08 Jul 2002  Research & Ideas

How to Fashion Your New E-Business Model

In this chapter from The E-Business Handbook, HBS professor Lynda M. Applegate considers the future of E-Biz models. Her advice for satisfying customers who want tailor-made service? Get vertical.

 

Consumers are looking for the ability to bundle the products they want in a fashion unique to each individual, and the Web will provide this capability .... We believe that vertical portals will do the best job of providing the consumer empowerment that the Internet makes possible.... Not only will vertical portals have a profound effect on traditional distribution networks, but because many vertical portals will have production capabilities, they may also pose a threat to specialty producers that choose to downplay the significance of the Internet channel.

For decades, executives have used the value chain framework to define the set of activities through which products and services are created and delivered to customers.6 Once activities are defined, it is then possible to analyze the economics at each step in the chain by identifying both costs incurred and value created. These activities can be located inside a firm or across firm boundaries. In the latter case, activities may involve customers, suppliers, partners, or other stakeholders. Accompanying the physical value chain is a related information value chain through which involved parties coordinate and control activities.

Participants within a business market assume one or more of four primary roles to carry out these value-creating activities:

  1. Suppliers create component products or provide services, raw materials or talent.
  2. Producers design and build products, services, and, most importantly, solutions that meet a specific customer or market need. They might sell and maintain the product or share that role with others in an industry or with those outside traditional industry boundaries.
  3. Distributors enable buyers and sellers to connect, communicate, and transact business. These distributors may connect suppliers to business customers, forming what is often called a supply chain, or they may connect producers to consumers, forming what can be called a buy chain.
  4. Customers might be either individual consumers or businesses willing to pay for a product, service, or solution. When selling to business customers, individual consumers—the actual end users—are often located inside the customer firm: This can create a two-stage adoption cycle—first the business must decide to purchase a product or service and then individuals must decide to use it.
As we enter the 21st century, Information Age pioneers such as AOL (now AOL Time Warner) are defining the business models that are reshaping the global business landscape and redefining power.
— Lynda M. Applegate

The point within a value chain where maximum economies of scale and scope are created determines market power. Economies of scale are achieved when a market participant or network of participants is able to leverage capabilities and infrastructure to increase revenues and profitability within a single product line or market. Economies of scope are achieved when a market participant or network of participants is able to leverage capabilities and infrastructure to launch new product lines or businesses, or enter new markets.

Industrial Age business innovation's favored producers. The innovations included:

  • Physical or analog production and distribution technologies (machines, railroads, steam engines, telephones)
  • An operating model (the assembly line, marketing, sales, and after-sales service channels)
  • A management model (the hierarchy)
  • A social or regulatory system (specialized work, pay-for-performance incentives, worker education, unions, antitrust laws)

As we enter the 21st century, Information Age pioneers such as AOL (now AOL Time Warner) are defining the business models that are reshaping the global business landscape and redefining power. Once again, emerging models exploit the power of technological, business, and social innovations within a regulatory and policy framework—the latter of which emerges over time.

Information Age business innovations include:

  • Digital production and distribution technologies (broadband and wireless networks, sophisticated content creation, flexible knowledge management)
  • An operating model (integrated supply chains and buy chains)
  • A management model (teams, partnerships, consortia)
  • Social or regulatory systems (ownership incentives, freelancing, virtual work, distance learning, digital copyright laws)

Although Industrial Age markets and power bases were built on proprietary infrastructure, participants within Information Age markets leverage a shared digital business infrastructure to enable new entrants and established firms to create and exploit network economies of scale and scope. Network economies of scale are achieved when a "community" of firms shares its infrastructure, capabilities, and customer base to produce and distribute products faster, better, and cheaper than competitors. Network economies of scope are achieved when the community uses its shared infrastructure to produce and distribute new products and services, enter new markets or launch new businesses more quickly, at less cost, and more successfully than competitors.

The interorganizational IT systems of the 1980s and early 1990s (e.g., American Airlines' Sabre reservation system and American Hospital Supply Corporation's ASAP system) foreshadowed how network economics could create value. Because they were built using proprietary technologies, however, access, reach, and flexibility were limited.

The new e-business models emerging on the Internet can be classified within one or more of the generic market roles. In addition, the models can be grouped into two categories. First, and most relevant for our discussion, are the digital businesses being built and launched on the Internet. The second major category of e-business model comprises businesses that provide the platform upon which digital businesses are built and operated.

The e-business model classification…suggests that there is a separation between companies that produce and sell technical infrastructure and businesses that use the technology to support business strategy and design…. However, the distinction is blurring as adoption of Internet-based business models penetrates to the very core of how firms do business. IBM, AOL, Time Warner, Microsoft, and Intuit no longer just sell technology products; these companies are now content aggregators, portals, and media companies. At the same time, non-high-tech businesses, such as Charles Schwab, are becoming technology infrastructure providers. David Pottruck, co-CEO of Charles Schwab, explained: "[Charles Schwab] is a technology company that just happens to be in the brokerage business.... If we are going to be successful, technology is going to have to be built into our DNA."

A Step-by-Step Approach to Analyzing Emerging E-Business Models

1. Evaluate the concept (opportunity): Assess market, opportunity and dynamics, industry and competitive dynamics, business context and risk, product/service positioning, basis of differentiation, and evolutionary potential (e.g. strategic options). The analysis of the concept provides the foundation for developing a pricing model and revenue forecast.

2. Evaluate the capabilities and resources required to execute strategy: Assess the ability to attract, engage and retain key stakeholders; the appropriateness of operating and marketing plans; and the proposed infrastructure requirements. The analysis of the business design provides the foundation for developing cost forecasts.

3. Evaluate the value proposition (returns to all stakeholders): Evaluate benefits to all stakeholders, revenue, cost, and asset models, profit model, cash flow projections, break-even timing, and financing needs. Check the consistency of assumptions used to build the financial model with the opportunity and resource analysis.

4. Use the analysis as a benchmark to develop real-time performance monitoring systems.

5. Revise the plan and performance measurement systems on an ongoing basis.

Excerpted with permission from "Building Information Age Businesses for the 21st Century," in The E-Business Handbook The St. Lucie Press, 2002.

Footnotes:

6. Porter, M., Competitive Advantage: Creating and Sustaining Superior Performance, New York: The Free Press, 1985.

Excerpted with permission from The E-Business Handbook, The St. Lucie Press, 2002.

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