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Developing New Business Models: An Interview with Mark Johnson: Mark Johnson talks with Jim Euchner about business model innovation and how to make it work in large corporations.

Mark Johnson is a senior partner and co-founder of the management consultancy Innosight. His new book, Reinvent Your Business Model, draws on his experience helping companies respond to disruptive innovation and enter new markets. In this interview, Johnson describes his four-box framework for business model innovation and talks about the challenges of doing this work in large corporations. He concludes with what he sees as the essential elements of a successful breakthrough innovation program in incumbent firms.

JIM EUCHNER [JE]: I would like to start our conversation with your new book, Reinvent Your Business Model. In the book, you make the point that business model innovation is more important today than it has been in the past. Can you say why? What's happening that's making that so?

MARK JOHNSON [MJ]: I think there are two main reasons. The first is the pace of technology development, which is what often enables new business models. For example, when Digital Equipment Corporation got disrupted by personal computers, the disruption was the combination of advances in microprocessor technology wrapped inside a new business model, which made computers affordable to individual consumers like you and me, and then to schools instead of just big companies and institutions. Technology is evolving at a more prolific rate today than at any time in history, and this is a major driver of business model changes.

The second reason is also tied to technology development, but it is very specific to the Internet. In fact, the whole idea of business model innovation really came to the forefront in the early dot-com era, when the Internet really started to take off and all sorts of startups were developing new business concepts that were energized or enabled by the Internet.

JE: It's a big driver. You also make the point in your book that industries evolve and shift their business models over time.

MJ: Industries evolve through shifts in the bases of competition. Early in an industry life cycle, companies compete on the basis of the functions and features and reliability of their products; then they move to making things more customized and more convenient for customers. Ultimately, they compete on the basis of cost.

We are living in what I call a convenience economy. People want things to be simplified and easier to access. When Apple created the iPod, it wasn't about designing a more elegant device than its competitors; the key to its success was the iTunes-iPod combination, which made listening to and downloading music super simple. Convenience and simplicity, along with the ability to drive down costs, are key drivers as companies evolve to compete in the convenience economy. This shift in customer focus is driving the need for new business models: a product alone, or a service alone, won't cut it.

JE: How does a company know that it might need a new business model?

MJ: The need to create a new business model is usually driven by new opportunities which may not fit your current business model. A company trying to serve a new customer needs to be open to the fact that serving that new customer might require not only a different product or service but also a different business model. Trying to serve the emerging middle class in developing countries, for example, where affordability and accessibility are an issue, is an area where new business models are usually needed.

New business models may also be required in an existing business that is maturing and facing commoditization, especially when you start to see overshoot, where innovations and new features aren't providing returns anymore. In these cases, customers are often complaining about high costs and unnecessary complexity, and then a competitor comes along with a value proposition that's completely different from anything else in the market. It's in those situations that I think companies may need to consider a new business model.

JE: The concept of a business model is vague to a lot of people. Can you define a business model for the readers in practical terms?

MJ: Absolutely. Part of the challenge of business model innovation is to have a common language, so that people can discuss it. This is a critically important point. People talk loosely about new business models, but they don't have a way to frame them, and so leadership teams may have different definitions in their heads for the same business model transition.

In a nutshell, the way we define a business model is that it articulates how value is created, delivered, and captured. The value is created for consumers by meeting unmet needs, or "jobs to be done." A company that solves important jobs to be done is delivering a new value proposition, certainly with a product or service, but also through the means of access, means of distribution, and means of payment that they employ. All of that comes together to form a value proposition.

The value the company captures based on the value it creates for customers is driven by what we call the profit formula. The profit formula is really comprised of the financial statements: the balance sheet and the income statement. Different business models have different overhead structures or different resource velocities, for example, which impact the way that money is made.

A third component of our framework is value delivery, the resources and processes that make up the business. Resources include both tangible and intangible assets--the people, the equipment, and so forth that are needed to run the business. The processes are the ways the company manages its operations.

If you put these pieces together, a business model can be defined by a four-box model (Figure 1): the customer value proposition, the profit formula, and the resources and processes. All four of these boxes are interdependent: if you change the value proposition, you have interdependency with the profit formula and the resources and processes. If you change a key resource, you may also have to change elements of the other boxes. Understanding this construct is the first step towards being able to identify the need for a new business model but also towards actually beginning to build one.

JE: Can you connect this model to the Lean Startup approach?

MJ: The last part of my book is called "Designing and Implementing a New Business Model." The whole idea of Lean Startup is the necessity of going to market and actually incubating a new business model, like a startup would do, including both the product and the business model. The goal is to get it right at a small scale before you actually scale up. This is because there is no way to know in advance what all the intricate pieces of the business model are that need to get fleshed out. It's only through empirical learning, through a process of trial and error, that the ultimate business model gets discovered.

