What a business model describes: customers and offering

Why analysts start with the business model

Before forecasting a company's sales or judging its risks, an analyst needs to know how the business actually makes money. The business model is that description: its customers, its offering, how it reaches buyers, how it prices and what it needs to deliver. It feeds directly into the outlook, the risk assessment and the inputs of a financial model.

Many winning businesses sell nothing new. They combine familiar ingredients in a new way, for instance flat-packed furniture with a design identity and huge out-of-town stores, or a better way to earn money from a free service. Others, such as banks, wholesalers or building contractors, run long-established models and win through better execution, scale, brand or technology rather than through novelty.

There is no single official definition, so treat the business model as a checklist of questions. The answers should make the main elements and the links between them clear. Go much further, into budgets, hiring plans and quarterly targets, and you are writing a business plan instead.

• Who? The customer base: which segments, which type of customer, which regions.
• What (and why)? The products, services and experience offered, and why customers choose them.
• Where? The channels: where the firm sells and how the offering reaches customers.
• How much? The pricing strategy, relative to competitors and to costs.
• How? The key assets, capabilities, partners and suppliers needed to execute.

Who: customers and segments

A business model should name its target customers. Are they other businesses (business-to-business, B2B) or consumers (business-to-consumer, B2C)? Which countries or regions are served? And which segments, or groups of customers with shared attributes, are being targeted?

Segmenting groups customers by attributes useful for product design, marketing and sales: geography, demographics, income, life stage, seasonal timing, behaviour, preferences, affinity for technology or self-image. Segments can be very narrow and specific to a product category, for example "young urban cyclists who commute year-round in cold climates".

With modern data, firms can segment down to small areas such as a postal code, then combine similar groups from many regions into one larger, uniform market that targeted digital advertising can reach cheaply.

Segment choices create both opportunity and risk. New businesses often succeed by serving a segment that incumbents ignore or do not even see. But a chosen segment can shrink, change its tastes, attract competitors or be expensive to enter. Even silence matters: if management does not name its target segment, the analyst should infer it (for example a gradual move down-market), because that drives unit and price forecasts.

What and why: the offering

The model should say what the firm sells and how, if at all, it differs from rival offerings in meeting the target customers' needs. This sizes the addressable market and exposes risks such as easy imitation or substitution.

A useful lens is the job the customer is hiring the product to do. Products that look unrelated can do the same job: a video-call service and a business-class airline seat both solve "meet the client". Thinking this way reveals hidden competitors and substitutes, and the analyst can then ask which customers choose which option, and when.

Business customers usually have clear, measurable needs and buy carefully to earn a profit. Consumers have varied needs that are hard to quantify: one buyer wants the cheapest car per kilometre, another wants style, speed or low emissions. Advertising and product placement can even create those wants.

Be sceptical of vague claims. Some managements describe their offering in very broad terms, overstate how different it is or point to a "platform" that barely exists, all to suggest that everyone is a potential customer. Check such assertions with independent research.

The "what" evolves. A company might start by mailing physical media for rent, switch to a flat monthly subscription, then move to streaming and finally to making its own exclusive content. Each step changes customers, channels, pricing and costs, so business model analysis is never finished.