Learning Module 7
Business Models

A business model describes how a business works and creates value. It must be understood independently by analysts — not just taken from management's own description. The four core questions a business model answers are:

The Customers and Market ("Who")

Businesses identify target customers by segmenting them based on geography, demographics, behavior, income, technology affinity, and self-image. There are two primary models:

• B2B (Business-to-Business): Customers are other businesses — sophisticated buyers motivated by profit and efficiency.

• B2C (Business-to-Consumer): Customers are end consumers — diverse needs, often influenced by aesthetics, brand, and social factors.

Segmentation enables targeted marketing, product design, and pricing. Opportunities often arise when incumbents fail to recognize or effectively serve certain segments.

Product or Service Offering ("What" and "Why")

The offering defines the addressable market and must clarify how it differs from competitors. Understanding the "job" a product fulfills helps identify substitute competition (e.g., trucks and railroads both transport goods). Analysts should scrutinize management's claims about differentiation and market size.

Channels ("Where")

Channel strategy covers how the firm reaches customers through selling (sales and marketing) and fulfillment (distribution and logistics).

Channel choice materially drives revenue, cost structure, profitability, and risk. Direct sales avoids shelf competition but incurs high fixed costs. Omnichannel improves reach but complicates operations.

Pricing ("How Much")

Pricing strategy reflects the firm's competitive position:

• Price takers (commodity producers): Markets with many competitors and homogeneous products; prices set by supply and demand. Strategy → cost leadership (e.g., Ryanair, Costco).

• Pricing power: Few competitors or highly differentiated products allow premium pricing (e.g., Tesla, luxury goods).

Pricing and Revenue Models

Price discrimination — charging different customers different prices based on segment, volume, channel, or timing — maximizes profit where willingness to pay varies. Common models:

Unit economics expresses revenues and costs on a per-unit basis, revealing break-even points and how margins scale with volume — essential for evaluating business model viability.

• Private label / contract manufacturers: Produce goods marketed by others (e.g., Apple and NVIDIA outsource manufacturing to Asia while focusing on R&D, design, and marketing).

• Value-added resellers: Distribute and also handle installation, customization, or support for complex products (e.g., IT hardware, enterprise software).

• Licensing arrangements: Company uses another's brand in return for a royalty (common in toys and apparel).

• Franchise models: Franchisees operate under a specific brand with proprietary products and processes; franchisor earns royalties and collects fees for advertising/support (common in restaurants, retail, auto dealerships).

Innovation often combines business model and technological innovation and is typically pioneered by new entrants rather than incumbents. Digital technology has been the most disruptive force, enabling new models by:

• Reducing the cost of communicating, exchanging information, and transacting financially

• Making location less important — e-commerce removes the need for local physical presence

• Enabling cheaper and more precise digital marketing to narrow customer segments

• Amplifying network effects and making them accessible to more firms

Key metric for network businesses: number of users and growth rate of users. Marginal cost of adding one more user is typically very low while revenue generated from that user can be substantial.

Many digital business models use crowdsourcing — users build and contribute to the product/service while the company sets rules and provides moderation. The company's value comes from the community, not its own content creation.