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Selecting an Internet Business Model – Reflections on the Blurry Line between Internet Business Models and Strategy

In Advertising, Business Education, Business Models, Business Plans, DCU Business School, Dublin City University, E-commerce, eBay, Elearning, Entrepreneurship, GrooveShark, Groupon, Internet, iTunes, Microsoft Xbox, Netflix, Salesforce.com, Spotify, Subscription, Subsidy, Theo Lynn, Transaction, Two Sided Networks, World of Warcraft on September 18, 2010 at 11:32 am

Last week, I had the opportunity to spend a two days with my colleague, Dr. Laurent Muzellec, who is currently teaching in ESSCA while on sabbatical from DCU Business School. Laurent had asked me to give a guest lecture on internet business models to some of his ESSCA taking a course on “Web Business Models and Strategy”. Laurent has been involved with ESSCA for a few years and indeed his Lipdub exercise from a previous class there has gone on to epic proportions on YouTube and is now a best practice case of student marketing for higher education – see http://www.youtube.com/watch?v=Pw7t4f-ZV3E.

ESSCA, Paris

ESSCA, Paris

The topic was a curious one. As Laurent and I discussed it over dinner last Wednesday, it became apparent that much of what we know refer to as internet business models are influenced by concepts previously applied in the strategy domain – network effects (see Eisenmann et al for strategies for two sided networks), lock-in, switching costs, long tail (power laws), cost leadership, differentiation (and by extension, the economics domain) etc. As we discussed various perspectives and articles, it became apparent the line between internet business models and strategy is increasingly blurry. Should we define internet business models in the context of how a business creates, captures and delivers value or how it generates profits (implying revenue generation and cost management)? The former would seem to bleed in to strategy – after all many companies have the same business model but achieve different levels of success. I left Laurent’s apartment, very late, with my mind in flux to what I should present.

Luckily, Paris is the ideal place for burning the midnight oil…literally. I reviewed some old presentations and articles and found that many of the articles Laurent and I had discussed, although recent in academic terms, were clearly out of date already – they did not foresee the rapid rise and adoption of social networking and the increasing ubiquity of computing, bandwidth and storage. It is easy to forget that Google and Facebook are still relatively recent phenomena. However, the business models hadn’t changed as fundamental in the last 2-3 years as I had first thought – it was more that the adoptions weightings had. The core Internet models are still – transaction, subscription and subsidy models and you can find them everywhere and in particular in the content sector e.g. videogames (gamestop, world of warcraft, farmville) and music (iTunes, Spotify, GrooveShark).

Transactions are still the bread and butter of many of the big players – eBay, Amazon, iTunes although there are new flavours e.g. Groupon. As well as network effects, it seems to me innovation in transaction models over the last couple of years has related to assurance models. Central to eBay is its rating system and trust network which provides assurance on the provenance of merchants; to some extent PayPal provides assurance for both merchants and buyers on transactions. iTunes provides a technological assurance through FairPlay by limiting use of tracks on defined number of devices. Groupon provides a broker-based assurance by making sure merchants honour deals provided the minimum threshold is achieved. Interesting, microtransactions (where transactions are measured in cents not dollars) still have not caught on; although one might argue iTunes and indeed AdWords and other advertising transactions epitomise this model.

