This article was originally published by the World Economic Forum.
COVID-19 has caused the largest and fastest shift in human behaviour change at scale, ever. As digitalization is already underway in almost every organization, this shift has accelerated the adaptation of digital technologies. In the second quarter of 2020, cloud IT infrastructure investments increased by 35% year on year. As a result of the pandemic, with its widespread demand for video communication and home office applications, the business case for IT infrastructure is clear and can convince even critical Chief Financial Officers.But overhyping the technical digitalization of existing businesses, can make us complacent. Our future requires more dynamic changes than simply applying digital technologies to do what we have always done, faster and cheaper. If changes are too small, organizations run the risk of digitizing the past instead of innovating and transforming for the future.
Despite the reset on the horizon, many incumbent companies base their business models on yesterday’s logic; they risk relying on improvements that only scratch the surface. 80% of executives think that their business models are at risk; while 60% of companies that have successfully undergone a digital transformation, say they transformed into new business models. To not let the crisis go waste, we need to challenge our basic assumptions about how to create, deliver and capture value.
Our analysis of 250 digital initiatives worldwide reveals that most companies still focus on process automation and efficiency gains. In other words, they make the existing processes more digital, such as document workflows replacing paper-based processes. Fortunately, an increasing number can be classified as process reimagination that challenge and put the existing processes to the test before re-implementing them. Predictive maintenance scenarios replacing traditional repair-replace processes would fall into this category. Analysis of 250 digital initiatives worldwide
However, only a minority of organizations transform the operating model, which implies that digital technologies have become an integral part of the organization’s value-creation architecture. One example is Adidas group’s so-called “Speedfactory” approach, which integrates a number of trends transforming supply chains today, including 3D printing, customization at a mass scale, near-sourcing, and the digitalization of its operation. Similarly, a bank that establishes a hub to provide financial services at other banks, or embeds them into enterprise processes, could be classified as operating model transformation.
Lastly, only a minority of companies drive digital transformation in the form of a business model transformation. For example, Microsoft transformed from the Windows-grounded software product firm into a cloud platform company, which works across technologies and integrates with partners and ecosystems like LinkedIn and GitHub. From 2015-2020, their share price has nearly quadrupled, revenues have grown by 65% and shifted from upfront licenses to recurring subscription revenues.
As we can see, there is an important difference between the digitalization of the existing business model versus a digital transformation towards a new business model. While process automation, reimagination and operating model change, can often be done locally in an engineering department, a business model transformation cuts across divisions and business functions. It requires new leadership and backing from the Board(s) and then can be a highly effective lever for systematically driving digital transformation in a coherent way. For companies seeking to implement that kind of transformation, the World Economic Forum has developed a tool to help executives adopt a fit-for-purpose digital business model.
A business model is the distinctive logic of how to create value in the back-end, deliver value in the front-end to customers and other stakeholders, and capture value via the monetization mechanics for the organization.
During the COVID-19 crisis, not all business models have been hit the same. The first factor influencing this is the company’s sector.
Winning sectors have been healthcare, with firms like Roche and Healthineers, major suppliers of testing kits and near-patient testing devices. We have seen a rise in e-commerce companies, such as Amazon, which triggered demand for logistics companies, such as UPS, FedEx, DHL. Cloud infrastructure companies, like Amazon Web Services, and streaming companies, like Netflix, profited as lockdowns gave them a boost.
In sharp contrast stand the losing sectors that have been hit hard, such as the travel industry, airlines, cruise ship operators and hotels. Even AirBnB, with their commission-based lodging business, needed to lay off 1,900 employees. Hertz car rental and Vapiano restaurants filed for Chapter 11. The economic slowdown and less travel dealt a severe blow to the oil and gas sector.
The second factor is the resilience of a business model. We can classify business models along two dimensions, which lead to four types: Product, Project, Platform and Solution. Within the same industry sector, the business model types with higher inclusiveness have been better off because, on average, they showed higher resilience in times of the pandemic. Transforming business models to build resilience.
