282 Chapter 19 · Digital Business Models
n Learning Objectives
After completing this chapter, you should be able to:
5 Use the business model canvas to model digital businesses.
5 Use the stakeholder relationship model to model network effects in digital indus-
tries.
5 Explain the business model of some popular digital services, including World of
Warcraft, Spotify, Facebook, Wikipedia, and Airbnb.
19.1 Modeling Concepts
Business modeling as a tool for strategic business analysis was developed in the
beginning of the twentieth century. One of the rst business models was the
“bait- and- hook” business model, in which a basic product is rst offered for free
or for a very low price, while necessary add-ons are sold for a high price. One
example is the razor (bait) and blades (hook). Another example from the digital
economy is the Adobe PDF software suite, in which the software needed to read
PDFs is free (bait), while the software needed to generate a PDF is expensive
(hook).
Leading developers of new business models in the twentieth century include
companies such as Ford, Toyota, Wal-Mart, FedEx, and Dell. Dell revolutionized
the way computers are sold to customers by bypassing retailers. Customers place
the order directly with Dell who assembles the computer and ships it directly to the
customer (just-in-time production). This business model was enabled and fueled
by the mass adoption of the Internet. A common feature of these new business
models is that they often exploited breakthroughs in novel technologies.
A business model describes how an organization (or company) creates, delivers,
captures, and keeps value (Ovens, 2015). The model consists of items such as:
5 How the organization earns money and controls expenditures
5 Economic and organizational aspects of the organization
5 Competition and market evolution
5 Interrelationships between the organization and its customers, key partners,
and other stakeholders
Business models are used as a strategic tool to identify key aspects of an organiza-
tion’s business operations, that is, the most important logics and operations that
the organization relies on to earn money. The main purpose of a business model is
to describe the current state of the organization. However, business models are also
used as input to identify key strategic actions required for competitive evolution of
the organization. The business model may be detailed and contain every aspect of
the organization’s business operation. It may also be used to analyze and describe
only parts of an organization’s business operations. Business models can be applied
to all kinds of organizations.
19
19.1 · Modeling Concepts
283 19
De nition 19.1 Business Model
A business model describes how an organization creates, delivers, captures, and
keeps value.
In the de nition of business model, the concept of value appears. Value, in this
context, is an abstract concept comprising more than just the monetary value
of a product. Value might, for instance, comprise new features enabled by novel
technologies, improved performance, exclusive design, and usability of the prod-
uct. The core of a business model is the value that the organization creates. An
organization can justify its existence by creating value, delivering value to cus-
tomers, and supporting ef cient mechanisms for gaining revenue from the value
created. In addition to this, the organization must also defend this value from
competing organizations. This may be called the business process as de ned in
7 De nition 19.2.
De nition 19.2 Business Process
The business process consists of the following elements:
5 The organization creates value by solving problems or satisfying customer needs.
A manufacturer of mobile phones may offer a low-cost mobile phone to people
with slender means and expensive mobile phones with exclusive design and addi-
tional features to techno-freaks. Built on the same basic technology, the manu-
facturer may then satisfy several user segments at the same time.
5 The organization delivers value to the customer through either physical or digital
channels. Value delivery in this context refers to how the organization transfers
the value created to the customer. An example of value delivery is to ship a pur-
chased mobile phone to the customer via postal services. Another example is to
update the phone by downloading new software.
5 The organization captures value when its customers pay for the good or reward
the organization by other means. The revenue covers costs and creates pro t for
the organization. An example of captured value is payment for the mobile phone
and fees for using particular features such as apps.
5 The organization keeps value by, for example, improving the design and func-
tionality of the product and by mechanisms protecting against competition. Pro-
tection mechanisms are lock-in of customers to products or services that are
dif cult to copy, protecting the product by copyrights and patents, or selling it
for prices that cannot be matched by competitors.
A digital business model is a business model applied to digital goods or services.
Digital business models are facilitated by the widespread use of the Internet, mobile
technologies, smartphones, and fast and small computers. As digital technologies
284 Chapter 19 · Digital Business Models
mature and become adopted by the population, novel business models that build
on these technologies are created; for example, a completely new market for app
design emerged after the 4G mobile technology was introduced in 2010. This may
lead to market disruption where new business models may replace existing ones or
create entirely new markets (Christensen, 1997). One example is the app market
just mentioned. Another example is the music industry which has been radically
changed after the introduction of small and powerful music devices (e.g., the iPod)
and online streaming services (e.g., Spotify).
