Web-based business models, Eduardo Larrain - HEC Paris

Eduardo Larrain - Linkedin - Website
WEB-BASED
BUSINESS MODELS
Slides of class #1 #2 #3 #4 – February 2013
Prof. Eduardo Larrain
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Eduardo Larrain
• HEC 2005 – Strategic Management
• Founder of an Internet start-up called Kel Quartier
• Strategy consultant at Roland Berger Strategy Consultants and Atos – 40 projects
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This lecture was taught at a French business school by Eduardo Larrain

Agenda of the web-based business model lecture
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1. What’s the web? …………………………………………………………………………………………………………………………………………………….………
2. What’s a business model? ……………………………………………………………………………………………………………………………………….……..
3. Why study Internet-based business models? ……………………………………………………………………………………………………….……..…
4. What are the key elements of a business model?
• Value proposition and revenue streams ………………………………………………………………………………………………………….…..
• Drill-down of key Entertainment markets: music, video games, book publishing ………………………………….…………..
• Customer channels, customer relationships, key partners, activities, resources, cost structure …….....….……….…..
5. What are the business models of Internet heavyweights: Facebook, Google, Zynga, Linkedin, Groupon ……….……………
6. What are the most promising business models among the world’s most valuable companies: Digital 100, Twitter ..……
7. Conclusion and farewell …………………………………………………………………………………………………………………………………………………
8. Appendix: group project and individual test ……………………………………………………………………………………………………………….....
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40
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184
185

What’s the web
4

• Web (or World Wide Web or WWW) is a global set of documents, images and other resources, logically
interrelated by hyperlinks.
• Internet (or Net) is a global system of interconnected computer networks that use the standard Internet
protocol suite (TCP/IP) to serve billions of users worldwide. It is a network of networks that carries an
extensive range of information resources and services, such as the inter-linked hypertext documents of
the Web and the infrastructure to support email.
• Information and Communication Technology (ICT) is the use of computers and telecommunications
equipment (IT) which also encompasses other information distribution technologies such as television and
telephones (C).
Web = HTTP, HTML, CSS, JPEG,…
5
Internet = Web + mail + data transfer
Wikipedia
e.g. FTP incl. P2P, VoIP, streaming
media, video conferencing, mobile
apps (not HTML 5 based)
ICT = Internet + IT + C
ICT
Internet
Web
Definitions
What’s the Web?

Eduardo Larrain - Linkedin - Website 6
• In the European Union, two-thirds of all businesses have a Web presence (McKinsey, 2011)
SEARCH
SOCIAL
MEDIA
EVERYDAY
LIFE
NEWS
PORN
TV
ECOMMERCE
VIDEO
PROFESSIONAL
BLOGS
Category
Ranking
Unique
visitors per
month
LEGEND
• Exhibit - Looking at top 100 French websites:
Titiou Lecoq / Diane Lisarelli, Encyclopédie de la Web Culture, January 2011
Is Internet only about Web presence?

• Exhibit - Looking at top 100 websites in UK, France, Germany, Italy, Spain, Switzerland, Brazil, US and
Australia
Number of unique users, January 2010
BBC, SuperPower: Visualising the internet, January 2010
Is Internet only about Web presence?

• In retail alone, G-20 consumers researched online and then purchased offline (ROPO) more than $1.3
trillion in goods in 2010
Boston Consulting Group, The Internet Economy in the G-20, March 2011
Is Internet only a distribution channel for online retail/ecommerce?

