The search for a profitable and sustainable digital business model that is easily scalable is a bit like searching for the Holy Grail. Hundreds of incubators have already been set up for this purpose, i.e. business incubators for technology-oriented, innovative start-ups. Start-ups have been and are being founded, supported, acquired, and established companies set up Innovation Labs or incentivization schemes for intrapreneurship.

Time is pressing. Because the economy is changing into a digital economy, into a platform economy, into a data economy. And the rules of the game are also being completely rewritten in sectors such as the automotive industry. Traditional companies such as Volkswagen have to completely reinvent themselves as software-centric companies.

So, how can you create a digital business model, that works and generates sustainable profits? This blogpost provides orientation and a methodological toolbox. It is divided into three parts: In the first part, we provide a brief overview of the criteria for a good digital business model. In the second part, we then go on to outline some central principles for the development of a digital business model. And finally, in the third part, some methods or guiding principles for idea generation are explained.

Part 1: Criteria for a good digital business model

To this end, we take a look around the digital industry – especially at Silicon Valley and the large US digital companies: Google. Paypal. Facebook. Apple. Microsoft. Amazon Marketplace. Amazon Web Services. AirBnB. These companies are highly profitable and have a sustainable business model.

But for some companies the hype has given way to bitter disillusionment (even for companies from the “Valley”). UBER for example. If one leaves aside the company’s advertising messages, what remains is a company that runs an ordinary taxi business, with one difference only: The entire responsibility is outsourced to the drivers (i.e.: a business model “light”). The software / technology is no rocket science, the IPO was a flop and the competition with established taxi service providers as well as with competitors à la Lyft or Via is wearing the company down financially. In 2018 Uber made a loss of about 3.3 billion dollars – against the backdrop of 11.3 billion in sales. In the last quarter of 2019, the loss was still close to $1 billion. How Uber is to earn money ever is still unclear today.

Another fallen star is WeWork, once set out to stir up or “hack” the office letting market – as they say in Silicon Valley. The self-confident founder Adam Neumann had billions behind him and bought up countless properties. From the beginning, it remained unclear what was actually disruptive about WeWorks’ business model: Office space is rented for the long term and leased at higher prices in the short term – this business model was known and in practice before. With one difference only, WeWork re-labelled its service, namely as “Workspace as a Service”. This labeling fraud has now been exposed at the end of 2019, and the company’s valuation fell from 47 billion to less than 10 billion. By the way, shortly after the turn of the millennium there was a company with a similar story: Regus: When the bubble burst, parts of Regus had to file for bankruptcy.

Let’s look at this through analytical glasses: First of all, there is always the question Is there already a market or do you need to create this market in the first place? Apple, as we know, brought created the smartphone market into being with the iPhone, while Uber has entered a market that already existed. But sometimes the distinction is not so easy to make:

Of course, there is a mobility market. Right. But what about car sharing? Well, car sharing also serves the need for mobility, but it is a market of its own that is subject to completely different rules as compared to the market for privately used cars. And it is questionable whether this car sharing market has (or will ever have) an interesting, relevant size. Let’s take Germany as an example: It is a fact that the car sharing vehicle population in Germany only accounts for 0.04 percent of the total vehicle population, and many companies have become disillusioned and withdrawn from this market because they do not earn money. Mazda is out, Citroen is out, Opel is out, and the joint venture between BMW and Daimler has also cut back its activities considerably.

Let’s look at another market: Smart Home, which some analysts also see as a major future market. But here, too, it is unclear how big this market will really become and whether smart home products will satisfy sustainable customer needs. The publicist, trend and future researcher Matthias Horx, for example, has set up a “Future Evolution House”, which you can visit at www.zukunftshaus.at. Matthias Horx writes disillusioned in one of his recently published books: “In my experience, increasing home automation creates a displacement feeling. One suddenly feels homeless, superfluous. An automated home is characterized by the fact that it can function autonomously. It actually doesn’t need the human being any more.” And further: “Smart Homing is actually a function for lonely people. For people who live alone and have too much to do to really be at home.”

Conclusion: We therefore do not know whether the growth forecasts for the smart home market will materialize as promised.

