Last week I introduced you to the concept of business models. This week we’ll go into more detail and talk about the main elements that make up a business model.

Main Components of a Business Model

All aspects of how a business runs are technically included as part of its business model. But all these aspects can generally be separated into 5 main categories.

Each part of the model works with the other parts to run the business effectively. If any one of the parts were to change, then the system would be off, and profits might go down.

Let’s take a closer look at each component.

Value Proposition

This term comes from the idea that the best way to sell your product is to propose to clients that they will gain a certain value from it. This stems from a central aspect of marketing: don’t market your product/service—market the benefits it will provide to the buyer.

For example, a shoe company wouldn’t say, “buy our shoes”. They would instead say something like, “Get comfy feet all day long” or, “Improve your posture”, etc.

Similarly, an accountant wouldn’t say “Buy my accounting services”. Instead, she would say something like, “Get a bigger tax refund” or, “Never worry about accounting paperwork again”.

So your value proposition is the benefits your product/service gives to those who buy it.

Market Segments

Every business caters to only certain types of clients. A funky lady’s clothing store might sell mostly to young women between 15 and 30. A certain book editor might target new authors who write romances.

In any case, you need to fully understand who your target market is. That means who they are, how they think, what they like, the language they use, etc. It is only by understanding these characteristics that you can create appropriate marketing messages that resonate with the types of people you want to attract.

For example, the funky clothing store mentioned above wouldn’t use slogans such as, “Our clothes make you look younger”. They would instead use something like, “Get some serious dip.” And similarly, if our accountant catered to seniors, then, “Save for retirement” wouldn’t be as effective as, “Retirement fund strategies for those over 70”.

Value Chain

This is the nuts and bolts of your business. It includes all the steps you take to create your product or service, and how you get it to your customers.

For a shoe store, the value chain would include things such as buying stock from manufacturers, getting it shipped to their store, keeping it the store for a certain amount of time, holding sales, a plan for the number of shoes that are kept in stock at any one time, where they store their extra shoes, what they do with last season’s shoes that didn’t sell, etc.

For our romance editor, she might do all of her work remotely, relying on email and online applications to do all her communicating with clients. She may use a proofing program to cut down on her editing time, and might do two rounds of editing—first for content/style, and second for spelling and punctuation. She might have a second editor on hand that she can hire from time to time to help her, if she has a particularly complicated book to edit.

Those are two simple examples. In reality, the value chain is more complicated. That’s because it also includes everything behind the scenes that is needed to keep production going—the hiring/training of staff, management, machinery repairs, customer relations, etc.

Revenue Model

This is how a company manages its finances. This includes sales, expenses, refunds, cash flow, and budgeting and forecasting. It’s basically how you make sure you make a profit.

Going back to our shoe store, perhaps a key part of their income is the way they get rid of shoes that don’t sell. Perhaps they have a contract with a liquidator, or maybe they hold an annual sale specifically to get rid of those shoes. Those tactics would be part of their revenue model. Another part might be marking up their shoes by 50% of their wholesale cost. And yet another part might be that the owner works full time in the store, and thereby saves having to pay another employee.

In Harry the website designer’s case (one of our examples from last week’s article) his revenue model includes only taking on businesses with 20 or more clients. This is because he receives, say, a minimum of $5,000 per project with such clients. Smaller businesses can’t afford to pay him this much, so he stays away from them. His cousin Samantha, however, found a revenue model for working with small companies that does work for her. She saves time (and therefore money) by only using ready-made templates, never designing from scratch.

Growth Strategies

This part of a business model has to do with long-term forecasting and planning. It deals with questions such as the following.

How will you ensure your company continues to thrive?
How will you increase your revenue over the next several years?
How will you protect your company’s assets?
What will you do if there is a downturn in the market, or if you suddenly have more competitors?

By addressing such questions, and developing strategies and a plan for long term growth, you help ensure your company will continue to be successful.

* * *

I hope this introduction to business models has given you some ideas for improving the way you manage your own company. And you’ve probably noticed that each of the 5 components is linked to the others. For example:

Your market segments determine what your value proposition is.
Your revenue model depends upon the value chain working effectively.
Your growth strategies affect all other parts of your model.

Getting your business model right is essential to creating a business that actually works, so it is well worth your while to learn about models, and to fully understand/perfect your own.

And if you need any help with that, come join my Free Agent Collective. We love helping members fine-tune their models and turn them into money-making machines!

How does your sausage factory work? Part 2