Internet is not just a distribution channel or
just about Web presence

0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2006
Conglomerate
Professional, Scientific, and Technical Services
Finance and Insurance
Information
Health Care and Social Assistance
Wholesale Trade
Retail Trade
Utilities
Transportation and Warehousing
Manufacturing Telecommunication
Manufacturing Automotive
Manufacturing
Métaux
Pétrole
Agriculture, Forestry, Fishing and Hunting
Chiffre d'affaires des 100 plus grandes sociétés US
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2006
Conglomerate
Professional, Scientific, and Technical Services
Finance and Insurance
Information
Health Care and Social Assistance
Wholesale Trade
Retail Trade
Utilities
Transportation and Warehousing
Manufacturing Telecommunication
Manufacturing Automotive
Manufacturing
Métaux
Pétrole
Agriculture, Forestry, Fishing and Hunting
Profits des 100 plus grandes sociétés US
Metal
Petroleum
Analysis based on Fortune 500, 2007
• 75% of the economic impact of the Internet arises from traditional companies that don’t define
themselves as pure Internet players (McKinsey, 2011)
• Exhibit - Looking at top 100 US companies through time:
Is Internet an Industry?

Internet is not just an industry
Internet is touching every part of the
economy (like electricity)

1. Web activities using Web as a support
• Ecommerce, content, online, advertising
2. Tecommunication based on IP communication
• Internet service providers
3. Software and services activities linked to the Web
• IT consulting, software development
4. Hardware manufacturers, maintenance providers of Web-specific tools
• Computers, Smartphones, hardware equipment, servers used for the Internet
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McKinsey, Internet matters: The Net’s sweeping impact on growth, jobs and prosperity, May 2011
Internet is a technology on which are based numerous activities across
industries
Internet-based activities

Boston Consulting Group, The Internet Economy in the G-20, March 2011
Internet accounts for 3-4% of worldwide GDP
Exhibits – Economic impact of the Internet by McKinsey and BCG

• Free services value are excluded from GDP:
• Emails
• Search
• Collaborative services (wikis, blogs and social networks)
• Similar to housewife activities excluded from GDP
• E.g.
• Craigslist has generated consumer value though reducing classified ad revenues of the US
newspaper industry
• Facebook has generated consumer value
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Though, the Internet economic impact goes beyond GDP generating
consumer surplus when there is not monetary reward
Real economic impact of the Internet

Question raised at class#1
What’s the issue with mobile apps and HTML5?
• HTML5 is a new technology that allows developers to build rich web-based apps that run on any device via
a standard web browser
• Go to www.audacy.fr or www.webformy.com using your smartphone browser to get a view on what is
HTML5
• For mobile applications, choosing a technology can have a large implications on your business model…
• Native technologies (iOS, Android, RIM, Symbian, Windows) are great for:
• Using the phone features (photo,…)
• Using lots of data (offline mode)
• Security (harder to crack)
• When you need real time data
• HTML5 technology is great:
• When you want to launch fast and cheap a mobile application
• Because you are not reliant on App stores indexation
• Other technologies (Adobe AIR,… ) are great for other specific needs
• … and those of main Applications Stores: iTunes App Store, Chrome Web Store, Facebook App Center

What’s a business model
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• A business model describes the rationale of how an organization creates, delivers,
and captures value.
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• A business model is a coherent way to manage and develop an economic activity.
• A business model describes how an enterprise proposes to make money.
What’s a business model?
Basic definition

• A business model is “show me the money”.
• It is a simple expression of the strategy of the company on how to make money
without going into too much details
Very basic definition
What’s a business model?
• In French, we use the english word « business model » rather than translations:
• Modèle économique
• Modèle d’activité
• Modèle d’affaires
• Modèle de revenus, modèle de profit

• A Business plan is a document that describes how a project can be implemented.
• A Business plan usually aims at selling the project because “you can’t have a funding without a Business
Plan”
• A Business plan usually includes a description of:
• The team
• The Business Model
• A Financial Analysis (e.g. financial spreadsheets)
• A Business Environment Analysis (e.g. market, competitors and competitive advantage analysis)
• An Implementation roadmap (e.g. operation plan, milestones)
• A Risk analysis (e.g. SWOT, Critical Success Factors)
A Business Model is not a Business Plan
What’s a Business Plan?

