41823, 3:10PM What s @ Business Model wth Types and Examples TRADE How Companies Make Money Learn to understand a company's profit-making plan by CAROL M. KOPP. Urdnted warch 25,2028 Rovgued 37 THOMAS BROCK Fact checked by KATRINA MUNICHIELLO What Isa Business Model? The term business model refers to a company's plan for making a roll. It Identities the products or services the business plans to sel its identified target ‘market, and any anticipated expenses, Business models are important for both ‘new and established businesses. They help new, developing companies attract investment, recruit talent, and motivate management and staf. Established businesses should regularly update their business model or they't fail to anticipate trends and challenges ahead. Business models also help investors evaluate companies that interest them and employees understand the future of a company they may aspire to join. KEY TAKEAWAYS ‘+ Abusiness model is a company's core strategy for profitably doing business. ‘+ Models generally include information like products or services the business plans to sell, target markets, and any anticipated expenses. ‘+ There are dozens of types of business models including retailers, manufacturers, fee-for-service, or freemium providers. ‘+ The two levers ofa business model are pricing and costs. -npshmwwinvestopedta.comiterms/bfousinessmodelasp#~text=The term business model refers, both new and established businesses. a048129, 2:10 PM ‘What is @ Business Model wth Types and Examples ‘whether the — | Business Model Understanding Business Models A business model sa high-level plan for profitably operating a business in specific marketplace. primary component ofthe business madel s the value jnrapasition.Thisis a description ofthe goods or services that a company offers and why they are desirable to customers or clients, ideally stated in a way that differentiates the product or service from its competitors [Anew enterprise's business model should also cover projected startup costs {and financing sources, the target customer base forthe business, macseting sltalegy, a review of the competition, and projections of revenues and expenses The plan may also define opportunities in which the business can partner with other established companies. For example, the business model for {an advertising business may identify benefits from an arrangement for referrals {to and from a printing company. Successful businesses have business madels that allow them to fulfil client needs at a competitive price and a sustainable cost. Overtime, many businesses revise their business mode's from time to time to reflect changing business environments and market demands, When evaluating a company as a possible investment, the investor should find ‘out exactly how it makes its money. This means looking through the company's business model. Admittedly, the business model may not tll you everything about a company’s prospects. But the investor who understands the business ‘model can make better sense ofthe financial data Evaluating Successful Business Models tps: investopedia convtermsib/businessmodel aspH:~text=The term business model refers,both new and established businesses. 2048129, 2:10 PM ‘What is @ Business Model wth Types and Examples ‘irbusiness, tilitbecomes profitable, Counting costs to the introduction ofa product is not enough. A company has to keep the business running untilits revenues exceed its expenses. One way analysts and investors evaluate the success of @ business model is by looking atthe company’s gtass raft, Gross proftis a company's total revenue ‘minus the cost of goods sald (COGS). Comparing a company’s gross profit to ‘hat ofits main competitor or its industry sheds light on the ficiency and effectiveness of its business model. Grass profit alone can be misleading, however. Analysts also want to see cash flow or net income. That is gross profit ‘minus operating expenses and isan indication of just how much real profit the business is generating, The two primary levers of a company's business model are pricing and costs. A ‘company can raise prices, and it can find inventory at reduced costs. Soth {actions increase gross profit, Many analysts consider gross profit to be more important in evaluating 3 business plan. A good gross profit suggests a sound business plan. Ifexpenses are out of control, the management team could be at fault, and the problems are correctable. As this suggests, many analysts believe that companies that run on the best business models can run themselves, FAST FACT When evaluating a company as a possible investment, find out exactly how it makes its money (not just what it sells but how it sells it). That's the company’s business model. ‘Types of Business Models ‘There are as many types of business models as there ae types of business. For instance, direct sales, ranchising, advertising-based, and bricicand.mortar stores are all examples of tracitional business models, There are hybrid models ‘as well, such