What is a Business Model?

The term business model refers to a company's plan for

making a profit. It identifies the products or services the
business plans to sell, 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 staff.
Established businesses
should regularly update their
business model or they'll 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
 A business 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 of a business model are pricing and costs.
 When evaluating a business model as an investor, consider
whether the product being offer matches a true need in the
market.
Understanding Business Models

A business model is a high-level plan for profitably operating

a business in a specific marketplace. A primary component of
the business model is the value proposition. This is a
description of the 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.
Successful businesses have business models that allow them
to fulfill client needs at a competitive price and a sustainable
cost. Over time, many businesses revise their business models
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 tell you everything
about a company's prospects. But the investor who
understands the business model can make better sense of the
financial data.
Evaluating Successful Business Models
A common mistake many companies make when they create
their business models is to underestimate the costs of funding
the business until it becomes profitable. Counting costs to the
introduction of a product is not enough. A company has to
keep the business running until its revenues exceed its
expenses.
Evaluating Successful Business Models
One way analysts and investors evaluate the success of a
business model is by looking at the company's gross profit.
Gross profit is a company's total revenue minus the
cost of goods sold (COGS). Comparing a company's gross
profit to that of its main competitor or its industry sheds light
on the efficiency and effectiveness of its business model. Gross
profit alone can be misleading, however. Analysts also want to
see cash flow or net income. That is gross profit minus
operating expenses and is an indication of just how much real
profit the business is generating.
Evaluating Successful Business Models
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. Both actions increase gross profit.
Many analysts consider gross profit to be more important in
evaluating a business plan. A good gross profit suggests a
sound business plan. If expenses 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.
FASTFACT
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 are
types of business. For instance, direct sales, franchising,
advertising-based, and brick-and-mortar stores are all
examples of traditional 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.

-R E T A I L E R-

One of the more common business models most people

interact with regularly is the retailer model. A retailer is
the last entity along a supply chain. They often buy
finished goods from manufacturers or distributors and
interface directly with customers.
Example: Costco Wholesale
-M A N U F A C T U R E R-

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, retailers, or
directly to customers.
Example: Ford Motor Company
FEE-FOR-SERVICE

Instead of selling products, fee-for-service business

models are centered 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
-S U B S C R I P T I O N-

Subscription-based business models strive to attract

clients in the hopes of luring them into long-time, loyal
patrons. This is done by offering a product that requires
ongoing payment, usually in return for a fixed duration of
benefit. Though largely offered by digital companies for
access to software, subscription business models are also
popular for physical goods such as monthly reoccurring
agriculture/produce subscription box deliveries.
Example: Spotify
FREEMIUM

Freemium business models attract customers by introducing

them to basic, limited-scope products. Then, with the 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 hold.
Example: LinkedIn/LinkedIn Premium
BUNDLING

If a company is concerned about the cost of attracting a

single customer, it may attempt to bundle products to sell
multiple goods to a 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 straight-forward: 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

Affiliate 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 good, and that entity
often receives compensation in exchange for their promotion.
That compensation may be a fixed payment, a percentage of
sales derived from their promotion, or both.
Example: social media influencers such as Lele Pons, Zach
King, or Chiara Ferragni.
RAZOR BLADE
Aptly named after the product that invented the model, this
business model aims to sell a durable product below cost to
then generate high-margin sales of a disposable component
of that product. Also referred to as the "razor and blade
model", razor blade companies may give away expensive
blade handles with the premise that consumers need to
continually buy razor blades in the long run.
Example: HP (printers and ink)
REVERSE RAZOR BLADE
Instead of relying on high-margin companion products, a
reverse razor blade business model tries to sell a 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 at a 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-go business model where the
amount charged depends on how much of the product or
service was used. The company may charge a fixed fee for
offering the service in addition to an amount that changes
each month based on what was consumed.
Example: Utility companies
BROKERAGE

A brokerage business model connects buyers and sellers

without directly selling a good themselves. Brokerage
companies often receive a percentage of the amount paid
when a deal is finalized. Most common in real estate, brokers
are also prominent in construction/development or freight.
Example: ReMax
BUSINESS MODEL VS BUSINESS PLAN:
WHAT’S THE DIFFERENCE?

There’s a big misconception about

the whole business model vs. business
plan debate because both terms have
been wrongly used. Today, we’ll look
into what they’re really for and why
they’re needed for the business.
“A goal without a plan is just a wish,” wrote famed
French author and aviator Antoine de Saint-Exupéry.
These words ring especially true in modern business
planning. As an entrepreneur, planning is a skill that
can help ensure your success.
Business models and business plans are both integral
aspects of starting a business. But what are the
similarities and differences between the two, and when
is the right time to think about each for your company?
Here’s a breakdown.
Business Model Vs Business Plan:
What’s The Difference?
Business Model Vs Business Plan:
What’s The Difference?
A business model is a company’s core
framework for operating profitably and
providing value to customers. They usually
include the customer value proposition and
pricing strategy. A business plan outlines
your business goals and your strategies for
achieving them.
The two documents have a few
critical differences, namely
their structure and application.
But the topics they deal with—
such as a company’s finances,
goals, and operational
framework—are largely the
same.
FINANCIAL PROJECTIONS
•How they’re similar: Both business models and
business plans provide an in-depth description for
how a company will generate profits.
•How they’re different: A business plan includes
financial performance details relevant to both
internal and external stakeholders, such as
investors, lenders, or potential business partners.
Alternatively, a business model describes your
value proposition—what product or service a
business will offer and why customers should buy
it—as well as the target market.
OPERATIONAL DETAILS
•How they’re similar: Both business models
and business plans include overarching
information about how a company plans to
operate, including components such as
distribution channels and management
structure.
•How they’re different: Business models
explain the fundamental structure of a
company, such as how it plans to create and
deliver value to customers, while business
plans get into the actionable details of how to
achieve a company’s operational goals.
Purpose
•How they’re similar: Business models
and business plans are used to outline the
goals, strategies, and operations of a
business.
•How they’re different: A business plan
generally incorporates a business model,
explaining how the model should be
implemented and executed to achieve the
business's goals.