Constructing Robust Business Models – Spotify

In my research, I theorize about designing robust business models.  One example of such a design is Spotify.  The Swedish start-up followed up on Apple’s revolution in the music industry, by instead of downloads offering a streaming service, based on a monthly subscription fee for listening to Spotify’s music library.  Spotify offered listeners an improved experience by enabling them to almost instantaneoulsy access millions (over 13M actually) of songs without ever downloading them to their computer (and thus reducing the urge for piracy).

Spotify designed a robust business model by not only solving the music fans’ problem of legitimate music access across devices, but also by involving the record labels in a profitable formula.  Indeed, music labels report Spotify to be the second-biggest, and in some countries like Sweden or UK, THE biggest source of revenue from digital music.  Moreover, Spotify also provides these partners with very useful and very detailed data about the evolving music tastes, something few other distribution channels can easily offer.  Furthermore, Spotify smartly partnered with Facebook to generate positive network effects for both parties by sharing your Spotify activities with friends.  By relying on these very legitimate partners, Spotify, a start-up, quickly gained rapid proliferation in Europe, where granted less competition exists, – and has also recently entered the US market, a harder nut to crack due to the much higher competition and the prevalence of iTunes there.

It would be interesting to see which business model will become the dominant design in the future for the music industry – owning your songs through downloads on iTunes or subscribing to a streaming model developed by Spotify?  Apple has already retaliated by launching “Apple Radio”, implicitly recognizing the threat this challenger might be posing to the incumbent…the saga to be continued!

WebVan and Learning from Failure

I have begun discussing learning from failure in a previous post this spring – and now I have successfully taught a class during my Introduction to Entrepreneurship course on WebVan, a case of as an impressive failure as they get from the Internet bubble times of the early 2000s.

Similar to Prodigy I discussed in the past, WebVan also erred on the side of too much too early, although its game was over much quicker. Offering users the possibility to do all their grocery shopping online in 1999 was a precursor new business model in the retail industry then, as it still remains so to this day. But WebVan founders did not stop there – they wanted not only to be an online Wal-Mart, but also to combine the capabilities of a Fed-Ex and an Amazon all in one as well. The company managed to convince several investors about its idea feasibility and assembled over $800M in investment from both venture capital and an early IPO in 1999. However, the good fortunes and investor credibility did not last long – by July 2001 the company was bankrupt and had to fire all of its 2 000 employees.

As discussed when teaching this case, several lessons can be learnt from both WebVan’s ambition and the execution thereof. The below video of their distribution center in California gives a more tangible idea about both:

Today, 15 years later, it is still difficult to encounter perfect grocery shopping solutions online, although several companies are experimenting with new business models in this space. One successful model has been pioneered in Sweden, where customers are not only offered their grocery shopping, they receive a full bag of ingredients with cooking instructions for their working week. This model has been penetrating Europe through different shapes and forms, with HelloFresh in the UK or QueRico experimenting in Spain.  On much lower scale and with much fewer fixed costs, maybe these models will be more successful where WebVan’s Napoleonian vision failed before?

Business Models and Ecosystems, What Is the Link?

I have recently finished reading Ron Adner’s book on ecosystems, the Wide Lens.  As luck would have it, during one of my research presentations on business models, an audience member asked me to clarify the difference between business models and ecosystems.  I found it an interesting question, and that is what I will attempt to answer in this post.

Ron’s main argument in the book is that in order to innovate firms have to apply a wide lens,  not only considering their customers’ needs and implementing their ideas well, but they also have to be aware of what their complementors and competitors are working on – that is considering the whole ecosystem instead of looking only at their own strategy.  Ron used several examples of innovation failures that I found useful and informative – for instance, he explained how Michelin failed to implement new run-flat tires, or how Nokia rushed too quickly with the launch of its first 3G phone.  Here is a video where he explains what happened to Michelin:

Interestingly, Ron also used several successful (or expected-to-succeed) examples about which I also talk in my business model classes such as Apple, M-Pesa, and Better Place.  So coming back to the original question of this post – what is the difference or the link between business models and ecosystems?  Basically, Ron’s point is that ecosystems matter in today’s business world.  The premise is also similar in the business model research – given the more complex world we live in today, more novel business models are introduced in addition to simple product innovation seen in the past (Zott and Amit, 2010; Teece, 2010).  Whereas ecosystem research takes the “wide lens”, business model research keeps the strategic focus on the focal firm.  Although the assumptions are similar, the locus of attention is different in these two burgeoning research streams.

How to attract resources?

One of the pressing questions for any burgeoning entrepreneur is how to attract the oh-so-needed resources for her venture?  Family and friends are the usual suspects, but often it is far from enough.   In the entrepreneurship research, two answers focus around symbolic management and bricolage before turning to the “real” investors such as business angels or venture capitalists.

