Casper is a mattress retailer based in Manhattan; in early 2019 it had achieved the rating of a Unicorn (namely $1.1 billion). And to dispel doubts about the disruptive nature of the company, the co-founder Neil Parikh had declared in 2016: “We see ourselves primarily as a tech company.” In the meantime, Casper has lost its Unicorn status, the company went public at the beginning of this year (February 7, 2020, NYSE), the valuation was halved. For the investors on the stock exchange, the company was not a high-tech company, but a mattress trader.

The term fake tech is circulating in the investor scene. These are – to put it casually – companies that give themselves the appearance of a disruptive business model spiced with New Tech, but on closer inspection this self-marketing proves to be a labeling fraud. Let’s take a look at this. What are real-world criteria for “real” digital business models?

Let’s start, first, with the simplest case, a digital business model in its purest form: A company with a product that is technology itself (vs. a company that “only” uses technology). What distinguishes these Digital Business Models: They can be scaled as desired, the marginal costs for each new customer are close to zero. Take the Google search engine: every additional user does not cause any additional costs. For the sake of accuracy, it should be pointed out that with higher access numbers, the server capacities must be expanded to process a higher volume of requests – yes, that is of course correct. However, such infrastructure can now be obtained as a commodity from public cloud providers such as AWS, Azure, etc. – scalability is not limited by this (but: the marginal costs here are strictly speaking not zero, but are approaching zero).

If you want to have this in absolute “pure form”, consider the Office suite from Microsoft or the Microsoft operating system (Windows): Every additional customer who uses the on-premise version (i.e.: downloads) does not actually incur any further costs here. For the cloud version, similar marginal costs are incurred in the same way as for the use of the Google search engine. Plug&Play software that does not require customizing and thus limits scalability (this limitation applies, for example, to ERP systems, whose introduction usually involves high customizing costs). This category of “pure play” digital business models also includes players such as TikTok (pure technology, highly scalable), web conference providers such as GoToMeeting or TeamViewer, Facebook or LinkedIn.

Let’s move on to the next category, second: companies that do not offer a purely “digital product”, but whose marginal costs tend towards zero. Let’s take the example of AirBnB: what the customer/user actually wants (and gets) is a place to sleep, or – to put it another way – a hotel room, and this is rented out cheaply by a private person. This is not a digital product. Of course, it could be argued that does not offer the room itself, but only the matchmaking service; and precisely this matchmaking service is a purely “digital product”. This logic is by no means wrong, but the fact is that the equation in the business model is changing. The risk profile of the business model is changing. Why?

Teamviewer must ensure that the quality of its digital product remains attractive, Facebook must ensure a high reach (success factor: network effect). , on the other hand, just like AirBnB or Lyft, do not offer the service themselves, but still have to ensure quality (answer: ratings), enforce compliance with promises, compete with established providers (local taxi companies, hotels) for an “old economy product” and: Platforms such as Uber or Lyft are technically by no means Rocket Science, the barriers to market entry are not that high; this means a much tougher competitive situation, because ultimately customers do not care whether they take a ride with Uber or Lyft, customers will go for the cheapest bidder. This explains why Uber and Lyft still have a dizzying cash burn rate.

Let us consider, third, business models of companies that have many “digital characteristics” but require significant capital investment. A good example is Amazon: It is clear to everyone that to enter the next geographical market, it is not enough to go live with a country-specific website and to place advertisements. It requires a sophisticated logistics infrastructure – and this need for massive investment has become transparent to investors only recently, because Amazon is investing billions to shorten delivery times; such a step has an impact on inventory (working capital), the density of warehouses and much more. If the number of customers increases significantly, investments in infrastructure are necessary (fixed costs / investments). Amazon has proven that it can scale, but the marginal costs for each new customer are not (close to) zero.

Amazon basically remains an intermediary platform (keyword: platform economy), very similar to AirBnB or Uber. Meaning: Amazon does not manufacture its products itself (apart from exceptions such as Echo, but that is a different business model). As an intermediary platform it needs reach (in Germany about 50% of eCommerce goes through Amazon or the Amazon Marketplace) and a good user experience (UX). This is an extremely sophisticated business model, as anyone who compares Amazon with other eCommerce providers can confirm.
Now let’s look at the last category of business models, four: companies with a non-digital product that these companies also provide themselves. A well-known example is the fallen star WeWork. The self-confident founder Adam Neumann had billions behind him, bought up countless properties. From the beginning it was not clear what was really disruptive about the WeWork business model: Office space is rented for the long term and leased at higher prices in the short term – this business model was already practiced for quite some time by Regus. This labeling fraud has now been exposed at the end of 2019, and the company’s valuation has fallen from 47 billion to below 8 billion.

Similar business models are also those of providers of “new mobility”, such as LIME, Bird, Animal, Voi. The product comes from the providers and is accompanied by corresponding capital investments. Each scaling requires further capital investment. The same applies, of course, to car sharing providers with their own vehicle pool (not for pure brokerage platforms such as getaround).

Sebastian Zang
Author

The author is a manager in the software industry with international expertise: Authorized officer at one of the large consulting firms - Responsible for setting up an IT development center at the Bangalore offshore location - Director M&A at a software company in Berlin.