As accountants, we need to understand our clients’ business models. In very simple terms, a business model refers to “the way a business makes money”. Take a retailer, for example, who buys and displays products of interest to customers. By attracting people into their store, they sell those products and make a profit, provided the sales price exceeds the costs of supplying that product.
When e-commerce came along some years ago, many retailers adjusted their business models. They no longer needed to buy the inventory or display it in a store when they could just show a picture of it on their website. On the other hand, they had to invest in ‘fulfilment’ or properly processing orders to ensure the customer receives the product. This meant a fundamental change to the business model, and the transition was easy for some and impossible for others. Notably, many ‘traditional’ retailers still maintain successful brick and mortar stores implying that the dramatic changes did not necessarily apply equally to ALL retailers.
Sometimes the forces which drive change to your business model unfold over many years but they can also be sudden. As we emerge from the COVID-19-influenced environment, businesses should review their business models to ensure they remain robust. Here are some simple questions to consider:
Will the number of customers you attract (dramatically) increase or decrease?
This requires a deep understanding of customer needs which can shift over time. Example: If you’re in the business of planning large-scale conferences, your customers may increasingly prefer to save travel costs and interact with people online. The number of customers you serve may dwindle and you’ll need a fundamentally different business model, perhaps the facilitation of online events.
Will those customers pay you more or less than customers paid in the past?
Customers may still buy your products but expect to pay less per transaction. Example: Many consumers used to pay a subscription for a newspaper delivered to their door. But the value placed on ‘the news’ has changed especially with many ‘free’ sources available. In fact, publishers increasingly rely on advertisers for revenue while making their content available for free; a fundamental change to the business model.
Will you retain customers for longer or shorter periods than in the past?
Many businesses rely on repeat purchases. The profit on a single transaction may be low… but if customers keep coming back, margins start to look attractive. Examples: A liter of milk sold in the grocery store will typically attract a low margin. But if bought twice a week for an entire year by the same customer, there will be a significant contribution to profit. It’s worth working hard to retain this customer because the costs of replacing them could be significant. If you can’t retain them, a change to the business model (like broadening the products on offer) may be required.
Will you generate more (or fewer) business opportunities (or leads) in the competitive environment?
All businesses need to ‘stand out’ from the competition in order to attract new customers. But the competitive landscape is always changing and can impact your ability to attract customers. Example: If your industry is deregulated, there may be an influx of competitors some of which are well-funded and effective at serving your market. That could reduce your market share unless you change the business model. Conversely, a recession can shake things up signaling the end of weaker competitors and an opportunity for you to attract their customers.
Will you convert these new opportunities into sales?
Creating business opportunities (leads) is not enough. You still have to convert them into actual sales. You may be able to control some aspects of your sales function but there are factors out of your control. Example: A recession might reduce spending on leisure travel and if you cater to tourists, you will be affected. You can ride out the downturn or change the business model. One owner of a bowling alley got tired of unpredictable, seasonal tourist demand so converted his facility into an event space for local corporations, a fundamental shift in the business model.
What will it cost you to provide your service to your customers in the future?
Most of the above-mentioned factors refer to DEMAND for your products. But in order to provide your product, you have to invest in materials or people. These are summarized as your expenses to include Costs of Goods Sold (or COGS) or general expenses. You can work hard to reduce these but certain factors may be beyond your control. Example: You may rely on certain imported materials in order to produce your product. One day your supplier may stop selling to you because they can command a higher price in a different market. Unless you secure an alternative supplier, you may not be able to offer your product at a competitive price and a change to your business model will be required.
So consider these questions in your business especially as we emerge from the COVID-19 phenomenon. To be clear, many business models are highly resilient and decisions to change should not be made flippantly.
Get in touch with your Juggernaut Advisor to further analyze your business model because getting it right brings long-term rewards!