Choosing the right business model
Reading time: about 6 min
Just because your family loves the sandwiches you make at home doesn’t mean that you should run out and open a new sandwich shop. There are a lot of things to consider before you decide to make it big as an entrepreneur. Is there a need or demand for your product? Is the market already saturated with similar products? Do you even know how to run a business?
Every year millions of new businesses are started in the United States. Many of these businesses fail. According to one report, the failure rate is relatively consistent across all industries and looks like this:
- 20% fail in the first year
- 30% fail in the second year
- 50% fail in the fifth year
- 70% fail in the tenth year
There are many reasons that businesses fail, including a poor market fit, lack of marketing knowledge, financial problems, not having a well-defined plan, and not defining how you will make money.
Choosing the right business model for your product or service will help you to figure out how you will make money while fulfilling a need and providing value to your customers.
What is a business model?
A business model is a blueprint that describes how your company will make money. But there’s more to it than just stating how much you will charge for your product.
Your business plan needs to answer these questions:
- Who is your target audience?
- What are you going to sell to your customers?
- How will you generate interest in your products and brands?
- How will you continue to add value to keep customer interest?
- How much is it going to cost to deliver your products?
The answers to these questions will shape the model you will use to create and deliver value to your customers while securing value for your company as well. A good business model can help new companies attract investors, recruit talented employees, and energize current management and staff.
But business models aren’t just for new companies. Established businesses use business models to help them keep up with, or stay ahead of, constantly changing marketing trends.
Different types of business models
There are many different types of business models that can be used to accommodate a wide variety of businesses. This means that you don’t have to create your own model from scratch. Someone else has done most of the work for you. Choose the one that more closely matches your business and adapt it to your needs.
In this model, an established company gives you access to their proprietary business model including the processes, products, trademarks, and brands that made them successful. You will normally need to pay a fee to get started, then pay royalties on a regular schedule to continue profiting from the franchise’s name and products.
Examples: Restaurants like McDonalds, auto parts stores like O’Reilly, and a variety of retail stores.
Manufacturers make products in-house from raw materials. They sell their products directly to customers or to other businesses who then sell them to customers. Any company that sells its products wholesale to other businesses is using the manufacturing business model.
Examples: Ford Motor Company, bakeries, and furniture makers.
The word “crowdsourcing” is a blend of “crowd” and “outsourcing.” In this model, individuals or organizations recruit the help of outside participants for ideas, micro-tasks, votings, problem solving, and finances. Crowdsourcing usually relies on websites to attract visitors who can divide work, submit ideas, and solve problems to achieve a result.
For crowdsourcing to be successful, the organization needs to make the rewards enticing enough to draw the crowd’s interest.
Example: The LEGO Group runs a website called LEGO Ideas. The site encourages users to submit ideas and designs for sets to be sold commercially by the LEGO Group. The original designers of the chosen sets receive 1% of the proceeds from sales.
Individuals or organizations appeal to consumers to fund projects. This is different from crowdsourcing because nobody is asking for ideas, votes, or problems to be solved. Instead individuals or organizations ask for <x> in donations in return for <y>.
For example, The Aquabats, a rock band from Orange County, launched a Kickstarter campaign asking for donations so they could record a new album. In return for donations, fans received an advanced copy of the album before it was available to the general public. VIP donors were treated to a private live concert.
Examples: GoFundMe and Kickstarter.
Companies use the subscription model to charge customers a recurring fee. This model is good because the company can reasonably predict the amount of revenue they will bring in for the month, quarter, and year. Companies try to provide value to encourage subscribers to keep paying for their products and services.
Businesses who provide software as a service (SaaS) license and deliver their software on a subscription basis. Software is licensed on a subscription basis and is centrally hosted.
Examples: Newspapers, magazines, and Netflix. SaaS examples include Lucidchart, Adobe Creative Cloud, and Microsoft Office 365.
This model is used by companies that make their money by selling advertising space or time. Media organizations use an advertising business model to deliver content to consumers for free.
Examples: Broadcast TV networks offer free programming to viewers. Companies buy time to advertise their products during programming breaks. Online advertising examples include YouTube and online editions of newspapers and magazines. Online media advertising is more user-interactive and can lead to immediate click-through sales.
Companies or individuals using this model can earn money based on commissions by referring its online visitors to a partner’s product or services. Links on the site encourage visitors to purchase these products and the affiliate gets a commission for every referred sale.
Examples: Consumer product review sites such as TopTenReviews.com review products, list the pros and cons, and provide links so visitors can buy the product that they believe will work for them.
Merchant / brick-and-mortar
This is the model that most companies used until the dot.com explosion of the 90s. Retailers, wholesalers, and manufacturers sell their products from a physical store or office that they own or rent. Transactions are completed with customers face-to-face.
Examples: Shopping malls, grocery stores, and restaurants.
With the freemium business model, companies give away basic features and functions of their product free. If the customers want more advanced features, there are usually different pricing tiers that unlock specific features that the customers want or need.
A freemium model is not like offering a limited trial that expires after a specified amount of time. The product’s basic functionality remains free no matter how long you use it.
Examples: The freemium model is widely used on the internet and is popular with many different software applications. Spotify and Soundcloud are music streaming services. Each offers free, ad-supported music streaming and premium subscription-based streaming without the ads.
This is not a complete list of business models in use today. But it should give you a good idea of the things you might want to do to define how your company will deliver and receive value.
Much of the work has been done for you with these models that are proven to work. All you need to do is make some tweaks and minor innovations to make the model work for you.
The next step is to learn how to create your own business model canvas.Learn more
Find out how to create your own business model canvas.Learn more
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