Salesforce.com remains the poster boy of enterprise subscription models, and in particular Software as a Service. Its achievement in reaching over $1bn in revenues is to be lauded. There is no doubt their business model is a benchmark for now and the future but for whom. Salesforce’ customer base is very specific – salespeople and their support staff turn over regularly, often work at home or on the road, need up to date data at all times etc etc. Employees in HR or Accouniting do not have the same profile. Nonetheless, many companies are trying to adapt their traditional packaged software model to SaaS. Earlier in the summer, IDC forecast that less than 15 percent of net-new software firms coming to market would ship a packaged CD product and by 2014, about 34 percent of all new business software purchases would be delivered via SaaS, representing 14.5% of worldwide software spending. But the licensed/packaged software market hasn’t gone away – its still worth $300bn+ and many large and small companies alike are still uncomfortable with cloud based services. Why? Well, the larger software companies are still making a lot of money from packaged products and the transition to cloud based subscriptions has to be managed carefully. Subscription models get rid of the need for built-in obsolescence but also change the focus from repeat orders and upgrades to managing churn (or reducing non-renewal rates). They also reduce upfront licensing fees, customisation and service level fees as the customers move from a perpetual to a time-based subscription model. A wholesale change from packaged perpetual software licenses to annual subscriptions would reduce short-term revenues per customer. Lower revenues impacts earnings; earnings impact share price. SaaS means a lot of change from being product-focussed to customer-focussed, short-term revenues to long-term revenues, average revenue per customer to average revenue per user etc etc. But SaaS isn’t the only subscription derivative – e-learning companies have used rental models before Internet Delivery (see SkillSoft nee Smartforce nee CBT Group) and Netflix is doing an admirable job with DVDs. People tend to forget that their mobile service, their digital TV service and many other services using digital networks are “Internet” business models.

For me, subsidy-based models are the most interesting. Advertising dominates this class of business model. This remains primarily a B2C model – there is little evidence of enterprise acceptance of advertising-backed software and there remains policy issues in relation to advertising/sponsorship based models for education and other public sector sales. However, for those with the time, financial and technical resources, it is possible to fund your business with advertising. I, personally, also think this is a perfectly acceptable way to fund access to software particularly where no other funding is available e.g. in developing countries. However,  selling advertising services (such as Facebook Ads and Google Adwords) is different than funding your business through advertising. But advertising isn’t the only form of subsidy – in the public sector, government subsidises commercial software – and in the NGO sector, foundations, governments and other agencies subsidise various initiatives including open education resources etc. It should be noted a few years ago, we assumed that there would be consolidation in digital advertising platforms and thus advertising-supported business models and choice would be less complex.  The rapid adoption of social networking sites and services has fragmented  – Facebook ads, LinkedIn Direct Ads and others compete with Microsoft Bing Advertising, Yahoo Advertising, and Google Adwords for advertising dollars while Twitter and others generate traffic for free. Selecting your advertising platform is getting more complicated but managing campaigns is more complex still. The number of Internet businesses that can generate enough traffic to sustain a business of any scale remains limited.  This does not mean it is not happening, sites like Grooveshark, seem to be making advertising-funded services work for the music sector.

So how do you pick one? It largely depends on your market and how they perceive key elements of any given business model and again these lie in conventional business academic literature – elasticity, price, awareness, customer type etc. For example, enterprise customers know and understand transaction and licensing-based business models – they are familiar, they know the conditions, the quality and service expectations, and know the procurement dance (discounts for user volume, end of month and end of quarter pressure etc) and they control their data and uptime. They are comfortable with doing business this way. Businesses providing software funded by advertising introduce more questions than answers for enterprise buyers – will the advertising be appropriate? will it distract employees? what are the conditions and level of support (if it is “free”)? Individual users are happy to deal with this ambiguity, enterprise customers are not. Subscription-based models and in particular, the SaaS model play the middle ground. It can be argued that enterprise customers (and individuals) get enterprise software at lower cost, better service, less technical headaches with terms, conditions and procurement process that they know. They get a lot; they need to just give some trust….not the easiest thing to do even at the best of times.

Can you blend them? Yes, and this can be a source of competitive advantage. Microsoft have blended different models in their games business. You effectively license an XBOX and can then buy or subscribe to software through XBOX-Live Marketplace etc. There are free games too. Similarly I note Spotify allows you access some services with ads, a no-ads subscription service and a service where you can purchase MP3s for download and use outside of Spotify. Indeed, the Spotify model, may in time, challenge iTunes and be adopted by other media creators and aggregators; it provides a straightforward framework that addresses all consumer preferences. But this depends on their capacity to negotiate with the media rights owners worldwide (and not territory by territory) and defend against Apple at the same time.

