Why The Best Business Model Doesn’t Always Win

“How you make your money” must be different than how other people make their money.

Nov 23

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Dear Friend, Subscriber, and Category Pirate,

This week’s Buried Treasure is about our favorite kind of models:

Business Models.

To become a Category King, you can’t just design a breakthrough product. You also have to innovate the business model to separate yourself from any direct competition. That means “how you make your money” is different than how other people make their money. Maybe the most legendary example of all time here is Salesforce in the early 2000s choosing to sell “rented software in the cloud” in the Digital world while other companies were selling “on-premise” in the Analog world.

Business model innovation is often deprioritized behind product innovation, but the truth is: a radically different business model can be a powerful differentiator (and can quickly crown new Category Kings).

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An Innovative Business Model Can Be Just As Powerful As A Product Innovation

Company/Business Model Design is one side of the Magic Triangle—and it can have as much of an impact as Product Design and Category Design.

Consider how these Category Kings changed the business model:

Netflix charging per month (with no late fees) versus Blockbuster charging per rental (and making money off late fees).
Salesforce charging companies a subscription fee instead of selling higher-ticket, one-time products (which was the status quo in the late ‘90s and early 2000s).
Tesla refusing to partner with car dealerships and sell their vehicles at fixed, easy-to-understand prices.

When company design is done successfully, the new Category Queen places the Legacy Category in “check” on the chessboard.

But much like the Big Product Lie that says “the best product always wins,” a radically new business model “alone” isn’t enough.

The Best Business Model Doesn’t Always Win

A company has to prosecute all THREE sides of the Magic Triangle to become a Category King.

How does a new category get delivered to the customer—both through a breakthrough product/service/offer, but also through a breakthrough business model?

Let’s look at an example from Apple:

In 2001, Apple launched a new software program that served as a media player, media library, mobile device management, and client app.

This all-in-one program let people manage their Apple devices and download a “library” of albums and individual songs to their devices. It was an entirely new business model no one had seen before. And it completely changed the way we buy and consume media.

Apple called it iTunes.

Although iTunes launched with only 200,000 songs, the iTunes Music Store sold one million songs in its first week.

Over the next decade, iTunes propelled Apple into the music business—and helped sell millions of its iPods to on-the-go listeners.

People could carry thousands of songs in their pockets.

And they could buy new albums with the click of a button.

By 2007, the iPod and iTunes had become such a force in the music industry, Apple changed the business model. That year, Apple launched the subscription service iTunes Plus, which offered music free of digital rights management (DRM) protection—the legacy practice for music copyrights. (DRM lets music publishers and distributors control how people download and share files.)

With iTunes, you could play the music you had previously bought on your iPhone on your Mac.

But by 2019, the rise of streaming platforms like Spotify and Pandora (and a healthy dose of Category Neglect by Apple) contributed to iTunes’ downfall. But its revolutionary business model paved the way for these platforms to create a new business model: streaming.

The best business model doesn’t always keep winning.

Business models have to be innovated upon, too.

The Key Is To Approach The Business With A Missionary Mindset

Mercenaries look to maximize money, and seek to monetize and exploit “today.”

Missionaries, on the other hand, see the future category as a land wherein “everyone wins.” They strive to create something completely new that unlocks abundance for all parties involved: customers, employees, and investors. So they look to make money in fundamentally different ways than other businesses in their industry. They innovate in the gaps between where the category is and where it should be, and add value in places others have failed to notice.

Taking this approach, in combination with Product Design and Category Design, allows you to separate yourself further and further from any and all competition.

It creates the perception of being new, different, and irreplaceable.

So how do you go about it?

Step 1: Ask yourself if you’re creating an innovative business model.

Here’s a good way to tell:

Do you make money when good things happen to your customers/consumers/users?
Or do you make money when bad things happen to your customers/consumers/users?

For example, when you overdraw your bank account and Bank of America or Wells Fargo charges you for that mistake, the company is making money when bad things happen. Very little innovation is happening in that business model—and it reveals an exploitable vulnerability in this legacy category.

Meanwhile, Ally Bank permanently ended overdraft fees on all accounts.

The reasoning? It wanted to keep people from falling behind financially. (Radically new, and generous, business model!) This not only helps people who are financially vulnerable (95% of consumers who paid overdraft fees in 2020 are a part of this category), but it avoids the legacy business model of making money from bad things happening to customers. On top of no overdraft fees, Ally also has no minimum balance requirements, no monthly maintenance fees, no ACH transfer fee, and a large no-fee ATM network.

Lots of innovation happening there, which makes it an exciting, emerging business model for the banking industry.

Step 2: Highlight the fundamental issues with the legacy business model.

By eliminating common fees, Ally put the customer at the center of its business model—driving a stake through the heart of banking’s legacy business model. It was only a matter of time before the unraveling of the old world began to accelerate. Since then, several big banks have eliminated overdraft fees:

Bank of America
BMO
Capital One
Citibank
And more

You’ll know your new company design is working when an uprising happens on both sides of the chessboard: the incumbents start shouting about how “crazy” this new and different reality sounds, while the new Category Queen and all her evangelists chant louder and louder about the benefits that come with this new and different future.

When this happens, you’re just starting to DAM The Demand.

And now it’s time to educate customers on the differences between the old category and the new category to unlock exponential growth.

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Arrrrrrr,

Category Pirates

Eddie Yoon

Nicolas Cole

Christopher Lochhead

Category Pirates