. This time I crawled up the the mountains behind Chiang Mai, Thailand, where we live with my brave Honda Wave – a small 100cc vespa. I used the time to catch up on some magazine readings surrounded by the beautiful scenery and silence of Thailand’s northern mountains…

One of the articles I found particularly interesting was a piece in The Economist’s Technology Quarterly on video games applied to therapeutical use. The reason I found the article so interesting is because it illustrates how a company’s intentional value proposition can spark an entirely new idea or even business model.

The video game industry spits out a large number of new games every year. In revenue terms it has already overtaken boxoffice income of Hollywood movies. But who would have thought that video games would one day serve the healthcare industry? The Economist article shows a number of ways how video games have found their entry to therapeutic use. An Irish trauma psychiatrist has used an off-the-shelf car racing game to help one of his clients. An American doctor used off-the-shelf sports games to help stroke victims avoid boredem during their long hours of repetitive movement exercices . A Swiss therapist taught a patient suffering of attention-deficit-disorder (ADD) to play “neurofeedback” video games to sharpen concentration.

I was struck by these interesting examples, but find the implications for business model innovation particularly intriguing. Video games have specific characteristics. First of all they are entertaining and that is what the industry is primarily banking on. But they also have secondary characteristics like increasing concentration, developing strategic skills, improving motoric skills and so on… Hence, it is foreseeable that the secondary market around video games will grow alongside the primary market. Therapeutics is one application, but video games can also be used to develop strategy and innovation skills of executives or intellectual skills of kids.

To come up with more business model innovation we should thus increasingly analyze the secondary characteristics of existing value propositions and try to put them to new uses for new or underserved customer segments. What the application of video gaming to therapeutical use teaches us is that the solutions to some problems can be found off the shelf at sometimes unexpected places. All we need to do is match customer needs with unexpected existing solutions. Any ideas of examples out there?