207. The Business of Tech: introduction to business model innovation

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Episode Transcript

Venture Capitalist Fred Wilson, said “I believe business model innovation is more disruptive than technical innovation.“ In this episode, you will learn the framework for how technology changes business models and creates millions and billions in value.

Hello smart people!

How are you today?

I am in London, and even though it’s supposed to be summer, it’s cold and people are wearing coats and sweaters. I have decided that this is divine punishment for Brexit, which is totally deserved.

In this episode, we are going to cover the most prevalent business models that tech companies use today. And, you’re going to see that they don’t only apply to tech companies: these models are as old as business itself, but tech has enhanced them, and I’m going to show you how that happens.

This will give you a framework for analysing and understanding a business: you will be able to see what it’s original business model is, and where the innovation is.

This is useful if you are going to do any serious work with a company. For example, if you’re going to take a new job, you should understand how the company functions and what its vision is. You are tying your life with it, to some extent.

This also goes for working with a new client. The more you understand them, the better advice you can give them.

And for the founders and investors listening to this show - if you don’t understand the business model and innovation you’re dealing with, well, then you’re in real trouble.

Today’s episode is going to feel a bit like a business school class, and you might want to take notes. If you are on the road, you can get the transcript on the web page for this episode afterwards, and just highlight the key points. The transcript is in the the show notes for this episode.

Let’s begin with a quote from Fred Wilson, a renowned and very successful (i.e. very rich) venture capitalist in New York City says “I believe business model innovation is more disruptive than technical innovation. “

An interesting view, don’t you think?

And now, let’s look at the Holy Grail. Which company has both technical innovation and business model innovation?

Can you guess?

Apple!

What does Apple have in terms of technological innovation? The iPhone obviously, the iPad (which none of us knew we needed until Steve Jobs told us), and the App Store.

And now let’s look at their business model innovation:

They make money through the app store by charging a fee of any transaction within it. They also sell their hardware products, like iPhones, EarPods and so on, and Apple products are not cheap. And, Apple also charges you to use the cloud to store all those photos that you’ve taken on your iPhone!

Once a user enters the Apple ecosystem, they usually don’t want to leave. An iPhone is often a gateway drug to a Mac, and then a desktop and then the whole product suite.

You see what happens when you have business and tech innovation in one? One of the world’s most valuable companies.

An now, lets talk about business models.

There are, broadly speaking, 4 types of business models, and here they are:

1. Product
2. Service
3. Matchmaker
4. Multisided platform

Let’s see how they worked before digital technology came along.

In Biblical times, a product based business could be a bakery. A baker makes bread, you give them your coins and then you get the product, i.e. bread, in return.

Pretty simple.

A service, before the digital age, could be a lawyer. You rob a bank, you get caught and you need somebody to defend you, so you hire a lawyer. And yes, I am still watching Money Heist on Netflix and it is excellent.

What’s a matchmaker before the Digital Age? Exactly what you think! It is a person who finds candidates to marry, for those in the marriage market.

A multisided platform business is one which facilitates transactions between two or more groups. Newspapers are an example, relevant today and before the Digital Age, because they connect readers, advertisers and publishers in one. Also, stock exchanges are another example, because they connect buyers, sellers and brokers.

There are lots of ways to make money in these four core business models, and we won’t go into all of them today, because this is a podcast episode, and not an audio book. But here’s an example: in your product business, you either sell it, or lease it.

For example, you could build houses to sell them, or you could build houses and rent them out to people.

So now that you’ve learned about the four prevalent business models

• Product
• Service
• Matchmaker
• Multisided platform

Let’s discuss how digital technology can be used to enhance them.

I like this definition of business model innovation from Prophet, a brand consultancy set up by Scott Galloway:

“Business model innovation is the creation of outsized value – in the form of market share, margin and defensibility.”

This means that with digital technology you can take an age old concept, and grab more market share and build bigger moats, and thus create an enhanced version of the old concept. Sort of like a business on steroids.

Let’s go through this in order of what it takes to create business model innovation: market share, margin and defensibility.

For market share: let’s take the matchmaker, and see what the likes of Tinder and Bumble have done to it. Matchmaking was previously a hyper local service before tech, and now it has gone truly global. If you have ever used the travel feature on a dating app, you will know what I mean.

The shareholders of Tinder are thus able to make a lot more money than the shareholders in a local match making agency.

Now let’s take margin: digital technology allows businesses to make bigger margins, which then allow them to make bigger profits, which they reinvest into the business, and grow even more. This becomes a flywheel that builds a company that nobody can compete with.

What does that sound like? Meta and Alphabet!

They are both hugely profitable companies that now control the advertising market. Meta and Alphabet are both multisided platform businesses, and thanks to digital technology, they have massive scale and very high margins.

Did you know that if you were to raise money from venture capitalists for your consumer venture, 40% of that cost would go to advertising on Meta and Alphabet, i.e. on Facebook and Google?

This means that all the other ad funded businesses are struggling, so if you have an idea for an ad funded platform, or want to invest in one, please be careful.

And now let’s take the third component of business model innovation: defensibility.

Another word for the defensibility of a business is moat, as in the water you would have around your medieval castle. A moat makes your castle defensible because other people can’t get it easily.

In business, a moat means that other people can’t copy you easily.

So how does digital technology allow us to build a moat?

I actually gave you an example earlier on in this lesson. You know when I said that the iPhone is like a gateway drug to other Apple products, and once people are on Apple, they usually don’t go back to PC?

That is an example of a high switching cost, and that is a moat. Once you are in the Apple ecosystem, and your phone, your laptop, and your desktop, and your watch are all synched to each other, you won’t want to buy a device that won’t be able to speak to that system (unless you’ve decided to start a secret double life).

This makes Apple super defensible, which is also an innovation of a business that originally started as just hardware products.

And with this, my dear smart listeners, I’ve just taught you the recipe for innovation. This is it: take the four business models I’ve given you and ask yourself how you could use technology to reach scale, increase margins or make them more defensible.

And this, my dears, is the business of tech.

So, literally, take a product business, anything from a bakery, to a clothes store, to an oil company, and ask those questions: how you could use technology to reach scale, increase margins or make it more defensible.

You could do the same with a service business, and ask: how could we use technology to make this law firm reach scale, increase margins or be more defensible?

The same questions work for matchmaking businesses and multi-sided platforms.

You now have a framework to think about business model innovation in the Digital Age. Isn’t that cool?

This will give you a myriad of ideas for how to invent something new, or how to infuse innovation into the traditional business you’re working in.

Now, when people are talking about innovation, and start-ups, you can totally hold your own, and understand what they are talking about and reverse engineer a new business invention.

This is a very valuable skill, my dear smarty pants, so you may want to listen to this episode again.

And, if you found this episode useful, which I assume you did because you are still listening, then please leave this show a rating and a review.

Not only will this be super helpful to me, but it will also help other people like you to discover this show.

And, if you have smart friends, who are interested in innovation and having great careers in the Digital Age, please share this show with them. Literally, just send one person a message on WhatsApp today and suggest that they listen to Tech for Non-Techies, it might be exactly what they need to help them win that tech client, ace a job interview or prepare for an investor pitch.

And on that note, thank you very much for listening and for paying attention. You’ve invested in your career today, and you should feel really proud of yourself.

I am proud of you!

Have a wonderful day, and I shall be back in your delightful smart ears next week!

Ciao!