Other markets are a thing of the future and do require yet a technological quantum leap. The best example is again the mobility market. The Futurist and Google’s Director of Engineering, Ray Kurzweil, predicted that we’ll see autonomous vehicle on the streets in the year 2009. He postponed that breakthrough to the year 2017, however, autonomous vehicles won’t become a reality on our streets within the next few years. It will require another dozens of billion in tech investment – there’s even a couple of sceptics who wouldn’t bet a 10-dollar note on the autonomous car hitting the streets within the next 20 years.

Now that we have taken a somewhat anecdotal look at the digital industry and its markets, we can draw an initial conclusion for a good digital business model: first, there is a market with a relevant size; either an existing market or a future market. Second, the digital offer is superior to existing offers, and at the same time this superiority is relevant and recognisable to the customer.

Third, there is an advantage over competitors or it can be developed in such a way that it creates (long-term) barriers to market entry. This can be of a technical nature, for example through a patent. Or a lock-in effect: Once a customer has decided on a provider, the switching costs are prohibitively high. In many cases, however, what counts most is speed, the ability to scale and to occupy a market very quickly. The best example is AirBnb. Fourth, the business model should be profitable. This seems like a no-brainer, however, allow me one question: How could WhatsApp monetize its offering in such way as to justify the gigantic purchase price of $19 billion (Facebook, in 2014)? Sure, there is a market for WhatsApp, it is superior to other offers and has developed a market position that is hard to catch up with. But it does not earn money, not a single Dollar, at least not yet. Analysts assume that Facebook actually only wanted to neutralize a competitor who threatened the business model of Facebook – just as a side note.

Many business models today aim to establish long-term access to the customer, to become the gatekeeper to the customer. Customer access is the key asset of these business models – the product itself becomes a commodity. This can be easily understood, if you look at the retail trade, where supermarkets like REWE, Edeka and Co. are increasingly putting their own brands on the shelves. Who ultimately supplies the commodity (be it corn or cheese) is not visible to the consumer, and the actual suppliers are completely interchangeable and are also replaced if/when prices and conditions no longer suit the retail chains.

Amazon Marketplace plays a similar game. It has established the brand as the #1 eCommerce platform, that snatches 50 percent of eCommerce Sales in the whole of Germany.

Part 2: Basic rules for setting up a new business model

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Let us now look at some general principles for the development process of a digital business model. You should, first, initiate a systematic idea collection process. Because if you are counting on having the Eureka moment one day in the shower or while jogging, you will most likely be disappointed. For sure, innovation management is worthwhile an article series of its own, however, I would like at least like to deliver some thoughts: You may benefit from a systematic idea collection process orchestrated by a software, such as Innolytics, which allows the collection of ideas throughout the company and feeds these ideas into a feedback process. It also allows ideas to be efficiently evaluated and channeled through a milestone based decision making process. Regardless of the use of an innovation software, it is important that participants in the idea process discuss and develop existing ideas at regular intervals, and decide on measures to further validate an idea and put it into practice.

A second principle for the development process: A new digital business model should be aligned as closely as possible to your own existing customers. A common mistake with new business models and start-ups is to grossly underestimate how difficult it is to win (new) customers. You will mitigate this by tailoring a digital business model to (or at least close to) your existing customer base. Another advantage of such approach is your ability to quickly set up pilot projects and receive feedback for a business idea very fast. You’ll be able to run your new digitization ambitions by the motto: Fail fast, Fail cheap.

However, you should not assume too early that an idea is either good or bad. Anyone who enters the market with a new business idea must be prepared to adapt an idea every day, and to look for incremental or bigger improvements every day. Again, this sounds trite, however, but did you know that Amazon Marketplace is also the evolutionary result of constant development: It started with Amazon Auctions, but this would only convince a few customers. Next, this eventually developed into zShops, which was a fixed-price version of Auctions. As the expected results had not been achieved, another re-alignment resulted finally in Amazon Marketplace. And this is known to be very successful.