So where does strategy come in to it? Well you can replicate any business model but this does not business success make. You still have to find a way of satisfying unfulfilled (or unknown) needs of a given market segment better than the incumbents, profitably and ideally uniquely. And that is the trick – profitably and uniquely. Whether it is one, two or each of operational effectiveness, customer targeting or innovation, successful companies have to do something better than the competition.  With Internet business models, the same rules of marketing, economics, finance and strategy largely apply – segmentation, targeting, differentiation etc, etc, etc, but the successful companies move fast and tweak continuously and that is critical. They tweak digital rights management, delivery efficiency, payment options, payment process etc. The more things are different, the more they stay the same….just accelerated and more-and-more slightly left of centre.

Oh yeah, what about “free” business models? They don’t truly exist – someone has to pay.
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Last day in Shanghai – Day Eight of the DCU Business School Trip to Shanghai 2010

In An Bord Bia, Business Education, CEIBS, Chinese Food, DCU Business School, Di Shui Dong, Doing Business in China, Dublin City University, Elearning, Ireland, Irish Pavilion, MBS in Marketing, MSc in Business Management, MSc in E-commerce, Next Generation Management, Shanghai Restaurants, The Blarney Stone, Travel, Uncategorized, World Expo 2010 on August 1, 2010 at 1:33 pm

Our last day kicked off with a frenetic visit by Andrew and I to CEIBS to hear about their e-learning publishing business. CEIBS seems to be the equivalent of the Harvard Business School of China and the CEIBS MBA is ranked 8th in the world. The campus is great with a lot of space for contemplation – there seemed to be an abundance of meditation pools (or it could just be good landscaping!) One of our alumni heads up business development for the e-learning business and I was interested in sharing experiences with her. CEIBS has developed a fairly comprehensive suite of e-learning courses for their general business with a judicious mix of interactivity. I could see a suite of elearning modules by CEIBS on doing business in China being a real hit and it was interesting to hear their thoughts and plans although we had very little time – all my fault; I totally misread the traffic an distance to CEIBS.

CEIBS

CEIBS

We had planned to get back to the hotel and get the coach to Paypal Shanghai but it turned out it was faster to meet the rest of the group at Paypal‘s office. Their offices could have been in California – the office block was a modern high rise in a landscaped business park in the Shanghai suburbs and the interior was the same level of modern professionalism. Martin Hennig (one of our MSc in E-commerce (Business) students) works for Paypal in Ireland and organised a tour of their Shanghai office. Martin kicked off with a great presentation to the group on Paypal and its operations and answered any questions we had. We then had a really good tour around each department in Paypal – unfortunately, I can’t share the details as we agreed to confidentiality. I can tell you that everyone we met spoke excellent English and seemed on top of their game.

Paypal China

Paypal China

As it was our last day, we got the coach back to the market under the Science and Technology Museum for people to pick up additional presents and custom clothes ordered. At this stage, we had a regular meeting place at the market, Daisy’s, where we could pick up edible food and big mugs of Espresso. After a couple of hours, I had had enough haggling, stringing the shop-owners along and espresso and decided to go back to the hotel for our penultimate meeting of the trip with Breffini Kennedy (Asia Manager, An Bord Bia).

Sean Cullivan, the happy buyer of a tailor-made linen jacket from Shanghai. Don Johnson watch out.

Sean Cullivan, the happy buyer of a tailor-made linen jacket from Shanghai. Don Johnson watch out.

I have to say Breiffini’s talk with us was great. He gave us great insights in to his career and how his various roles in different organisations resulted in his current placement in China and how various skills and knowledge he acquired in previous roles contributes to his current role. Breiffini is a one-man office representing the Irish food industry in Asia with responsibility for both promoting and generating deals for Irish food companies but also making sure we can sell in the market at all. For example, An Bord Bia were actively involved in getting the Chinese ban on Irish pork products lifted recently following the 2008 dioxin scare.

Irish pork products allowed back in to China. Good for Irish farmers, not so sure about the pigs!

Irish pork products allowed back in to China. Good for Irish farmers, not so sure about the pigs!