Symbolic management is basically about using symbols to persuade your audiences about your credibility and legitimacy.  Why should your future customers, partners, or employees trust a newly minted start-up with a lot of ambitions and a laptop?  An office in a good neighborhood, a suit for the occasion, an award or a good recommendation can all do the trick.  Being skillful in symbolic management might be very helpful if other resources are missing, argue Chris Zott and Quy Huy in their research on the topic.

Taking a different road, Nelson and Baker picked up the old Levi-Strauss concept of bricolage and wrote a compelling story about how entrepreneurs can use various scrap resources to fulfill their needs at much lower costs than you would expect.  These are people that refuse to accept limitations their environment puts on them.

Finally, when talking about resource mobilization in the classroom, I use the following video by Amanda Palmer, who has her own very personal view on the topic – and some advice to share as well, especially given her recent successes raising money (a lot of money!) on Kickstarter for her own entrepreneurial projects.

Learning from Failure

I am thinking about developing a course or at least integrating cases into my current teaching to explore failure, in contrast to the more often touted successes.  Failure is one of the understudied areas in academic research in general, and entrepreneurship in particular, despite its recognized prevalence throughout business history.  Although it is well-known that many entrepreneurs fail, as usual understanding why this happens is the interesting challenge.

When presenting my research on business models, I discuss several examples of less successful companies – Prodigy is one of them.  Result of a joint venture between IBM, CBS, and Sears founded in 1984, the company was a predecessor to what became known as the Internet portals fifteen years later.  Beginning in the 1980s it offered its customers such services as weather, news, banking, electronic commerce, email, and message boards, similar to the concurrent Minitel proliferation in France.  My first contact with Internet actually occurred through a Prodigy account when I was a high-school exchange student in Florida.  I was very far from realizing then the impact this new technology would be having on the world as we knew it for the years to come.

Prodigy erred on the side of “too much too early” though – customers were not ready to buy on the Internet in the 1980s, they thought they might actually be paying a premium for buying online, transactions over the Internet were not secure, “shopping cart” was not yet introduced to the online world (Amazon came up with that 10 years later), and overall legitimacy of the Internet was very low during those days.  Unfortunately for Prodigy and their pioneering technology, the innovation failed to adjust to customer needs and understand how exactly various services such as email might be used.  Despite investment and managerieal effort, the company lost its first-mover advantage.  Hargadon and Douglas (2001) discuss this example in more depth.

Other cases of failure that might be interesting for entrepreneurship students to examine are the cases of Internet start-ups such as WebVan, ChemDex, or Boo.com.  HBS cases are available about the first two, and can be discussed profitably in the classroom.  More interesting thoughts about entrepreneurial failure in the recent post by Andrew Hargadon here.

Switzerland, that Small and Hilly Country (2: Nespresso)

The other “Swiss” case that I teach, in addition to Swatch, is the Nespresso Story.  Although, again, this case involves a new product, the Nespresso machine and its capsules, it also contains elements of business model innovation, imported by Nestle to the coffee industry from other spheres.  Nespresso capitalizes on the well-known business model called razor-and-blade model, practiced for instance by Gillette: the Boston-based company has been selling razors at cost while making its profits on the blades.  Other companies have used this strategy, such as printer firms, known for making their profits on the ink cartridges rather than on the printers themselves.  Apple has applied this model “in reverse”, when through the creation of iTunes it made its iPod sales explode.

But who was the first one, the originator? A difficult question to answer in the business world, where imitation thrives in the same industry or across industry boundaries.  In my genealogy of business ideas, I go back all the way to George Eastman.  When he invented first the film roll and then the Kodak camera, he commercialized the new product with an astute and innovative business model: the camera was preloaded with film for 100 exposures, sold to customers, who then had to send the whole camera back to the company to have their prints developed, new film inserted, and the camera shipped back to the customer again (Chandler, 1977: 297). “You press the button, we do the rest” the advertising slogan in 1888 ran.  Thus, Eastman figured a way for Kodak to have a continuous revenue stream, based not only on selling the new product, camera, but on supplying film and developing pictures for its customers.

Similarly, Nespresso sells its machine at cost, while making most of its profits on the capsules.  An ingenious system, for which the first patent was deposited in 1974.  Interestingly, it took the company until 1995 to break even on this R&D project, that first catered to the restaurants, then tried its luck with the office market, before turning to the households as the last resort to sell the new machine.  Although slow, the success has crowned Nestle’s R&D efforts with this “skunk works” project.

Today, Nespresso faces new challenges, due to its success – imitation.  It first started with Senseo, developed by Philips in 2001 for the mass-market, and has continued since, especially annoying for the Nespresso model being companies attempting to supply capsules that can be used with the existing Nespresso machines.  For instance, banking on the Nespresso capsules being made from aluminium and not that environment-friendly, Ethical Coffee Company, led by one of the Nespresso’s own ex-employees, tries to sell recyclable capsules, while ridiculing Nespresso for going to court to try to stop them:

Who is right, who is wrong in this case?  Difficult to decide, but the message remains clear: if successful, any innovator has to carefully consider and anticipate how to prevent imitators from appropriating value from the original innovation.