Chapter 11

Sustaining Your Business Model: Innovating and Avoiding Pitfalls

In This Chapter

Leveraging innovation

Knowing your innovation factor

Sidestepping common pitfalls

A complete and well-rounded business model is able to continue its viability for an extended period of time. Beanie Babies were a bonanza for their maker, Ty. When the trend died down, sales suffered but the company lives on. Crocs shoes were a massive trend that put Crocs Inc. on the map. The once red-hot shoes have died off significantly, but the company has successfully moved into other areas and is a profitable public company.

The best method to continue to grow the strength of your business model is through innovation. Innovation in any and all areas will strengthen your model and your ability to compete.

Innovation can take many forms. Your model can be strengthened by changing your target market, your marketing model, what you sell and for how much, the products you sell or their mix, improving the sales model or delivery system, or innovating away a pitfall.

A pitfall is a potential glitch in your business model. Ideally, your business model can avoid pitfalls such as governmental interference, overreliance on a few customers, overreliance on key employees, location handicaps, excessive legal concerns, or other traps.

Pitfalls don’t make a business model nonviable, but they do make it less attractive. Whether the model is modestly unattractive (a fashion business’s constantly changing trends) or significantly unattractive (handgun ban, military spending freeze, coastal Venice real estate combined with melting polar icecaps), pitfalls should be considered as potential risks to the model.

Maintaining the Strength of Your Model with Innovation

What do Blockbuster, Yellow Pages, Borders, Circuit City, the Chicago Tribune, WGN, Musicland, and radio stations all have in common? They all had their business models destroyed by the Internet. Blacksmiths had their business model ruined by automotive technology. Railroads succumbed to the Wright Brothers’ invention. Kodak fell to digital cameras, and now digital cameras are falling to cellphone cameras. Fail to innovate, and your business model is in jeopardy. If you don’t innovate, someone else will.

Before you say, “Yeah but . . .,” I admit that some companies need to innovate more than others. A landscape company doesn’t need to innovate as much as a biotech company, but both need to innovate to maintain their competitive advantage. All companies have the ability to innovate, which they balance with their need to innovate. This is their innovation factor.

Understanding your innovation factor

The need to innovate is set by your industry. If you’re in the microchip or biotech industry, your need to innovate is sky high. If you fail to innovate, competitors will leapfrog you and quickly steal your market share. If you’re a manufacturer, the need is probably average. If you’re a commercial landscaper or a bowling alley operator, the need for innovation is relatively low. In these industries, you could build a successful business with virtually no innovation, but that’s no reason to be complacent.

The need to innovate is referenced against your firm’s ability to innovate. If a computer chip company has a high need to innovate but a poor ability to innovate, guess what happens — bye-bye. A company that excels at innovation in an industry requiring lots of innovation (Intel, Genentech, 3M, Amazon, and Google) not only succeeds but succeeds in a big way.

Innovative companies like Starbucks, UPS, BigBelly Solar, and the NFL have used out-innovating their competitors as competitive leverage in lower need-for-innovation industries. Figure 11-1 shows the relationship between a company’s need to innovate and its ability to do so. Companies with a high need for innovation will either excel as a result of their innovation or be punished by their lack of innovation. Companies with a lower competitive need to innovate have the potential to over-innovate and devote too many resources to a marketplace that doesn’t need or want excessive innovation. For instance, a local lawn mowing service should stay on top of equipment and design trends. However, if the company is constantly spending precious resources building customer equipment at the cutting edge simply to mow yards, the market may not reward this effort. If the mowing company changes its business model and begins selling the inventions, the need for innovation in the equipment manufacturing industry is much higher than it is for a lawn mowing company and the problem is fixed.

Image courtesy of businessmodelinstitute.com

Figure 11-1: Your innovation factor.

Remembering that you need to innovate

Innovation doesn’t have to be the invention of a new drug or smartphone. Innovation is any improvement to the business model. This innovation could be a marketing innovation — like using Twitter to grow sales, creating a new product, or a powerful marketing campaign (Joe Isuzu, Where’s the Beef, The Most Interesting Man in the World). Innovation could be a creative business process — like mobile restaurants bringing the food to people or a self-service salad bar. Innovation could be adopting the use of new equipment before the competition. Innovation isn’t just for technology companies; it’s for all companies.

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Staying ahead in the innovation game

Innovation is for leaders, not followers. You don’t need to be a brazen risk-taker to innovate. If you understand your innovation factor, you’ll know how much or how little your business model needs. Simply adjust your risk-taking to meet the needs of your industry.

Putting R&D in the budget

One of the best practices you can follow is to budget for research and development (R&D). Research is where innovation comes from. Fortune 500 companies all have an R&D budget. Mid-sized and small businesses rarely budget for research or innovation. They tend to take a reactive approach. This approach often leaves smaller businesses playing catch-up. You have a chance to do it right.

Add research and development cost to your financial model. Budgeting one or two percent of revenue will keep you consistently focused on innovation and provide a much greater chance for successful innovation. Also, don’t lose sight of any possibilities for local, state, or federal incentives or tax credits that help mitigate these types of expenses.

As you can see from the R&D spending chart in Table 11-1, innovation and R&D spending are inseparable. You probably recognize most or all of these companies as some of the most successful companies in the world . . . for a reason. These companies spend heavily on research. Research leads to innovation, and innovation powers your business model. You can’t innovate without investing in order to accomplish it.