• Strategy is a plan of action and the allocation of resources necessary for carrying out these goals
• Michael Porter’s view on Strategy:
• Strategy is a plan to differentiate the company and give it a competitive advantage
• “Competitive strategy is about being different. It means deliberately choosing a different set of
activities to deliver a unique mix of value”
• Then decisions can only be deﬁned as strategic if they involve consciously doing something
“differently” from competitors and if that difference results in a sustainable advantage
• e.g. making existing methods more efficient (“operational efficiency”) are not strategic since
they can be easily copied by others
A Business Model is not Strategy
What’s Strategy?

Alexander Osterwalder and Yves Pigneur, Business Model Generation, 2010
A business model describes what makes an company unique looking from the
value propositions to cost structure
Key elements of a business model

Cost-side Value-side
A business model is an ecosystem
Rationale beyond those key elements

Why study Internet-based business models
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Business
Models
Internet-
based

Business models have been studied for 30 years
Traditional business models: trying to explain success with profit models
1. Customer Solutions
Time
Profit
Invest to know the customer, create a solution, develop the
relationship
E.g. GE
0
Profit zone
2. Product Pyramid
Time
Profit
At the base are products and services that are low price and
high volume; at the top products and services that are high
price and low volume
E.g. Air France Group: Air France for business and long haul
flights, Transavia for leisure and Hop! for local flights
3. Multi-Component
Several of the components represent a disproportionate
share of the profits
E.g. business seminars at hotels, advertising (Google, Yahoo,
Facebook)?
Basic
activity
Other components
4. Switchboard
Multiple sellers communicating with multiple buyers. The
more buyers and sellers join the great the organization
builds on itself
E.g. eBay, Alibaba, Amazon, Monster, Seloger
Or the opposite: desintermediation (Dell)
Seller Buyers
5. Time Profit
Takes advantage of uniqueness, profit margins erode as
competition seeks to imitate. Time profit companies must
take the lead and maintain a "two year" lead over their
competitors E.g. Intel, Microsoft
Time
F/unité
6. Block Buster profits
Revenue realized is so powerful and fast that in a quick
swoop the model pays for development and marketing costs
E.g. movies, books
Project types
Project return
Adrian Slywotzky and David Morrison, The profit Zone, 1998

7. Multiplier
Strong customer brand
E.g. Disney, Google
Different offers
Key asset
8. Entrepreneur Profit
Hierarchical design with multiple subsidiaries to maintain
closeness with the customer
E.g. Biotechnologies, Google
Basic
activity
Small teams
9. La spécialisation
Specialist are several times more profitable than the
generalist. Characterized by lower cost, higher quality,
stronger reputation, shorter selling cycles, and better price
realization E.g. Home Depot
Return
Specialists
Generalists
10. Install Base
Initial product sales or profits are slim and profit is realized
on the follow-up products and services
E.g. HP printers and Gillette Razors, Ryanair
Margin
Complementary
products
Basic product
11. Defacto Standard
The more players who buy that enter in the system, the
more valuable the network
E.g. Microsoft, Oracle, Skype, Linkedin, spotify, Facebook
Market share
Margin
12. Brand
The Company expends significant marketing investment in
order to build awareness and is reinforced by customer
experience. You know Brand is working when a consumer
says, "I won't change because I trust AT&T". E.g. Google
Price
Brand price
Average
market price

13. Specialty
Specialty companies enjoy a higher premium for their
products and services until competitors start to imitate
E.g. Merck, 3M, Photoshop
Marge
Nowadays5 years ago
Common
Leading
Common
Leading
14. Local Leadership
Many businesses and their company economies are totally
local. Risk occurs when these companies fail to recognize
they are a local business model
E.g. Wal-Mart
Local market share
Local return
0
15. Transactional Scale
Transactions go up but the cost to provide the transaction
does not go up as quickly
E.g. investment banking, real estate, transportation
Transaction size
Transaction return
16. Value Chain
Specific activities pass through a chain of specialist offering
value
E.g. softwares, Intel
17. Cycle Profit
Industries characterized by distinct and powerful cycle. The
company can not control the cycle, but it works to maximize
its position within the cycles grip. As capacity tightens the
companies lead price increases, as capacity loosens, its lag
price declines E.g. Dow Chemical, Toyota
Capacity / Occupancy
Return by unit produced
18. After-Sales Profit
The company's profit does not direct come from the sale of
hte product, but the after sale financing or services of the
product
E.g. General Electric, banking
Basic
offer
After-sales offers