as businesses that combine internet retail with brick-and-mortar stores or with sporting organizations like the NBA, Below are some common types of business models; note that the examples given may fall into multiple categories. Retailer One ofthe more common business models mest people interact with regularly is the otailer model. A retailers the last entity along a supply chain. They often bbuy finished goods from manufacturers or distributors and interface directly with customers. Example: Costco Wholesale Manufacturer A manufacturer is responsible for sourcing raw materials and producing, finished products by leveraging internal labor, machinery, and equipment. A ‘manufacturer may make custom goods or highly replicated, mass produced products. A manufacturer can also sell goods to distributors, retalers, or direct ‘customers. Example: Ford Motor Company tps: investopedia convtermsib/businessmodel aspH:~text=The term business model refers,both new and established businesses. sito48129, 2:10 PM ‘What is @ Business Model wth Types and Examples - een - zentered ‘around labor and providing services. A fee-for-service business model may charge by an hourly rate or a fixed cost for a specific agreement. Fee-for-service companies are often specialized, offering insight that may not be common, knowledge or may require specific training. Example: DLA Piper LLP Subscription ‘Subscription-based business madels strive to attract cients in the hopes of luring ther into long-time, loyal patrons. This s done by offering a product requires ongoing payment, usualy in return for a fixed duration of benefit Though largely offered by digital companies for access to software, subscription bbusiness models are also popular for physical goods such as mor reoccurring agriculture/produce subscriation box deliveries. at Example: Spotify Freemium Ereamium business models attract customers by introducing them to basic, Uimited-scope products. Then, withthe client using their service, the company attempts to convert them to a more premium, advance product that requires payment. although a customer may theoretically stay on freemium forever, a company tries to show the benefit of what becoming an upgraded member can hola. Example: LinkecIn/Linkedin Premium Important: Some companies can reside within multiple business model types at the same time forthe same product. Far example, Spotify (a subscription-based model) also offers free version and 2 premium version, Bundling fa company is concerned about the cost of attracting a single customer, it may attempt to bundle products to sell multiple goods toa single client, Bundling capitalizes on existing customers by attempting to sell them different products. This can be incentivized by offering pricing discounts for buying multiple products. Example: AT&T Marketplace Marketplaces are somewhat straightforward: in exchange for hosting a platform for business to be conducted, the marketplace receives compensation Although transactions could occur without a marketplace, this business models. attempts to make transacting easier, safer, and faster. Example: ebay Affiliate affllate business models are based on marketing and the broad reach of a specific entity or person's platform. Companies pay an entity to promote a tps: investopedia convtermsib/businessmodel aspH:~text=The term business model refers,both new and established businesses. 4n048129, 2:10 PM ‘What is @ Business Model wth Types and Examples ‘ortheir sntage of sales derived from their promotion, or both, Example: social media influencers such as Lele Pons, Zach King, or Chiara Ferragni. Razor Blade Aplly named after the product that invented the model, this business model sims to sella durable product below costco then generate high-margin sales of 2 disposable component of that product. Also referred to asthe “razor and blade mode’, razor blade companies may give away expensive blade handles withthe premise that consumers need to continually buy razor blades in the longrun, Example: HP (printers and ink) FAST FACT ‘Tying’ is an illegal razor blade model strategy that requires the purchase of an unrelated good prior to being able to buy a different (and often required) good. For example, imagine Gillette released line of lotion and required all customers to buy three bottles before they were allowed to purchase disposable razor blades. Reverse Razor Blade Instead of relying on high-margin companion products, a reverse razor blade business model tres to sella high-margin product upfront. Then, to use the product, low or free companion products are provided, This model aims to promote that upfront sale, as further use of the product is not highly profitable. Example: Apple (iPhones ~ applications) Franchise The franchise business model leverages existing business plans to expand and reproduce a company ata different location. Often food, hardware, or fitness companies, franchisers work with incoming franchisees to finance the business, promote the new location, and oversee