Steve Blank, a professor at UC Berkeley and a serial entrepreneur, defines startups. (1) He says, "A startup is an organization formed to search for a repeatable and scalable business model." (2) I think that's a very good way to describe what is going on in the process of discovering and developing the right business model for a concept.

JE: One of the elements of the Lean Startup is the Business Model Canvas. (3) One of the issues I've had with that is that the pieces of a successful business model are actually very integrated--you can't piece them out into distinct sections in the way the Business Model Canvas does, and the canvas offers little guidance in how to connect those pieces. In your four-box model, it is the profit model that pulls all the pieces together. Can you tell people how the parts of your model work together?

MJ: Let me describe the process in general terms--where you start, and how the whole thing works in practice. To your point, you have to start somewhere. The first step is, obviously, a prospective customer who has a problem, or an unmet need, or an important job they're trying to get done. Defining this need is not simply describing it in terms of product or service attributes; it's trying to understand what the customer is trying to achieve as an outcome, as well as the experience that they want in the processes of purchase and use.

If there is an important job to be done, and if that job is not well satisfied by an existing product, then an innovator has an opportunity to ask if there is a way to address the customer's functional, social, and emotional jobs to be done through a new product or service. The first step is understanding that there's an important job to be done that's not already getting done in a satisfying way; the second is identifying a product or service that can serve that job.

Then you have to look at the broader business context. How do I need to distribute that product to customers to give them the experience they need in purchase and use? How might I structure the payments in such a way that it is going to be affordable to them? It may be a direct payment or a subscription model, or it may include financing; all of that is part of an overall value proposition. That's the top box of the four-box business model framework.

The next step is to ask yourself what resources and processes will have to be marshaled to support the value proposition and whether this is something new to your company. What do these requirements imply in terms of the cost structure? How much do you need to charge based on the cost structure required to support the resources you have to marshal to provide the value proposition?

You might approach it the other way as well. What is the lowest cost you can possibly achieve to deliver the value proposition? In the book, I gave the example of a product in India, where the constraint is price. In that case, you have to start with price and seek to build a financial model that supports that price; then you figure out how to develop the resources and processes that create a cost structure that is profitable. And, of course, this is an iterative process. You might ask, based on the price you are able to charge and the resources that must go into the product or service, whether the offering will still be sufficient to get the unmet job done.

The way to wade into business model development usually follows this path: start with the jobs to be done, develop the product or service offering and determine the way the offering will be paid for, and then fill in the other boxes of the business model depending on whether you are trying to create a differentiated product or service, or a low-cost product or service, or something in between.

JE: You mention archetypes of business models in your book. Is that a concept you find useful for developing a business model?

MJ: I think so. There are just so many interdependent pieces that a bit of systems thinking has to go into developing a business model. Rather than having to invent everything out of whole cloth, having archetypes--such as a subscription business model or a freemium model, where you give things away to ultimately upcharge on the product--helps. Those examples can spark ideas about how you can develop different components of the business model, so I do think it's effective.

JE: It's interesting. For years there really weren't that many different business models out there. There were probably a few dozen archetypes. But the Internet and social media have spawned so many distinctly new models.

MJ: Yes, absolutely. There is no need to reinvent the wheel. Many of these business models can be emulated, or imitated, for different applications.

JE: I found that to be true at Goodyear. Finding people who were doing something similar to what we were attempting in the tire business gave us an idea of the critical things you have to manage in order to be successful.

How can you tell the difference, as a practitioner trying to manage the introduction of a new business, between a good business model and a weak business model?

MJ: The critical elements of a good business model are, first, that it drives a compelling value proposition. The more important that job to be done is, and the greater the degree to which it's unmet, the greater the opportunity. If you have an offering that can address the unmet jobs, and you deliver it at the lowest price, and you are able to do so at a relative advantage to alternatives--not necessarily similar offerings, but alternative ways of doing the job today--that's very compelling. That is the first order of what creates a compelling business model.

The second measure of a good business model, of course, is whether it drives significant value capture. As we saw in the dot-com era, you might be serving customers but not making any money. That's not sustainable, needless to say. The more strongly the business model captures value, the stronger it is. That's the second piece.

The third piece is sustainability: how strong is the configuration of the resources and the processes that deliver the business model? How consistent are these elements in providing that value proposition? How scalable is the model?

JE: You do a lot of work with established incumbents. What's different, in your view, about creating new business models inside an established organization versus in a startup? What's easier? What's more difficult? What's different?

