1. Analysing a Business Model
Rajendra Desai, XIME, 2009

2. 4 groups of business decisions
Revenue Sources
Key Expenses
Investment Size
Critical Success Factors
Rajendra Desai, XIME, 2009

3. Revenue Sources
How many different revenue streams will the business model generate ?
What is the source of each revenue stream (sales, service fees, advertising, subscription)
What is the relative size and importance of each revenue stream ?
How fast is each revenue stream likely to grow ?
Rajendra Desai, XIME, 2009

4. Cost Drivers
What cost drivers have the greatest impact on the cost structure ?
Are the costs fixed, semi-variable, variable or non-recurring ?
What is their relative size and importance ?
Will the cost drivers change with time ?
Rajendra Desai, XIME, 2009

5. Investment size
How much cash is required to launch the business model ?
How much working capital is required to sustain the business ?
What are the timings of these cash needs ?
Will the cash expended produce a viable business entity ?
Rajendra Desai, XIME, 2009

6. Critical Success Factors
Which elements of the business model are most important to achieving it’s profit goals ?
Which of these elements are the most difficult to execute ?
Will they change over time ?
Rajendra Desai, XIME, 2009

7. Starting point of Analysis
Balance Sheet / Income Statement and Cash flow statements – actual or pro-formas.
Other sources of information – mission statement, business overview, strategic goals, operating principles obtained from annual reports / press clippings / media kits.
Rajendra Desai, XIME, 2009

8. Steps in the Analysis
Uncover the revenue drivers – that is key factors influencing the total revenues
Determine the cost drivers
Determine the total investment required to achieve a positive cash flow position
Plot the cash flow vs time graph to generate a cash curve. This curve will illustrate the maximum financing needs and the timing to positive cash flows and cash breakeven.
Perform a sensitivity analysis to understand the critical factors that have the greatest impact on the cash flows
Rajendra Desai, XIME, 2009

9. Revenue Streams Single Stream – from one product or service
Multiple streams – from different products with each revenue stream being sizeable enough to have an impact on profits.
Interdependent – sells one product to stimulate revenues from another – razor – razor blades / printer – ink cartridge
Loss leader – one stream from multiple streams loses money but drives traffic to spur other purchases (some grocery stores will sell a popular frequently bought item below cost )
Rajendra Desai, XIME, 2009

10. Revenue Models
Subscription/ Membership – fixed amount at regular intervals
Volume / Unit based – price per unit
Advertising based – end user pays nothing or a fraction of the cost of the products / service
Licensing – one time fee
Transaction fee – fixed or % of total value of transaction
Rajendra Desai, XIME, 2009

11. Focus of Revenue Model Analysis
Revenue Streams – kind of revenue stream ; if loss leader revenue stream how likely are the losses to be covered by other revenue streams.
Revenue Model
- is it a single or hybrid revenue model ?
- In case of hybrid which are the underlying revenue models ?
- How fast will the revenues increase ? Any barriers ?
- How long does it take to collect cash after a sale ?
Rajendra Desai, XIME, 2009

12. Revenue Model of The Grateful Dead
Revenue Streams
Revenue Drivers
Concert Revenue
# of Concerts
Revenue / Concert
<<<<<<<<
# of Tickets
Price / Ticket
Total Revenue
Merchandise Revenue
# of Attendees
Revenue / Attendee
Recording Revenue
Albums Recorded
Revenue / Album
# Albums Sold
Revenue / Album
Rajendra Desai, XIME, 2009

13. Cost Drivers
Any factor that affects the total costs – usually vary with time or output.
4 types of cost drivers :
Fixed – no variation with volumes – rent/taxes / salaries
Semi-variable – payroll of a supermarket where they need to maintain a min number of employees but need to scale up as sales volumes increase.
Variable – change proportionate to volumes – ex. Commisions.
Non Recurring – infrequent or irregular costs like property or equipment purchase.
Rajendra Desai, XIME, 2009

14. Cost Structures
The dominant cost driver of a business model usually characterises the overall cost structure.
Common cost structures :
Payroll Centered (direct) – Semi variable employees costs directly involved in the output of the firm – consulting firms / investment bank.
Payroll Centered (indirect) – Fixed employees costs indirectly involved in the output of the firm – insurance agencies.
Inventory – Automobile firms / jewellery retailers – primary costs in inventory of raw material or finished goods.
Space / rent – high costs of space rentals – restaurant in prime locations
Marketing / Advertising – to retain – draw customers ; internet content / websites.
Rajendra Desai, XIME, 2009

15. Focus of Cost Driver Analysis
Is the business model’s cost based on primarily fixed, semi-variable, variable or non-recurring costs ?
How much volume can be supported with the fixed cost base ? How likely is a reduction in the fixed cost base of the firm ?
Are the primary cost drivers expected to change over time ?
Cost Center :
What are the largest cost centers for the business model ?
What is the relative size and importance of each cost center ?
Do any of the cost centers deliver a strategic cost advantage ?
Rajendra Desai, XIME, 2009

16. Cost Structure of 7-11 Japan
Cost Centers
Cost Drivers
Cost of Goods Sold
Price/SKU
# of Suppliers
Inventory Turns
Information Technology
Development Costs
Implementation Costs
Maintenance
Total Cost
Payroll
Head Office Payroll
Employee/Store
Daily Wage / Employee
Facilities
Square Footage / Store
Price / Square Foot
Marketing / Advertising
Advertising Cost / Store
Company-wide Spend
Rajendra Desai, XIME, 2009

17. Investment Size
Maximum investment size is the amount of cash required before the company achieves a positive cash flow – depends on revenue model, cost drivers and critical success factors.
Cash flow diagram gives :
Maximum financing needs – depth of the cash trough ; over what period is the investment required.
Positive Cash flow – at what point does the cash flow turn positive ? How long does it take to reach this point ?
Cash breakeven – when does the firm achieve cash breakeven ? How does the slope of the cash curve change after breakeven ?
Rajendra Desai, XIME, 2009

18. Examples of Investment size
Software – large upfront investment – small investment in sales, customer service are required to capture a large revenue stream if the product is successful.
Retail – large lease- rent, inventory and payroll costs require consistent financing needs over time.
Rajendra Desai, XIME, 2009

19. Critical Success Factors
Operational function or competency that the firm must posess to be profitable and sustainable.
Use sensitivity analysis on revenue and cost drivers to determine which are the most important factors affecting the amount and timing of cash flows – these are the critical success factors
Rajendra Desai, XIME, 2009

20. Examples
Subscription /membership – ability to retain customers over a long period of time / acquire new customers at a low costs / consistently increase the share of wallet of old customers.
Transaction based – command a price premium without much increase in costs, exploit economies of scale to lower costs as sales increase.
Advertising based – maintain revenues during low economic periods
Rajendra Desai, XIME, 2009