Download Analysing a Business Model

Analysing a Business Model
Rajendra Desai, XIME, 2009
4 groups of business decisions
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Revenue Sources
Key Expenses
Investment Size
Critical Success Factors
Rajendra Desai, XIME, 2009
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
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
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
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
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
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
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
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
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
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 Concerts
Revenue / Concert
<<<<<<<<
# of Attendees
Revenue / Attendee
Recording Revenue
Albums Recorded
Revenue / Album
<<<<<<<<
# Albums Sold
Revenue / Album
Rajendra Desai, XIME, 2009
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
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
Focus of Cost Driver Analysis
• Cost Driver :
• Is the business model’s cost based on primarily fixed, semivariable, 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
Cost Structure of 7-11 Japan
Total Cost
Cost Centers
Cost of Goods Sold
Cost Drivers
Price/SKU
# of Suppliers
Inventory Turns
Information Technology
Development Costs
Implementation Costs
Maintenance
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
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
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
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
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