19. New Product Profit
As new products are introduced profit margins are high and
growth rapid. As the product mature the profit margins fall
Time
Diffusion
20. Relative Market Share Profit
Companies with high market share tend to be more
profitable. Large companies have price advantages due to
manufacturing experiences and volume economies, such as
purchasing capability and economies of scale
Relative market share
Return
21. Experience Curve Profit
Experience drives down the transactional cost
Cumulated experience
Unit cost
22. Low Cost Business Design
The company trives on reducing the cost per unit through
cumulative experience
E.g. Southwest Air, Dell, Internet as an channel distribution
(fnac.com,…)
Unit cost
Traditional
Low cost

Why study Internet-based business models?
Two reasons
i. The technological revolution increased exponentially the number of business models
types:
• Marginal cost of digital information comes closer to nothing
• Long tail enables larger segmentation of customers
• Better assets rotation can enable new businesses with low margin
ii. After 30 years, we are better at understanding complex business models

(i)The technological revolution (IT, Internet, biotechnologies, nanotechnologies,…)
Ray Kurzweil video on TED, 2005
The accelerating power of technology
14’00-19’10

Marginal cost of digital information comes closer to nothing
Basic economics
• … Though with the technological revolution, marginal cost of digital information comes closer to
nothing
• Moore law: “number of transistors on a chip doubles every 18 months”
• In basic economics, price falls to the marginal cost which increases with production…
Quantity
Supply
Demand
Price
Exhibit – Market supply and demand
Quantity
Marginal cost
Average cost
Price
Exhibit – Costs of one company

• The great power of the eBay business model is the fact that a small number of salaried employees
and outsource partners can handle a huge and growing volume of business:
• Doubling of transaction volume can be accomplished with relatively modest investments
• Software and servers do the heavy lifting
eBay Headquarters, San Jose California

Long tail enables larger segmentation of customers
Long tail
• Long tail is about selling less of more:
• They focus on offering a large number of niche products, each of which sells relatively infrequently
• Aggregate sales of niche items can be as lucrative as the traditional model whereby a small
number of bestsellers account for most revenues
• Long Tail business models require low inventory costs and strong platforms to make niche content
readily available to interested buyers
• Add-on by a student: Internet by lowering search costs and accessibility costs can even increase the size of the “Head”
Chris Anderson, The Long Tail, 2006

• Amazon sells blockbusters products but also niche hard-to-find products (online book stores bring
access to increased product variety)
• Customer customization has enabled Dell to sell a large volume of products in small numbers
Amazon warehouse, somewhere

Better assets rotation can enable new businesses with low margin
Better assets rotation
Formula of Return on Capital Employed (ROCE)
ROCE = Net Income (R) / Equity (K)
ROCE = (R / K) * (Income / Income) * (Assets / Assets)
ROCE = (R / Income) * (Income / Assets) * (Assets / K)
ROCE = Gross Margin * Assets rotation * Financial lever
• Technological revolution increase assets productivity decreasing the amount of assets immobilized

Design to cost
• Then, new business models with low margin can be designed and have the same return than more
profitable activities
• E.g. Logan, the low-cost brand new vehicule, was designed to be sold at 5 000€ (ultimately 8 000€ in
France)
Exhibit – Different business positioning with same ROCE
Gross
Margin
Assets rotation

Pyramid base: targeting tier 5 population
• Developing countries are inventing new business models in regions with very low purchasing power where
populations where traditionally excluded from any economical business modeling. E.g. Tata vehicule
costing 2 500€ even cheaper than Logan
• 4 billion people live with less than 1 500 USD per year
C. K. Prahalad, The Fortune at the Botton of the Pyramid, 2006

