Building a business model is not an easy task. The elements or components of a business model must be carefully chosen so that it knits well into the business fabric. In a popular book by John Mullins and Randy Komisar titled: “Getting to Plan B: Breaking Through to a Better Business Model”, the authors have presented an easy at the same time seemingly robust and close-knit framework to spawn equally robust business models. See how this framework evolves:
Framework for Business Model
Adopting an approach based on economic process, Mullins & Komisar prefaces their model with the following definition of business model: “By business model, we mean the pattern of economic activity cash flowing into and out of your business for various purposes and the timing there of that dictates whether or not you run out of cash and whether or not you deliver attractive returns to your investors. In short, your business model is the economic underpinning of your business, in all of its facets”.
In support of this definition they introduced five elements that should be incorporated in a business model framework as building blocks. Every element is built in such way as to find the economic result and to inter-relate with other elements. Not only that, in each element we find sub-domains that tend to answer questions related to financial and cash-flow viability so that taken as a whole we can pass judgement as regards to company’s present and future performance. The elements are: revenue model, gross margin model, operating model, working capital model and finally investment model.
1. Revenue Model: Under this lamb, the targeted or segmented customer is identified along with his specific needs. Products/services are lined up to satisfy these needs. Thereafter, the revenue model deals with the features of the customer purchase patterns by answering questions such as how often, how soon at what price the customer wont to buy. At each iteration, the purchase system highlights the amount business receives from a buyer at that instance and the forecast sales on a future date.
Along with pricing dynamics this component also relays the cost of acquisition and maintenance of a customer pool. Predictably, a revenue model projects a firm’s income and profit potential at a particular operational level. Simply put, it is monetizing the products and services a business offers detailing what income is earned in a particular scenario.
2. Gross Margin Model: The second element of the Mullins & Komisar model deals with cost of sales and gross profit received from a specific product and across the board from a line of products. In this limb, both product mix and margin generated are compared and contrasted to arrive at lead product that remains a cash cow.
3. Operating Model: Anchored on the inter-play between fixed and variable cost third component spotlights the operating profit in terms of value, volume and percentage of turnover. What money must be spent to support the sale is the cardinal question for which this limb seeks answer. Operating profit has much to do with determining break-even level at a particular operational level and this fact must be interwoven during analysis.
4. Working Capital Model: Mapping relationship between current assets and current liabilities is the threshold of working capital model. How much and of what percentage of current assets are invested in the form of inventory, receivables and cash is looked into. On close examination, the model can trace how a business optimizes cash-flow to and fro working capital. Besides, the efficiency of the working capital in fuelling the sale is another salutary feature.
5. Investment Model: Technically, the investment model is only concerned with the amount of cash invested in a new business till such time it makes the profit which is the subject of the foregoing four components. In other words, at what point a business breaks-even from the vantage point of capital invested originally. This is fairly of static and locked-out nature. In order to circumvent this quagmire, it is suggested that once a business is on-going, analysis under this limb must be extended to include the net profit after tax for each fiscal and investigate how the net margin works as return on equity and return on turnover. Moreover, the amount paid out to the shareholder by way of dividends or retained earning must be subjected to scrutiny. Relatively speaking, the risk shareholder undertakes need always be remunerated by way of adequate returns.
Muthu Ashraff
Business Adviser
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