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Operating different business models in parallel can be the key to a firm’s success, allowing it to compete in a rapidly changing marketplace. But there are risks to adopting new, disruptive business models. Which are the riskiest types? And how can companies overcome these obstacles? This article gives managers a new framework for understanding business model diversification and learning how to mitigate its negative effects.
It’s hard to overestimate the importance of a strong business model: it defines a firm’s entire system of creating value and plays a big role in determining its success. We often hear about new ways of improving business model design, innovation, and competition in order to boost performance and profitability. But most of this advice assumes that firms operate with a single business model – or with very similar business models if they use more than one.
In today’s marketplace, where existing companies find themselves competing with disruptive new entrants, this is no longer the case. These new firms begin to encroach on existing companies’ core business and threaten to radically change how their market operates. Incumbent companies are faced with a choice: do they stick with their old model, and risk becoming obsolete, or do they use the new disruptive business model in order to compete? Many firms choose to do both: they continue to operate their existing model and adopt the disruptive model in parallel. In short, they diversify.
Take the airline industry, for instance. Low-cost airlines like Ryanair and Easyjet redefined customers’ expectations and turned the market upside down. Full-service carriers, like British Airways, Delta Airlines, and LAN Airlines, were forced to introduce new no-frills offerings to compete: a radically different business model.
For British Airways and Delta, this didn’t go so well. Operating two models simultaneously is difficult. On a common-sense level, it seems intuitive that diversifying business models could create conflicts that harm both the old and new way of doing things. But we wanted to dive deeper, to really understand the obstacles that companies come up against when they combine new and old business models.
In the case of the airlines, unlike British Airways’ Go and Delta’s Song, LAN Airlines achieved positive results with substantially different business models: a discount carrier, a full-service offering, and an air cargo service. This means that some companies do manage to operate multiple different business models successfully. We wanted to find out why, and determine when business model diversification was more likely to succeed or fail. This was the first step in finding ways to combat these issues and help companies to better navigate the process of operating different business models.
So, over a 13-year period, we studied 84 international firms in the retail market, including companies like Walmart, Carrefour, FamilyMart, and Target. We analyzed their business model types, profitability and performance, geographical markets, brand names, and industries, and conducted interviews with their managers. We controlled for variables like firm size, firm efficiency, and firm growth as well as industry and international diversification.
The results? We found that companies that add new business models similar in type to their current models found it easier to diversify. On the flip side, the more disruptive the new business model – the more its type differs from existing models – the more companies struggle. This was mainly due to challenges in developing new knowledge and capabilities, in adapting dominant logics, and in maintaining consistent organizational identities. But our study suggests that companies can take action to offset these negative effects, if they separate new business models across locations, brand names, and industries.
Understanding different business model types, and how they relate, is key to making better decisions in adopting disruptive business models in parallel.
Reference: Sohl, Timo; Vroom, Govert; McCann, Brian T. 2019. La diversificación de los modelos de negocio: Cómo lograr que múltiples modelos funcionen en su empresa. Link at publisher.