Business Models

A business model is a strategic plan that explains how a company creates, delivers, and captures value—how it will make money. It covers what the company sells, who the target customers are, the cost structure, and the ways revenue will be generated. Well-defined business models help attract investors, recruit talent, and guide management decisions; they should be revisited regularly to reflect market changes.

Key takeaways

• A business model describes a company’s products or services, target market, revenue streams, and costs.
• The two main levers are pricing and cost management.
• Analysts often evaluate models by looking at gross profit, cash flow, and net income.
• Business models should be tested and revised as market conditions change.

Core components

• Value proposition — What you offer and why customers prefer it over alternatives.
• Target market — The customers or segments you serve.
• Revenue streams — How you charge customers (sales, subscriptions, fees, commissions, etc.).
• Cost structure — Fixed and variable costs required to operate.
• Key partners and channels — Suppliers, distributors, platforms, and the ways you reach customers.
• Performance metrics — Gross profit, cash flow, customer acquisition cost, lifetime value.

Common types of business models

Many companies combine multiple models; below are 13 common approaches with brief descriptions and examples.

1. Retailer — Buys finished goods and resells to consumers. Example: Costco.
2. Manufacturer — Sources raw materials and produces finished products. Example: Ford.
3. Fee-for-Service — Charges for labor or expertise (hourly or fixed). Example: Law firms like DLA Piper.
4. Subscription — Recurring payments for ongoing access to a product or service. Example: Spotify.
5. Freemium — Basic free offering with paid premium features. Example: LinkedIn Premium.
6. Bundling — Sells multiple products together, often at a discount. Example: AT&T.
7. Marketplace — Hosts transactions between buyers and sellers and takes a fee. Example: eBay.
8. Affiliate — Earns commissions by promoting others’ products. Example: Influencer marketing.
9. Razor-and-Blade — Sells a durable product at low cost and high-margin consumables (or vice versa). Example: Printers and ink (HP).
10. Reverse Razor Blade — High-margin initial sale with low-cost or free ongoing components. Example: Smartphones and apps (Apple).
11. Franchise — Replicates a business model through franchisees who pay fees/royalties. Example: Domino’s.
12. Pay-as-You-Go — Charges based on usage rather than a fixed fee. Example: Utility companies.
13. Brokerage — Connects buyers and sellers and earns a percentage of transactions. Example: Re/Max.

How to evaluate a business model

• Measure gross profit (revenue minus cost of goods sold) to assess core profitability; compare with industry peers.
• Review cash flow and net income to determine whether operations produce sustainable profit after expenses.
• Analyze the two levers: can the company raise prices or reduce costs without losing customers?
• Consider scalability, customer acquisition economics, and whether the model produces defensible advantages (network effects, brand, proprietary tech).

Investors and business models

Investors study a company’s business model to understand how it makes money, not just what it sells. Annual reports, investor presentations, and corporate websites typically summarize models. A clear, simple model is easier to evaluate and more attractive to investors than a convoluted one.

How to create a business model — practical steps

1. Identify the target audience and unmet need.
2. Define the problem your product or service solves.
3. Specify offerings and how they map to customer needs.
4. Document operational, product, and financial requirements.
5. Identify key partners and suppliers.
6. Choose monetization methods (pricing, subscriptions, commissions, etc.).
7. Test with surveys, pilots, or soft launches and iterate based on feedback.

Tip: Study competitors’ models to spot gaps or opportunities rather than reinventing the wheel.

Common criticisms and pitfalls

• Overly complex models can deter investors and hinder execution.
• Underestimating the time and cost to reach profitability is a frequent error—companies must fund operations until revenues exceed expenses.
• A model that worked previously may be disrupted by new entrants or technologies (example: how low-cost carriers challenged the airline hub-and-spoke model).
• A business model must have both a coherent narrative (the “story”) and realistic numbers; failure in either undermines success.

Example: Microsoft’s diversified model

Microsoft operates multiple models across its segments:
* Productivity and business processes — subscription services (Office 365, LinkedIn).
* Intelligent cloud — server and cloud subscriptions (Azure).
* Personal computing — operating systems and hardware sales (Windows, Surface, Xbox) plus recurring content, subscriptions, and advertising revenue.

FAQs

Q: What is the most common business model?
A: Retail is among the most common—companies buy or manufacture goods and sell them to consumers through stores or online channels.

Q: Which business model is best?
A: There is no universally best model. The right choice depends on the product, market, competitive environment, and the company’s capabilities.

Q: How often should a business model be revised?
A: Periodically and whenever market conditions, customer behavior, or competitive dynamics change.

Bottom line

A business model is more than a revenue plan; it’s a blueprint for creating and sustaining value. Clear definitions of customers, offerings, costs, partners, and revenue streams make it easier to manage growth, attract investment, and adapt when markets shift. Regular testing and iteration are essential to keep the model aligned with real-world demand and competitive pressures.