MJ: I think the biggest challenge for established corporations, whether they understand it or not, is that they are already operating under a successful business model or set of business models. That success creates rigidity in the ability to create new business models. In fact, to date, there are very few examples of corporations creating one new business model innovation, let alone a series of business model innovations. The exceptions are Amazon and perhaps a couple of others.

To be successful at this, you need a long-term strategy. What constitutes "long-term" is dependent upon the company and its industry, but you need an aligned and committed long-term strategy to be successful. That strategy not only drives the core business, and defines what it needs to do in the future, but it also imagines what new kinds of opportunities are out there that might give a reason for business model innovation in the first place. Often, large companies don't have the commitment to business model innovation because they don't have a strategy behind it.

The second thing you need for success is the realization that you have to create a separate structure to incubate and scale a business model--a separate venture with the right kinds of people and the right kinds of measures for success. Many companies don't have the right venture leader, or they don't have the right governance structure. It is important to create the right degree of separateness in structure to enable new business model innovation.

The last element for success is the right innovation process. You need something more like the Lean Startup concept, which is more about testing and learning and less like a traditional Stage-Gate product development process. Many companies don't have the right processes in place to iterate, discover, and develop the business model over time. A correlate is that they often don't have the patience for the process, because the measurement system they use doesn't allow enough time to develop the new business model.

JE: I would like to step back for a minute and talk about the example of Amazon. I think Amazon follows the model you talk about. They're very customer focused, and when they need to be, they are very flexible with respect to business models. But if you look at their work, compared to that of many innovation groups, they focus a lot on the resources and processes and getting those right so that the business that they create is scalable. Do you have any insight that you would like to add regarding Amazon's approach?

MJ: One thing that Amazon has going for it is a visionary at the top, Jeff Bezos. That is both a strength and a potential vulnerability down the road. They are a founder-led, visionary-led firm, and that does a lot to enable the creation of new business models. They are also very long-term focused, rather than focused on quarterly results, and that allows them to have the patience that's needed to create new business models, which do take time. Finally, they're relentlessly outside-in, meaning very customer focused. They are always asking what it is the customer is really trying to get done.

Jeff Bezos said, '"Working backwards' from customer needs can be contrasted with a 'skills-forward' approach where existing skills and competencies are used to drive business opportunities. The skills-forward approach says, 'We are really good at X. What else can we do with X?' That's a useful and rewarding business approach. However, if used exclusively, the company employing it will never be driven to develop fresh skills. Eventually the existing skills will become outmoded. Working backwards from customer needs often demands that we acquire new competencies and exercise new muscles, never mind how uncomfortable and awkward-feeling those first steps might be." (4)

Jeff Bezos implemented Amazon's traditional book sales model, expanded into other products and services, and then developed Amazon Web Services and the Kindle, and has even gotten into digital media and content. All of those moves have been under the principle, first and foremost, of serving a customer in a way that's compelling, and then building the required capabilities and the business model behind it. Having that vision, having that focus on the customer, having that willingness to be patient and drive for the long term--those, I think, are the most essential tenets to being able to be a serial new business innovator.

JE: Do you have other examples? Everybody comes back to Amazon and Apple. Do you have other examples that you could talk about?

MJ: Sure. There are examples of companies that have successfully pulled off business model innovation. I wrote about a number of them in my book. Dow Corning, a specialty silicon manufacturer, introduced a low-cost business model to deliver no-frills silicon to customers that don't need the services of a specialty producer. Hilti is a small tools manufacturer that created a subscription service, together with a complete tool management program, to sell their tools as a service instead of a product; they manage tools and tool inventory for construction sites now. That's been highly successful. But each of these examples is kind of a singular example. Large, established corporations that repeatedly create new-and-different growth enabled by technology and business model change are rare. I'm not sure that I could name one beyond Amazon. I think Microsoft has turned itself around in large measure by being able to develop a new business model that supports the cloud. But examples of serial business model innovators to date are rare. That remains both the challenge and the opportunity for Fortune 500 companies.

JE: At the same time, business models are having shorter half-lives, so business model innovation is of increasing importance. How does the leader of an innovation function or a CTO get the attention of the CEO to address the issue?

MJ: There are two basic approaches: fear and opportunity. On the fear side, it's a well-founded concern that the half-life of existing business models is going down. You can see that by the length of time that companies spend as part of the S&P 500 before there's churn and other companies come on. So business model innovation should be on the agenda.

I also think that there has to be an understanding in companies of their longer-term "growth gap." For most businesses, there comes a time when the core business is insufficient to meet growth goals. To deliver against growth aspirations requires venturing into new spaces, and often those new spaces require a new business model. Focusing on the growth gap can be very effective.