Increasing inclusiveness can be achieved when the comprehensiveness of the offering and/or the stickiness of the business transaction is enhanced, via a platform or solution business models. This implies moving from standalone, often physical offerings with vastly independent transactions, to comprehensive and integrated offerings with recurring transactions.
With higher inclusiveness levels, we have generally witnessed an increase of resilience. The higher the offering’s breadth and depth, the bigger the ecosystem around its customers, and the more premium services are integrated (e.g. free-of-charge shipping, unique content), the less reasons exist to change vendors. Furthermore, subscription-based monetization models increase the probability that the customer will continue the relationship with the same vendor and often leads to a chain of transactions.
Certain sectors illustrate how leaders can foster inclusiveness of their business model to positively influence their firm’s resilience.
Retail: Non-inclusive, product-centric retailers have been hit hard with the sudden shift away from bricks and mortar shopping and had to shut stores for ever, such as J.C. Penny, Neimann Marcus and Galeria.
In contrast, the digital platforms, with their inclusive model, have been the winners. Amazon posted its biggest profit ever and a 40% revenue jump in the second quarter. Click and collect programmes helped smaller retailers to partly increase their inclusiveness and stop wasting money through inefficient home delivery operations.
Manufacturing: Traditional manufacturers face downward pressure on demand, production, supply chains, especially when the bulk of on-site jobs cannot be done remotely. At the same time, COVID-19 is accelerating the transformation of traditional producers into more digitized, resilient approaches in production and logistics with more connectivity, advanced analytics, automation, and advanced-manufacturing technologies.
Companies that provide value-added services on their platforms, could rely on recurring revenue streams, such as Siemens. The same applies for inclusive Internet of Things (IoT) platforms like Microsoft Azure or AWS IoT platform with their resilient models.
Financial Services: Retail banking is shrinking in times of social distancing and near-zero interest rates, as demonstrated by Deutsche Bank closing every fifth outlet in their home market. In contrast, inclusive platforms have proved their resilience. Chinese insurance group PingAn transformed into an integrated financial services company and platform player, orchestrating healthcare, auto, real estate, and smart city services. Also, family offices, which provide holistic solutions, demonstrate resilience in times of capital markets volatility.
Sports and Fitness: While COVID-19 has forced many fitness studios companies to file for Chapter 11 (Town Sports International, 24 Hour Fitness), virtual workouts are soaring. Peloton could prove the resilience of their fitness platform model and reported +66% in sales in the first quarter, reaching over 866,100 connected fitness subscribers in total, a 94% increase from last year. Apple launched Fitness+, a subscription programme offering personalized workouts for the Apple Watch as part of the Apple ecosystem.
Professional Services: Consulting companies, with their project business model, were expected to have lots of consultants “on the bench”. However in times of crisis they could build on their long-standing customer relationships and now deliver most projects remotely. Some consulting firms even “productized” their project knowledge, built up intellectual property, and shifted into platform business models, such as Infosys. Hence proving business model transformation an effective lever for digital transformation.
As we can see, customization does not increase resilience per se but provides important flavours of additional resilience. Increasing customization means moving from standardized, packaged, and automated offerings to individualized offerings that are co-created by company and customer. The resulting tighter provider-customer bond and the accumulation of domain-specific knowledge bolsters resilience in a time of crisis.
The COVID-19 crisis will widen the gap between the winners and the losers. Reactionary management is not strategic leadership and hope is not a business model. It is time to reinvent.
Every organization needs to become digital in the sense of being software and data-driven. But not everything will be digital. It is not about either/or. Effective new business models strike the right balance and integrate the digital, physical, and human world.
Smart leaders make sure that some 30% to 40% of their transformation initiatives are focused on new business models and ideally drive new digital native revenue streams. In a disrupted world, they invest in strategic resilience and focus on inclusive – comprehensive and sticky business models – like platforms and solutions.
While challenging, these initiatives will be richly rewarding in terms of opening up much broader opportunities for long-term value creation for all stakeholders. Closing with the words of Peter Drucker: “The greatest danger in turbulence is not turbulence; it is to act with yesterday’s logic.”