Example 19.1 Funcom’s Business Model
Funcom is a Norwegian company developing video games, known for titles such as
Anarchy Online (2001), Age of Conan (2008), and The Secret World (2012). At its peak
in 2008, Funcom had over 680 employees in several countries. The company focused on
developing big games with large budgets, thereby competing with successful and market-
leading games such as Blizzard’s World of Warcraft.
The year 2012 was critical for Funcom. The company launched the game The Secret
World with little nancial success. Funcom had to cut its staff by several hundred people.
The Secret World did not attract as many players as expected. One of the most important
reasons for this was the choice of business model. The Secret World was initially using a
subscription-based business model. This was, in part, inspired by the success of the busi-
ness model of Blizzard’s World of Warcraft. Blizzard had already used the subscription-
based business model successfully from the launch of World of Warcraft in 2004.
However, in 2012, many computer gamers switched to a free-based business model used
on most games available on social media networks such as Facebook. Users did not
accept to pay a monthly fee for playing a game anymore. In the end, Funcom had to
change the business model on The Secret World from subscription-based to buy-to-play
to align with market and user trends.
Recent years have witnessed an increased complexity of business model designs.
This is primarily due to globalization and widespread competition, more complex
and re ned technologies, extensive use of ICT, and more complex organizations. A
digital company need not own the goods they are selling as exempli ed by the busi-
ness models of eBay, Airbnb, and Uber. The business model of these companies is
to offer a platform for mediation between buyers and sellers of tangible or intan-
gible goods—eBay does not own any of the physical goods they are selling even
though millions of items are sold through eBay every year. Airbnb is the world’s
largest hospitality service without owning any hotels or property. Uber provides
ridesharing services without owning any cars.
The business of connecting customers or different user groups is perhaps the
most important contribution of ICT in business modeling. This has similarities to
the transition from business models for value chains to business models for value
networks. While the best way to model companies in the industrial economy is the
value chain, the best way to model companies in the digital economy is the value
19 network (see 7 Chap. 8). The business model of a company may also need revi-
19.2 · The Business Model Canvas
285 19
sion and updating over time and must sometimes be completely rewritten due to
changes in customer behavior, social trends, economic boundary conditions, and
technological evolution. Failure to update business models may result in reduced
pro ts and, eventually, bankruptcy.
19.2 The Business Model Canvas
Alexander Osterwalder proposed the business model ontology as part of his Ph.D.
thesis in 2005. Later, this business model ontology was re ned to become the busi-
ness model canvas (BMC) (Osterwalder & Pigneur, 2010). The BMC is a framework
for describing business models. It can be applied to all kind of businesses, includ-
ing digital businesses. The BMC is based on describing nine central building
blocks of a business and modeling the relationships between these building blocks.
. Figure 19.1 shows an outline of the BMC and how the BMC is visualized in this
book. The different building blocks in the BMC are described in . Table 19.1. The
BMC has been applied to several digital businesses to uncover business operations
and relationships between stakeholders. In addition to the BMC, there are several
other frameworks for describing businesses. These frameworks focus on slightly
different aspects of the business operations of a company; however, they mostly
agree on the core concepts of the business model.
The nine building blocks of the BMC can be divided into three groups: value
proposition, value turnover, and value generation.