operations. In return, the franchisor receives a percentage of earnings from the franchisee. Example: Domino's Pizza Pay-As-You-Go Instead of charging a fixed fee, some companies may implement a pay-as-you- {0 business model where the amount charged depends on how much of the product or service was used. The company may charge a fixed fee fr offering, the service in adgition to an amount that changes each month based on what was consumed. Example: Utility companies Brokerage Abrokerage business model connects buyers and sellers without directly selling ‘ good themselves. Brokerage companies often receive a percentage of the tps: investopedia convtermsib/businessmodel aspH:~text=The term business model refers,both new and established businesses. 511048129, 2:10 PM ‘What is @ Business Model wth Types and Examples «brokers are Example: ReMax How to Create a Business Model Thereisno ne size fits all" when making 2 business model. Different professionals may suggest taking different steps when creating a business and planning your business model, Here are some broad steps one can take to create their plan: Identify your audience, Mast business model plans will start with either defining the problem or identifying your audience and target market. A strong business model will understand who you are trying to target so you can craftyour product, messaging, and approach to connecting with that audience, 2, Define the problem, In addition to understanding your audience, you must know what problem you are trying to solve. A hardware company sells products for home repairs. A restaurant feeds the community. Without a problem or a need, your business may struggle to find its footing if there Isn'ta demand for your services or products. 3. Understand your offerings. with your audience and problem in mind, consider what you are able to offer, What products are you interested in selling, and how does your expertise match that product? In this stage of the business model, the product is tweaked to adapt to what the market needs and what you're able to provide. 4, Document your needs, With your product selected, consider the hurdles your company will face. This includes product-specific challenges as well as ‘operational difficulties Make sure to document each ofthese needs to assess whether you are ready to launch inthe future. 5, Find key partners. Most businesses will leverage other partners in driving company success. For example, a wedding planner may forge relationships with venues, caterers, florists, and tailors to enhance their offering. For ‘manufacturers, consider who will provide your materials and how critical your relationship with that provider will be. 6, Set monetization solutions. Until now, we haven't talked about how your company will make money. A business model isn't complete until it Identifies how it will make money. Ths includes selecting the strategy or strategies above in determining your business model type. This might have been atype you had in mind but after reviewing your clientsneeds, a different type might now make more sense. 7. Test your model. When your ful plan isin place, perform test surveys or softlaunches. Ask how people would feel paying your prices for your services. Offer discounts to new customers in exchange for reviews and feedback. You can always adjust your business model, but you should always consider leveraging direct feedback from the market when doing so. Tip: Instead of reinventing the wheel, consider what competing, ‘companies are doing and how you can position yourself in the market. You may be able to easily spot gaps in the business madel of others. Criticism of Business Models tps: investopedia convtermsib/businessmodel aspH:~text=The term business model refers,both new and established businesses. 6048129, 2:10 PM ‘Whatis Business Model wth Types and Examplas v suggests ‘models don't work, she states, i's because the story doesnt make sense andfor the numbers just don't adé upto profits. The aitnejadusic sa good place {0 l0ktofind a business model that stopped making sense. t includes companies that have suffered heavy losses and even banksuntcy For years, major carriers such as American Airlines, Delta, and Continental built their businesses around a hub-and.saake sicucture, in which al flights were routed through a handful of major aiports By ensuring that most seats were filled most of the time, the business model produced big profs. However, a competing business model arose that made the strength of the ‘major carriers a burden. Carriers like Southwest and JetBlue shuttled planes between smaller airports at a lower cost. They avoided some of the operational inefficiencies of the hub-and-spoke model while forcing labor casts down. That allowed them to cut prices, increasing demand for short fights between cities. As these newer competitors drew more customers away, the old carriers were leftto support their large, extended networks with fewer passengers. The problem became even worse when traffic