As bestselling author Michael Lewis once aptly wrote, a business model is a work of art, and, in much the same way that a creator needs to consider angles, originality and message – while staying true to their original vision – it is the responsibility of an entrepreneur to produce their own masterpiece.
Luckily, there are many different types of business models. Some of these have changed the game forever, while others are attempting to be the most successful prototype to emulate. Regardless of their track record, though, the best business models don't just consist of selling a product or service and making a lot of money; believe it or not, there is a bit more finesse to the process.
Types of Business Models
If you are unsure which one is right for your business, we’re here to advise; here are 11 of the best models for your business:
1. Cash Conversion Cycle
Otherwise known as a cash business machine model, a cash conversion cycle (CCC) is the number of days that it will take for a company to convert investments in inventory, resources and other factors into positive cash flow from sales. Essentially, this is when a company reports a minuscule profit margin but still manages to transform the marketplace.
There are two factors to consider in this business model:
- Positive Cash Cycle: The time inventory in accounts receivable is longer than it takes to pay the supplier.
- Negative Cash Cycle: Generate revenue before it is required to pay suppliers for inventory.
- Pro: Depending on the state of your cash cycle, it could be an interest-free method of financing operations through borrowing from suppliers.
- Con: Again, depending on the state of your cash cycle, your business might lose revenue and market share and could displease creditors.
A subscription-based business model consists of charging customers a monthly, quarterly or annual fee to gain access to a service. So, instead of selling individual goods or services to customers, your business will establish a subscription and obtain members who will receive regular deliveries of your products or services, preventing the frustration of routine searching and buying. The likes of Spotify and Netflix have reinvented this model to great success in recent years.
Examples: Netflix and Costco
- Pro: A subscription allows your business to develop better cash flow projections; a predictable income enables the company to better manage investments, opportunities and operations. Also, the subscription model forces the company to focus most of its efforts on customer service rather than just the product.
- Con: You may face cancellations from subscribers who lose interest, meaning you constantly need to reinvent or supplement your product.
3. Bait and Hook
Popularised in the early 20th century by King Camp Gillette, the razor and blade pricing and revenue-generating approach is ubiquitous in the consumer goods industry, as well as in the video games sector. Essentially, it means that your company sells a dependent good at a loss, but generates profit by selling paired items or supplies.
Examples: Gillette (razor handle and razor blades), Microsoft (Xbox console and video games) and Hewlett-Packard (printer and ink)
- Pro: The main advantage is producing customer loyalty by emitting an illusion of higher psychological switching costs. So, Xbox One users may not want to switch to another console because they have invested $70 on a video game, while Gillette users may have paid $10 for a handle and don't want to waste that investment.
- Con: The risk is that your primary product (razor) is not selling enough, which means your complements (blades) are also not selling. Ultimately, your bottom line suffers.
4. Reverse Razor and Blade
The reverse razor and blade business model is similar to the bait and hook strategy but utilises a slightly different tactic. Your objective now is to get customers to make an exorbitant one-time purchase of a premium product and then buy secondary items at a low cost. This is also known as “owning the consumer” – a successful strategy for Apple.
- Pro: Client loyalty is the most crucial aspect of this business model because customers are making an expensive upfront purchase. Therefore, they feel that they need to justify their investment.
- Con: Your product's high price might turn off prospective customers at the entry point, preventing them from making that giant leap into your wider brand.
Let's face it: middlemen add costs to every step of the business process, from manufacturing to shipping to distributing. This is why several successful companies have decided to ditch the middleman and sell directly to customers – an effective move, in many cases.
- Pro: You work directly with the consumer, which many customers prefer because they get to meet the supplier; with intermediaries, this rarely happens. Your firm also increases its control over how goods and services are marketed, delivered or displayed in stores.
- Con: Selling direct might save the company money, but the unintended consequence is that it could increase internal costs by creating more work for your employees, resulting in extra staff and more paperwork. The other issue is that your distribution and marketing channels are significantly reduced, putting the onus on your business to search for new exposure outlets.