Fourth, some ideas just don’t work (even after several rounds of improvement). Even Google Glass did not work, the social robot JIBO failed, the game console and set-top box Pippin of the Apple group and the Fire Phone of the supposedly infallible Amazon group flopped. Therefore, it makes sense to build up a portfolio of ideas and put several candidates in the race, knowing that not every project will reach the finish line.

This leads, fifth, to the recommendation: You need a certain tolerance of frustration. If you want to build a new company, you need to be prepared to take risks, you need stamina, emotionally and financially. Here you have to manage expectations right from the start, a business plan is a best guess, not a prediction of the future.

Part 3: Guiding principles for idea generation

Next: Methods for the development of a concrete business idea or Guiding principles for idea generation. I would like to point out at the outset that a method such as Design Thinking does not compete with these guiding principles, it is complementary: It’s a toolbox that will allow you to further develop the ideas into a marketable product.

Let’s get to the first guiding principle of idea generation:

Create an additional digital benefit for an existing product

This sounds banal, of course, but it is of course an essential part of an overview of the sources of inspiration for business model development. It is also a starting point for brainstorming, which inevitably arises from the second general principle of business model development (Namely, stay as close as possible to your own existing customers!)

And this source of inspiration is almost inseparably connected with the question: What improvements and additional benefits can be achieved with a new technology? So, let’s start out from a technology and evaluate for our own core market or for a product which added value can be created using this technology. What can I use drone technology for? What about Pattern recognition using artificial intelligence? Voice recognition? Internet of Things? 5G? To name only the most important core technologies of the current digitalization wave.

For some companies it is easy to add digital value to existing products. For other companies, however, this task is a real headache, let’s take a look at a few examples:

If you are a machine construction company, then a digital business model just falls into your lap: Namely the installation of a production control station or predictive maintenance.

A law firm seeking a digital business model has to try harder. Of course, there are already projects that make the consulting process itself more efficient, in that semantic analyses of legal texts and court decisions relieve lawyers of time-consuming research work. But, of course, this is not a new business model, but rather a digitalization and acceleration of existing processes. What else comes to mind: Law firms can advise on digital products and ensure that they are compliant with GDPR, for example, and for advising software companies the wide field of copyright law and open source licenses is added.

What else? – It helps to look at the mission of the law firm on an abstract level, such as: Our mission is to establish legal conformity for our clients and to exclude legal risks. For example, all companies with 50 or more employees will soon be obliged to set up a whistleblower hotline. And this is by no means trivial, since full anonymity must be guaranteed, the service must be available 24/7, and so on. This regulation provides some opportunity, a law firm could offer a digital product using Natural Language Programming, which fulfills exactly this legal obligation in the future at mid-sized costs. This is precisely what a digital product would be, which supplements the existing product portfolio of legal advice in a smart way.

Let us take a look at the second guiding principle for idea generation. This, again, looks a no-brainer at first glance, but can turn out very promising.

Transfer a functioning business model into a niche market or into your own market

For example, many companies are now trying to implement the “marketplace” principle in their own industry. This applies to the insurance group Allianz as well as to the optics group Carl Zeiss with the platform apeer.

But be careful: Let us take a look at the business model of AirBnB and the underlying principle of sharing. The same principle in the car market has so far only worked to a limited extent – unfortunately, it has to be said: I already mentioned it – many players are withdrawing from the car sharing market because they do not earn money with it – at least not so far.

For some business ideas it may also be advisable to avoid markets where you enter into competition with the big, billion-dollar marketing machines from Silicon Valley. This worked out nicely for the Samwer brothers, who implemented the eBay business model on the German market and finally sold their CopyCat named Alando to eBay for 50 million. It did not work out so nicely for the project gloveler, a rooming house broker like AirBnB, which had to file for bankruptcy after a few years; After all, US players often have investors worth billions on board and run marketing campaigns worth billions, and on a global scale (“Blitzscaling”).

But, of course, there are such niches: The largest global eCommerce Player for Music equipment and instruments, for example, is not called Amazon, but Thomann (in Bavaria / Germany). Try Amazon for advice on headphones for your music composition software. Then you will know why.

I was speaking about “transferring a business model” to your own market / industry. This can be understood in a broader sense. The business model Hello Fresh, a supplier of cooking boxes, can also be understood as a culinary variant of IKEA: It’s all about providing a kit, it’s all about doing it yourself, with instructions.