Everyone liked Breiffini’s hands-on approach – he attends trade fairs, chases down leads, does market research and is often the first point of contact for some large deals. He explains that this often means visiting places that he has never heard of, often off the well beaten path to Beijing and Shanghai. He believes and made a very strong case for greater investment in Asia from the Irish food and beverage industry. There are so many direct and complementary opportunities that Ireland can exploit – for example, China is turning in to a major market for non-traditional meat products e.g. offal, trotters etc. These products simply wouldn’t sell in Ireland and while not hugely financially profitable do offset costs and develop trade relationships. Once again, Breiffini stressed the importance of guanxi and raising the profile of Ireland in the minds of the Chinese public. Breiffini did a great job contextualising the Irish World Expo pavilion design by explaining that emphasising the greenness of Ireland helps with agricultural perception etc.

Breffini Kennedy from An Bord Bia answers questions from the DCU Business School group in Shanghai.

Breffini Kennedy from An Bord Bia answers questions from the DCU Business School group in Shanghai.

The meeting ended with some thoughts on living in China and he was very open about both his and his wife’s experience. He praised the International hospitals in Shanghai and also noted that they didn’t realise how well they had adapted to life in China until they had visitors over from Ireland and others told them. Breiffini the fielded questions for over 45 minutes on various aspects of working in China and An Bord Bia – we could have gone for a lot longer!

Eoin Murphy, President of the Le Cheile, the Irish Community in Shanghai.

Eoin Murphy, President of the Le Cheile, the Irish Community in Shanghai.

Our final engagement was dinner with Eoin Murphy from Le Cheile, the Irish Community in Shanghai, in the Di Shui Dong Restaurant. Di Shui Dong is a Huananese restaurant which was recommended by Deirdre Green (ChinaGreen) – it means “Water Dropping Hole” but literal translations don’t work well in China. Basically, everything is spicy! While the decor was modest, the food was excellent, reasonably priced and nearly everything was both recognisable and edible, although in some cases, extremely spicy!

Dan Higgins, Sean Cullivan and Brian Connolly consider what Huananese spicy food really means at the Di Shui Dong restaurant, Shanghai.

Dan Higgins, Sean Cullivan and Brian Connolly consider what Huananese spicy food really means at the Di Shui Dong restaurant, Shanghai.

For approx. 25 euros each we had over 20 dishes and drinks for the night. Eoin was great fun but unfortunately couldn’t be split in three across our tables – hopefully, we will have more time to spend with him the next time. If you are looking at moving to Shanghai, doing business in China or visiting, trust me it is worthwhile contacting Eoin or looking at the Le Cheile website – the Irish welcome is alive and well in Shanghai!

Joe Cullinan outside The Blarney Stone, Shanghai.

Joe Cullinan outside The Blarney Stone, Shanghai.

The Blarney Stone, one of Shanghai’s Irish pubs, is located next door to Di Shui Dong and we invaded en masse. The Blarney Stone is what one would expect – Irish Pub decor and their own balladeer, Big Paul. There were only 5-6 people there so we, effectively, had the bar to ourselves (although I noted our new friends from An Bord Bia, Enterprise Ireland and An Bord Failte were also there and came over to say hello) and after a couple of rounds we took over the entertainment too.

Sean Donnelly, Carolann O'Sullivan and Barry Sweeney get in to the swing of things at The Blarney Stone, Shanghai.

Sean Donnelly, Carolann O'Sullivan and Barry Sweeney get in to the swing of things at The Blarney Stone, Shanghai.

It is trips like these that hidden talents come out and Sean Cullivan’s rendition of Galway Girl and Seven Drunken Nights will be one we will all remember – maybe Big Paul too! Experience it here on youtube.

Sean Cullivan takes over from Big Paul and knocks out 'Galway Girl' at The Blarney Stone, Shanghai

Sean Cullivan takes over from Big Paul and knocks out 'Galway Girl' at The Blarney Stone, Shanghai. Experience it on youtube.

Before I left for the hotel, the group presented me with a variety of mementos of the trip for which I am grateful and display proudly in my office. “The Man Club” was closed when we got back to the hotel and to some extent, I was glad our last night ended on an Irish note, no matter how out of tune that might have been.

More photos on flickr. Day Nine to follow….
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