A freemium business model includes providing basic services for free, then offering a paid premium if customers wish to take advantage of additional features and functions. As a sneak-peek into what you offer, a freemium model can be a great way to entice customers to your brand. You just need to ensure that you exceed expectations with your free service that can then encourage them to pay the extra fees.
Example: LinkedIn and Slack
- Pro: This is a superb marketing tool – and it is free! People are always attracted to free, so you shouldn't have any trouble pulling in prospective users. You can also receive product feedback to improve future use.
- Con: Unfortunately, at the same time, people might have a negative connotation to the word 'free'; it might convey the message that your service is subpar or you are desperate. Also, if you do not have the workforce, then you might be overwhelmed by the number of non-paying users.
7. Product as a Service (PaaS)
Market trends among the millennial demographic suggest that consumers do not want to own things, but rather to rent them instead. Companies are noticing this and adapting by selling a service that the product performs, rather than the product itself.
- Pro: Typically, companies that employ PaaS business models will rely on monthly memberships, which will provide better cash flow projections and a steady income (similar to the subscription model). Also, there is very little overhead, adding more to your bottom line.
- Con: A small business might need much capital to purchase the equipment necessary to use as services.
8. One for One
New studies have found that consumers are more likely to buy products from companies that give to charitable causes and, while most organisations donate to non-profit organisations, this approach is a viable business model in itself. For every product sold, your business donates another product to a charity, meaning that you turn a profit while doing some good for the world.
- Pro: You are generating long-term publicity for your brand and might even take advantage of tax breaks.
- Con: Customers might be turned off by the initiative for being insincere or too much of a sales gimmick.
9. Low Touch
It might seem counterintuitive, but you can actually make more money by offering reduced service. This isn't being contrarian, either; the main benefit of a low touch business model is that it slashes prices - a significant point for consumers.
Examples: Amazon, Ikea and Walmart
- Pro: The main benefit to a low touch approach is that it is scalable, meaning that your business can withstand greater pressure or handle a bump in business. Because you do not need to manufacture your own product to turn a profit, your business does not have to concentrate on assembling, displaying or expensive overhead.
- Con: Entry to the market can be difficult because big companies already dominate it. Your company would need to maintain a customer service system for both buyers and sellers, which would weigh heavily on your operating expenses.
10. User Community
While it might serve a niche segment of the marketplace, the user community business model can be successful in driving widespread brand loyalty. This method maintains a vast network and grants members access to the ecosystem for a fee.
Examples: Angie's List and Upwork
- Pro: An effective network can generate more revenue per customer and boost retention rates.
- Con: It can be a public relations nightmare when users commit fraud or abuse the system.
Dropshipping has become one of the newest and most exciting business models around, likely due to its low-risk, high-reward nature. It works by locating a list of suppliers to offer products for your website to market and sell, but when a customer buys the item, it is shipped directly to the shopper without you ever having to see, touch or stock it.
Examples: Alibaba, Oberlo and Spocket
- Pro: This business model comes with minimal startup, order fulfilment and overhead costs. It is considered one of the best business models because of its scalability.
- Con: The shipping process can be complicated, mainly because there are multiple layers and plenty of inventory hiccups.
Finding the right business model depends, of course, on the product or service that your business offers, but that doesn't mean you have to adhere to the tried and tested. Dropshipping, for instance, was almost unheard of ten years ago, but technological advancements have now made it a standard operating model.
The key is to understand your target market and identify trends. Therefore, always ensure that you do your market research before you commit, and continuously assess and re-assess what you can offer consumers beyond your product.
Don't be afraid of reassessing your model if circumstances change, either. Many successful organisations have torn up their playbook and pivoted to a different approach, so if you see an opportunity further down the line that may require changing your model, then don't be afraid to do so!
What is your preferred business model? What works for you? Share your thoughts in the comment section below.