Customer
Key activities
relationships
Value Customer
Key partners
proposition segments
Key resources Channels
Cost structure Revenue streams
. Fig. 19.1 The business model canvas. (Authors’ own gure)
286 Chapter 19 · Digital Business Models
. Table 19.1 The nine building blocks of the BMC. (Authors’ compilation)
Building Description
block
Value Describes the values and bene ts created by the organization that are offered to
proposition one or more customer segments. The value proposition may comprise one or
several different propositions targeting different customer segments. The value
proposition describes the goods and services that the organization produces and
delivers to customers, as well as the bene ts that customers get by buying them
Customer Identi es one or several customer segments targeted by the organization’s value
segments proposition. Different customer segments may have different roles in the BMC
Channels Describes how the value proposition is transferred to the customer segments
Customer De nes the organization’s relationship with the customer segments
relation-
ships
Key Describes the key activities needed to create and offer the value proposition
activities
Key Classi es the key resources needed to support the key activities and to create
resources and offer the value proposition to the customer segments
Key Identi es the key partners required for creating and offering the value proposi-
partners tion to the customer segments
Cost Identi es the elements that contribute to the cost of the organization, including
structure the cost of the various key activities
Revenue Describes how the different customer segments contribute to the organization’s
streams income
Value proposition is the core building block of the BMC. The advantages of
well-de ned value propositions are:
5 Upholding a clear focus on the fundamental activities of the business
5 Identifying and maintaining any core competencies that the company may pos-
sess
5 Precise targeting of the production toward products that the users will have
and, thereby, avoiding production of goods that nobody will buy
5 Willingness to change direction as processes, technologies, and products are
substituted by new ones
5 Willingness to change direction based on feedback from the users as the market
evolves
5 Effective marketing that focuses on user needs and user satisfaction
5 Creating customer con dence in the product
5 Understanding how and why the product creates value for the users
19 Value turnover includes four building blocks: customer segments, channels, cus-
tomer relationships, and revenue stream. These building blocks describe how the
19.2 · The Business Model Canvas
287 19
organization disseminates its value proposition to the customers and how the cus-
tomers generate revenues for the company.
Value generation includes the building blocks of key partners, key activities,
key resources, and cost structures. More speci cally, it describes what is needed in
terms of resources, activities, and partners to create the value proposition and the
costs associated with these activities. Value generation should also specify—either
directly or indirectly—the value model (see 7 Chap. 8) used by the company and
whether the platform is single-sided or multisided (7 Chap. 10).
The BMC of speci c organizations is a thorough description of each of the
nine building blocks and the relationships between them. . Figure 19.2 shows an
example of these relationships.
The steps in the analysis are as follows (the numbered list refers to the numbers
in . Fig. 19.2):
1. The analysis starts with de ning the set of value propositions the organization
delivers to the customers. This includes the goods and services that the organi-
zation delivers and the value and bene ts they may have for the customers.
2. Identify the various customer segments and the value proposition each segment
receives.
3. Describe how the product is provided to the identi ed customer segments
through speci c channels, for example, over the Internet or by postal services.
4. Describe how customers directly and indirectly generate the revenue stream for
the organization, also including customers or users receiving the product for
free (i.e., those with zero average return per user (zero ARPU)) because their
contribution may be signi cant through indirect revenue channels.
5. Identify the relationships between the organization and the customers.
Key partners Key activities Value proposition Customer Customer
relationships segments
6 5
9 Key resources Channels
1 2
3
7
Cost structure Revenue
streams
4
8
. Fig. 19.2 Relationships between the building blocks in the BMC. (Authors’ own gure)
288 Chapter 19 · Digital Business Models
6. Identify the set of key activities that are required to create and support one or
several value propositions.
7. Identify the key resources required for these activities and for other purposes.
8. Determine the costs associated with key activities and key resources and the
overall cost structure of the organization.
9. Identify strategic relationships with one or several key partners to support or
contribute to the value proposition, key activities, and key resources.
The BMC is used to model high-level abstractions of an organization’s business
operations. For two different organizations doing business in the same business
domain, there might be small differences in the resulting BMC. However, even a
small difference in the BMC of two organizations—for example, if one of them is
using the core competencies in a smarter way—may render the business operations
of the two organizations radically different. If the BMCs of the two organizations
are identical, there is a motive for the organizations to reconsider the BMC to cre-
ate signi cant differences in their business operations to distinguish it from that of
the competitors.
To gain a strategic advantage, it is often enough to focus on one speci c build-
ing block in the BMC. It is seldom necessary to redesign the business model com-
pletely to differentiate itself from the competitors. This may be a critical issue if the
value proposition offered by a company is a commodity. In that case, price may be
the only parameter that distinguishes the competitors.
Successful business models may change over time—what turned out to be a suc-
cessful business model 5 years ago may not be a successful business model today.
The reasons may be technological development, altered competition arena, new
user demands, and different market behavior. Technological developments may
render a business model obsolete.
19.3 The Stakeholder Relationship Model
The relationships between an organization and its stakeholders are important
aspects of its business operations. The stakeholder relationship model (SRM) iden-
ti es key stakeholders engaged in the organization’s business model and the inter-
actions that the organization has with these stakeholders. Stakeholders in the SRM
are the organization itself, customer segments, and key partners. The customers
and the key partners are identi ed and described in the BMC as explained above.