Table 11-1 50 Biggest R&D Spenders, 2006–2007

Rank	Company	R&D, Most Recent Four Quarters
1	Microsoft	$7,420,000,000
2	IBM	$6,153,000,000
3	Intel	$5,755,000,000
4	Cisco	$4,730,000,000
5	Hewlett-Packard	$3,632,000,000
6	Oracle	$2,496,000,000
7	SAP	$2,296,330,000
8	Google	$2,120,000,000
9	Sun Microsystems	$1,937,000,000
10	Advanced Micro Devices	$1,847,000,000
11	EMC Corporation	$1,526,928,000
12	Yahoo!	$1,084,000,000
13	Seagate	$939,000,000
14	Symantec	$890,000,000
15	Apple	$844,000,000
16	Computer Associates	$657,000,000
17	Adobe Systems	$613,242,000
18	Intuit	$544,137,000
19	Cadence Design Systems	$494,000,000
20	Autodesk	$452,800,000
21	Network Appliance	$436,039,000
22	VMware	$285,941,000
23	BEA Systems	$240,578,000
24	McAfee	$218,000,000
25	Palm	$213,994,000
26	Novell	$208,370,000
27	BMC Software	$207,000,000
28	Citrix Systems	$205,000,000
29	Parametric Technology	$166,000,000
30	Verisign	$160,000,000
31	Sybase	$153,000,000
32	National Instruments	$127,000,000
33	Teradata	$126,000,000
34	Quest Software	$123,000,000
35	Compuware	$109,000,000
36	RealNetworks	$103,000,000
37	TIBCO Software	$92,924,000
38	Nuance Communications	$92,000,000
39	Red Hat	$91,125,000
40	Lawson Software	$81,488,000
41	Wind River Systems	$81,432,000
42	Progress Software	$80,345,000
43	Informatica	$70,000,000
44	Openwave Systems	$65,369,000
45	Salesforce.COM	$63,812,000
46	TriZetto Group	$62,000,000
47	Borland Software	$57,795,000
48	Silicon Graphics	$57,000,000
49	ANSYS	$56,000,000
50	MSC Software	$53,000,000
Sources: Company filings, Yahoo! Finance, ciozone.com

Avoiding Pitfalls

You create a highly marketable product. You have a strong system to sell it. You know how to innovate and are prepared to do so. Your business model is almost complete. Now you have to avoid pitfalls. Most business models can avoid all major pitfalls. However, the business environment is fluid and business models erode over time, so pitfalls are worthy of a quick discussion so you can ensure your business model remains problem-free. These pitfalls fall into three categories: excessive trend riding, overreliance on a few customers, and susceptibility to forces beyond your control.

Having pitfalls in your business model doesn’t mean the model is bad. You simply need to be consistently aware of and plan for them. The danger lies in ignoring the pitfalls or using the ostrich plan (hoping they won’t happen or believing things won’t change). A fashion house understands that the hot new trend will last only a season and is already planning its demise. A company like Taser, in an overly litigious business, budgets a percent of sales for legal expenses.

Excessive trend riding

The Pet Rock was a big money maker — for a year. The Ruby on Rails software platform is currently hot, and many firms are cashing in. What happens when there’s a new flavor of the month? It’s fine to capitalize on trends. Trend riding can be a much easier way to grow sales than slogging through a stagnant market. However, you should remember that trends end, and you need to transition to a new trend before they do.

Overreliance on a few customers

Overreliance on a few customers is a common issue with second-tier automotive suppliers. I remember a gentleman telling me how he ran a company that supplied GM with the power antennas for Cadillacs. An entire plant made nothing but Cadillac antennas. Cadillac changed the design to a windshield antenna, making the power version obsolete. This gentleman was lucky. He jumped on a plane and begged GM to find another part for the plant to make, and GM did. If GM was less generous, he was out of business. Having an overreliance on a handful of customers doesn’t ruin your business model; it just makes it weaker.

Susceptibility to forces beyond your control

Tourism businesses located near the Gulf of Mexico have had to endure the unpredictable wrath of Mother Nature many times in the past ten years. Another force beyond your control is the government. Susceptibility to governmental action or inaction weakens a business model. Consider the following:

Change in tax or other incentives: As oil prices surged from $60/barrel in early 2007 to $145 by mid-2008, companies scrambled to profit from ethanol by building $100+ million refineries. The theory was that gasoline consumption could be shifted to a blend of 85 percent ethanol and 15 percent gasoline (E85) because ethanol was cheaper per gallon than oil. On top of that, the government subsidized ethanol an additional $0.45/gallon. However, oil prices dropped to $90/barrel and the government removed the ethanol subsidy. Less than five years after opening, many of these multimillion dollar plants have closed.

Infrastructure planning like moving a road, urban redevelopment, or road repairs: It’s tough to do business when no one can pull into your parking lot because the road is under construction.

Changing of laws or standards: For instance, HIPPA compliance forced many small medical practices to cease operating or merge due to the forced technological upgrades.

Overly litigious businesses have a diminished business model: This is the Taser test. Taser has a proprietary, industry-leading product that sells at a good profit but gets sued regularly for lots of money. Being sued often doesn’t ruin Taser’s business model; it just weakens it.