Let us now come to the guiding principle of idea generation #3:

Use market and business process analysis: How do markets work, where are there inefficiencies, what are the trends in these markets? Which needs are being satisfied and which are not?

This is a very analytical approach, because it is about dissecting markets and their players and the underlying business processes. It is about better understanding the structure of needs, the dependencies on decisions of the players and the weaknesses of existing offers.

Why is the Taxi App successful? Does it make such a big difference whether I make a quick call or call up my app? Yes, it makes a huge difference. It starts with comfort: The APP can determine my location, payment becomes easy. In the “pre-digital world” I had to find out about my pick-up address, then collect cash when leaving the cab. The “Digital approach” also eliminates the risk of the taxi hotline getting my address wrong; and – on top of all that – once the data has been generated automatically by the APP, it can also be further processed by an algorithm that optimally allocates incoming data from travel orders to the free and vacant taxis.

There are still a number of markets waiting for intelligent solutions. To name just one example: Parking management in cities. Anyone travelling by car in Berlin or Munich knows what I’m talking about. A digital offering could consist of, first, creating transparency and, second, of allowing parking spaces reservation.

What does the status quo look like? There are various parking providers, ranging from hotels with underground garages or parking spaces in backyards, we have corporations like APCOA that manage parking garages, and – most important – there are parking spaces on public roads that belong to the municipality. The first challenge is to create transparency about free parking spaces: This may still be easy for parking spaces in hotels or car parks, but I am not aware of any practicable concept for parking spaces on public roads. Part of a thorough market analysis would be to establish a good understanding of interests of local authorities (what’s their position on Park&Rail, what’s the stance on flexible pricing depending on demand, etc). You see: There is an unsatisfied need, which is connected with a high willingness to pay. An exciting problem. Maybe this is a challenge you’d like to take up?

If you are doing a market analysis, you should pay special attention to changes and trends. For example, we are experiencing a shift from stationary trade to online trade, what does that mean, what are the consequences? To what extent can this result in opportunities for a new business model? Well-known effects include: The inner cities are becoming emptier. And the volume of parcel deliveries is increasing. This is exactly where the StartUp PAKADOO comes in; Pakadoo is a digital solution with which employees can receive their private parcels officially at the company – a win-win-win situation for parcel delivery staff, employees and even the company.

By the way, if you need a seismograph for changes, you can certainly access trend studies and analyst papers. However, a look at social media can also sharpen your understanding of developments and needs: Social media and platforms such as Quora are often digital letterboxes for complaints or – to put it more academically – resonance rooms for unsatisfied needs. And crowdsourcing platforms are also interesting in terms of the search process for digital business models. A lot can be learned here. Some time ago I saw an interview with the author Jordan R. Peterson about the genesis of his bestseller “Twelve Rules for Life”. In the interview he described how he answered a few questions on Quora out of interest, rather in a playful mood, he then received a lot of positive feedback on some of his answers, deepened the topics and finally transferred them into the successful book project.

However, these platforms are of course problematic with regard to the competitive situation, because the feedback is of course obtained at the price of disclosing one’s own ideas.

Let me conclude with a refreshing success story. In 2007, an American named JUSTIN had the ideas to strap on a camera and stream his daily routine to a website; that sounds like a crazy idea after a party night in a drunken stupor, and it certainly was. But Justin was amazingly consistent and so the live streaming site Justin.tv was born. And from then on Justin’s everyday life was streamed live for the whole world to see. What Justin and his friends discovered on day: Whenever Justin sat at his gaming PC, participation / attention of the audience was particularly high. And it was precisely this observation that was finally commercialized, the offer that is now known as Twitch was created in 2011: On this platform gamers can stream their game, they become so-called “streamers”; and in a chat window viewers can communicate with the streamer, fan communities arise; this principle has been extended beyond gaming: In August 2019, for example, Porsche celebrated the premiere of the Porsche 99X Electric with almost one million spectators. In short: Twitch is the result of a market observation, a need for community became visible, which was the starting point for a very successful business model.

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.