Relationships de ned in the SRM can, for instance, be exchange of assets (e.g.,
services, value, or money), formal agreements, network effects, or other dependen-
cies between the stakeholders. . Figure 19.3 shows the notations used to visually
model the SRM.
One key relationship between stakeholders is network effects (see 7 Chap. 9).
Network effects can either be positive or negative. The SRM models three dif-
19 ferent kinds of network effects between two stakeholders, A and B: (+/+), (−/−),
and (+/−). The (+/+) network effect means that stakeholder A induces a positive
network effect on stakeholder B and vice versa. Users in a telephone network have,
19.4 · Digital Business Models
289 19
Notations used in the SRM
S1 Stakeholder with name ’S1’.
... Group of identical stakeholders with
S1 S2 Sn names ’S1, S2, ..., Sn’.
Text Relationship between stake
holders with description ’Text’.
Network effects between stake
(+/+)
holders indicating positive (+)
or negative (-) network effects
. Fig. 19.3 Notations used in the stakeholder relationship model. (Authors’ own gure)
for example, a positive network effect on the other users in the network. The (−/−)
network effect implies that stakeholder A has a negative network effect on stake-
holder B and vice versa. One example is highway traf c in which each car has a
negative network effect on other cars on the same road because of potential traf c
congestion and increased probability of accidents. The (+/−) network effect means
that stakeholder A has a positive effect on stakeholder B, but stakeholder B has
a negative effect on stakeholder A. One example is commercials on television: the
number of viewers has a positive network effect on advertisers that want a large
audience for the commercials, while advertisements interrupting the ow of the
program have a negative network effect on the viewers.
The SRM supplements the BMC by visualizing the relationships between the
organization and other stakeholders. One important purpose of the SRM, espe-
cially for businesses in the digital economy, is that it illustrates the network effects
that may modify the competitive strength of the organization. Sometimes, these
network effects depend on each other and induce positive feedback that adds to the
complexity of the business model.
19.4 Digital Business Models
In a digital business model, the value proposition is related to a digital good or ser-
vice. Typical examples include the business models of Facebook, Spotify, Twitter,
Wikipedia, Microsoft Windows, and Skype. The de nition also includes the busi-
290 Chapter 19 · Digital Business Models
ness models of sharing services—such as Uber and Airbnb—since the platform
that enables mediation between buyers and sellers is digital. Platforms used for the
sale of tangible goods—such as Amazon and eBay—are also examples of digital
business models.
Every digital good or service is associated with a unique business model. For mul-
tisided platforms, for example, Facebook, it may sometimes be convenient to specify
more than one business model. Facebook may have one business model for attaching
users and another business model for capturing advertisers and other stakeholders
buying access to data Facebook collects about the users. In this case, there is a strong
relationship between the models because of strong cross-side network effects.
De nition 19.3 Digital Business Model
In a digital business model, the value proposition is a digital good or service.
7 Case studies 19.1, 19.2, 19.3, 19.4, and 19.5 present ve examples of digital
business models that have had a substantial impact on the evolution of the digital
economy: World of Warcraft, Spotify, Facebook, Wikipedia, and Airbnb. These
examples represent different types of business models since they exploit the various
fundamental properties of the digital economy differently. . Table 19.2 summa-
rizes the business models according to type and the most fundamental properties
exploited by the particular digital service. Note that the business models presented
in the case studies do not represent an exhaustive list of all business models avail-
able for digital services.
. Table 19.2 List of presented business models. (Authors’ compilation)
Digital Type of business model Payment method Fundamental
service properties exploited
World of Subscription All users pay a fee for Zero marginal cost,
Warcraft using the service network effects
Spotify Freemium Some users get the service Long tail, network
for free. Other users pay effects
for using the service
Facebook Ad-based free The social network service MSP, zero ARPU, zero
is free. Advertisers pay for marginal cost, network
user-targeted ads effects
Wikipe- Commons-based peer No fees for readers and Public good, CBPP,
dia production authors. Revenues based MSP, zero ARPU, zero
on donations marginal cost
Airbnb Multisided digital Users pay for the MSP, network effects
mediation platform mediation services
19 supporting non-digital provided by the platform
service