It is useful, as well, to establish a common language for talking about business models. The four-box model helps. You need a common way to frame what a business model is in order to manage it.

Finally, it is important for people to understand the process for doing this work. New business model innovation is a learning process that requires test-and-learn cycles, with lots of iteration and discovery. This needs to be understood and harnessed in order for new business model innovation to be successful.

JE: In some companies, there's a sort of denial of a growth gap even after it is very evident one is emerging. People will assume that we'll turn around this division, we'll increase the profit in this segment, we'll penetrate new markets for this offering. The evidence doesn't support these assumptions, but people aren't willing to admit to the decline of the core. How do you help them do that?

MJ: I think the most important thing a CEO can do is to create enough space for the top team to think about the future more than just a couple of years out. He or she needs to make the space for the leadership team to understand the potential disruptors and how trends are driving toward a world that is not as rosy down the road as they might like. It is crucial to get the team to move past how much they think they can eke out performance over the short term and to help them get alignment around a core set of assumptions about the way the future is going to work and how the company is going to navigate that future.

We find that the recognition that there are real financial gaps emerging starts the conversation about the need to move beyond incremental innovation to more revolutionary, more breakthrough innovation. The top team is the only place that can give authorization to really begin changing the way the business works and provide the resource commitments to do it. Without the attention of the people at the top and the dollars that they can allocate to it, innovation is not going to go anywhere. I think the number one driver for getting organizations to wake up is through what we would call a future-back strategy process, to help that group get to a shared view that supports change.

JE: Can you say something about governance of these programs? What works in large companies?

MJ: The governance model that works best begins at a very senior level. We think about it as similar to a venture board, consisting of the CEO or the Chief Operating Officer, the head of a business division, the head of strategy for the corporation, and the Chief Innovation Officer, if such a position exists. They have to be senior enough to provide oversight and sponsorship and personal attention and put real money behind it. But these governance models are just developing; as I said, there are few companies that are good enough at business model innovation to do it repeatably. Hopefully, that will begin to change.

References

Johnson, M. W. 2018. Reinvent Your Business Model How to Seize the White Space for Transformative Growth. Boston, MA: Harvard Business Review Press.

Mark Johnson is a co-founder and Senior Partner of Innosight, a strategic innovation consulting and investing company that he co-founded with Clayton M. Christensen. He has been a strategic advisor to both Global 1000 and startup companies in a wide range of industries, and he has advised Singapore's government on innovation and entrepreneurship. His most recent work has focused on helping companies envision and create new growth, manage transformation, and achieve renewal through business model innovation, and he is a frequent writer and speaker on these topics. He is the author of Reinvent Your Business Model: How to Seize the White Space for Transformative Growth (July 2018) and coauthor of Dual Transformation: How to Reposition Today's Business While Creating the Future (April 2017). He has published articles in the Harvard Business Review, Sloan Management Review, BusinessWeek, Advertising Age, and National Defense. Mark holds an MBA from Harvard Business School, a Master's degree in civil engineering and engineering mechanics from Columbia University, and a Bachelor's degree in aerospace engineering from the United States Naval Academy. mjohnson@innosight.com

Jim Euchner is editor-in-chief of Research-Technology Management and Honorary Professor at Aston University (UK). He previously held senior management positions in innovation leadership at Goodyear Tire and Rubber Company, Pitney Bowes, and Bell Atlantic. He holds BS and MS degrees in mechanical and aerospace engineering from Cornell and Princeton Universities, respectively, and an MBA from Southern Methodist University. euchner@iriweb.org

DOI: 10.1080/08956308.2018.1516926

(1) Steve Blank discussed Lean Startup with Jim Euchner in the last installment of Conversations. See RTM 61, no. 5, pp. 15-21.

(2) See Steve Blank, "What's a Startup? First Principles," Steve Blank, January 25, 2010. https://steveblank.com/2010/01/25/whats-a-startupfirst-principles/

(3) See Alexander Osterwalder and Yves Pigneur, Business Model Generation: A Handbook for Visionaries, Game Changers, and Challengers (Hoboken, NJ: John Wiley & Sons, 2010).

(4) See Kevin McKeown, "Are You Working Backwards from Customer Needs?," Leadership Close Up, June 23, 2017. https://www.leadershipcloseup. com/2017/06/23/bezos-ceo-executive-work-backwards-customer-needsinnovate/

Caption: Mark Johnson helps companies respond to disruptive innovation and enter new markets with new business models.

Caption: FIGURE 1. The four-box model (Source: Johnson 2018)
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Title Annotation:CONVERSATIONS
Author:Johnson, Mark; Euchner, Jim
Publication:Research-Technology Management
Article Type:Interview
Geographic Code:1USA
Date:Nov 1, 2018
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