Revenue model innovation

Over a decade ago, I made the acquaintance of a CIO of a major bank, and asked him to become involved in my small IT services business which was growing like a rocket ($2 million revenue in year one). He declined, and said, “he didn’t find our business model scalable”. After the rejection I thought, “how ridiculous, look at our growth!”

But since that moment, I have been thinking on and off about business models, trying to discern patterns and to have a conceptual framework to work within so that I could design better business models. I feel this is one of the core competencies of the entrepreneur.

Eventually, one of my understandings was that sitting between your product with all its features and benefits and your customer, was your revenue model. According to Alexander Osterwalder and Yves Pigneur there are only seven types of revenue models:

• Asset sales: Transferring ownership, normally as a one-off transaction. Like a chocolate bar or car.
• Usage fee: The more a service is used, the more a customer pays. Like a hotel room or courier.
• Subscription fee: An access fee to a service. Like a telephone network.
• Leasing: Granting the exclusive right to use a product. Like renting a trailer.
• Licensing: Permission to use intellectual property in exchange for a fee. Like producing Disney merchandise.
• Brokerage: Charging a fee to be an intermediary. Like credit cards and stockbrokers.
• Advertising: Charging a fee for advertising a product or service. Like television or event sponsorships.

But the insight I had was that despite the industry, service or product, a good revenue model has two attributes that are common.

1. It creates an annuity stream

A system where you have to put energy into every sale you make is not much fun and it’s difficult to generate substantial returns. Engineering firms are forever chasing their next project. A much better solution is to sell once and then see the money rolling in month after month, known as an annuity stream. As your revenue grows, so does your profit margin as your direct costs decrease. By selling this way, you can also forecast the future and have increased confidence when decision-making.

2. It maximises the price you can achieve

The two simplest questions to ask a business about pricing is “are you really covering all your costs?” and “Are you leaving money on the table?” It’s too easy for a new business not to factor in deferred costs such as maintenance or employee leave into its pricing, and finds out at the end of its first year, that it wasn’t actually profitable.

It’s also too easy to find out your customers would have paid much, much more for your service when you thought giving it a margin of 100% was being greedy. Pricing is always an incredibly complex issue, however all models generally fall into one of two camps. It’s based on static variables such as list prices and quantity discounts, or it’s dynamic, based on market conditions such as you see with auctions and yield pricing. If you think of the dollars as a continuum, with cost to supply on one end, value to the customer on the other – your goal is to get your price as close as you can to the customers’ value without it being a barrier to sale, so you maximise your return. This requires experimentation and insight into your costs and his values.

So the trick here is to get creative with your existing revenue model and make it work harder for you, creating annuity streams and maximising price, without alienating your customer base. This is part of creating a revenue model that is scalable. How you do this, I’m not certain of just yet, which is why I am running a Churchill Club event on it. When I find out, I will be able to create the scalable model the CIO indicated I should have before he joined me, but then ironically, I probably wouldn’t have needed him.

Brendan Lewis is a serial technology entrepreneur having founded: Ideas Lighting, Carradale Media, Edion, Verve IT, The Churchill Club and Flinders Pacific. He has set up businesses for others in Romania, Indonesia, Hong Kong and Vietnam and is the sole Australian representative of the City of London for Foreign Direct Investment. Qualified in IT and Accounting, he has also spent time running an Advertising agency and as a Cavalry Officer with the Australian Army Reserve.