fell sharply following the September LL terrorist attacks in 2001! To fil seats, these airlines had to offer mare discounts at even deeper levels. The hub-and-spoke business model no longer Example of Business Models Consider the vast portfolio of Microsoft Over the past several decades, the companyhas expanded ts product ine across digital services, software, gaming, and more. Various business models, all within Microsoft, include but arenot limited to + Productivity and Business Processes: Microsoft offers subscriptions to Office products and Linkedin, these subscriptions may be based off product usage (ie. the amount of data being uploaded to SharePoint) + Inteligent Cloud: Microsoft offers server products and cloud services for a subscription. Ths also provide services and consulting, + More Personal Computing: Microsoft sells physically manufactured produ: Xbox ales include content, services, subscriptions royalties, and advertising revenue.’ such as Surface, PC components, and Xbox hardware. Residual What Is a Business Model? ‘business model isa strategic plan of how a company will make money. The ‘model describes way a business will take its product, offerit to the market, and drive sales. Abusiness model determines what products make sense for 2 company to sell, how it wants to promote its products, what type of peopleit should try to caterto, and what revenue streams it may expect. What Is an Example of a Business Model? Best Buy, Target, and Walmart are some ofthe largest examples of retail companies. These companies acquire goods from manufacturers or distributors {o sel directly tothe public. Retallers interface with thelr clients and sell goods, though retails may or may not make the actual goods they sell What Are the Main Types of Business Models? tps: investopedia convtermsib/businessmodel aspH:~text=The term business model refers,both new and established businesses. m048129, 2:10 PM ‘What is @ Business Model wth Types and Examples siness mode's. Ithem directly tothe public. Meanwhile, retails buy goods to later resell to the public How Do | Build a Business Model? There are many steps to building a business model, and there isno single consistent process among business experts. n general, a business model should identity your customers, understand the problem you are trying to solve, select a business model type to determine how your clients will buy your product, and determine the ways your company will make money. Itis also Important to periodically review your business model; once you've launches, fee free to evaluate your plan and adjust your target audience, product line, or pricing as needed. The Bottom Line A company isn't just an entity th 2 planin plan on who to sll to, whatto sell, what to charge, and what value itis creating. A business model describes what an organization does to systematically ereate long-term value forts customers. After building business model, a company should have stronger direction on how it wants to operate and what its financial future appearsto be. 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Types, Purpose, and How To Write One /Awoite papers an informational document issued by 2 company or not-for-profit ‘organization to promote the features of solution or procuet, move Razor-Razorblade Model: Definition, How It Works, and Examples The raroreaorblade model 2 picngtactic in which adependent good s sod ata loss (oratcost anda paired consumable god generaesthe profs. aia ‘Surcharge: What It Is, How It Works, Types, and Examples ‘surcharge is fee, charge, of tax added aut may not be included inthe tated price of good or service. mare Six Forces Model: Definition, What Its, and How It Works ‘The se forces model is a strategic business too that helps businesses evaluate the competitiveness and attractiveness of a market. 0% Product Lifecycle Management (PLM): Definition, Benefits, History Product fecycle management refers tothe handling ofa good as it moves through ve typical stages of it lifespan from development o decline, ae Cost of Revenue: What It Is, How It's Calculated, Example ‘The cost of evenve the total cost of manufacturing and delivering» product or service andisfoundin acompary's income statement, ae Partner Links Related Articles Which Business Model Is Best? Depends on the Industry Gross Profit vs. Net Income: What's the Difference? -nip:ewyinvestopedta.comiterms/bfousinessmodel.aspf:text=The term business model refers,both new and established businesses, ono41823, 3:10PM What s @ Business Model wth Types and Examples 2nvestopedia | givinga Paccount, FUNDAMENTAL ANALYSIS Accounting _-Revenue vs. Profit: What's the Difference? Concept Pan sitingat sau. eustness desk 7 Popular Marketing Techniques for Small Businesses Warren Buffett WARREN 8UFFETT at Forbes Warren Buffett's Best Buys Centennial Birauste OS xa, Investec = prt te Date bsg faray -nip:tewyinvestopedta.comiterms/bfousinessmodel.aspf:text= The term business model efers,both new and established businesses, 10110