Mobile banking case
• Half population is unbanked worldwide leaving:
• People with no official financial service to save or to borrow:
• Unofficial lending rates range between 50% and 400% p.a, microfinance rates are 20-40%
• One day per month is lost in Morocco to pay invoices
• Enabling mass tax avoidance from States with low budgets
• Raising the cost and complexity for companies t pay their employees
• Though new mobile banking offer are emerging in developing countries. E.g. half public servant in Kenya
are paid with mobile banking
Sénégal
Egypte
Roumanie
Côte d'Ivoire
Djibouti
Maroc
Pologne
Espagne
France
Moy. Afrique
Pakistan
Algérie
Tunisie
Russie
Afrique du Sud
Autriche
Portugal Royaume-Uni
Moy. UE
Allemagne
Mexique
Inde
Etats-Unis
Canada
Chili
Chine
Colombie
Brésil
Arménie
Belgique
Botswana
Danemark
Finlande
Guatemala
Guyane
Irlande
Jamaïque
KenyaKirghizstan
Lesotho
Namibie
Nicaragua
Ouganda
Pays-Bas
Suède
Tanzanie
Vietnam
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
110%
120%
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
Banked population 2008
Mobilepenetration2008

Three current trends
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Other big trends in creating new Internet-based companies
• Pyramid based strategy: create a business model based on people very low purchasing power
• Blue ocean strategy: look for a new ocean rethinking differentiation and low-cost and go beyond
industry boundaries
• Cloning strategy: clone successful internet sites and replicate them in other countries

(ii) We are better at understanding business models
One Business Model Canvas

1 - The proposition value
Definition and scope
• The value proposition describes the bundle of products and services that create value for a specific
customer segment
• Value proposition is marketing territory:
• It can be functional (solves a customer problem, physiological need,…), social (need to belong,
status,…), emotional, relationship…
• It is an aggregation of the benefits that a Company offers customers (solve a customer problem or
satisfies a customer need) minus sacrifices (price, technical process when buying or when recycling,
travel time,…)
• It is a unique combination of benefits and sacrifices
• It is not a list of products and services, technologies or distribution channels

Elements that can contribute to customer value creation
• Newness: some value propositions satisfy an entirely new set of needs that customers previously didn’t
perceive because there was no similar offering. E.g. mobile phones, ethical investment funds
• Performance: improving product or service performance. E.g. bringing more powerful PC, more disk
storages and better graphics
• Customisation: tailoring products and services to the specific needs of individual customers. E.g. mass
customisation
• Getting the job done: helping a customer get a certain job done. E.g. Rolls-Royce airline engines.
• Design: a product may stand out because of superior design. E.g. fashion and customer electronics
• Brand/Status: customers may find value in the simple act of using and displaying a specific brand. E.g.
Rolex
• Price: offering similar value at a lower price e.g. Bic
• Cost reduction: helping customers reduce costs
• Risk reduction: reducing risks customers incur. E.g. giving a one-year service guarantee
• Accessibility: making products and services available to customers who previously lacked access to them.
E.g. NetJets popularized the concept of fractional private jet ownership, RIP Merrill Lynch bring Wall Street
to Main Street in the 60s
• Convenience/Usability: making things more convenient or easier to use. E.g. iPod.

Defining a promise helps understanding the proposition value
Defining the promise or tagline
• The promise is not only advertising territory but it shapes all the business model
• A good promise or tagline must not only deliver a clear message but also advertise an offering truthfully
• A good way to test the effectiveness and strength of a strategy is to look at whether it contains a
strong and authentic promise or tagline
• The promise can still be simple and concise even for large international and complex companies
• Zara (Inditex) promise is “fast-fashion” which has shaped all the company operations
• What are the promise of those companies?
• Starbucks
• Ikea
• Easyjet / Ryanair
• Toyota
• Lego
• Danone
• Yves Rocher

• Starbucks promise: a “third space” of conviviality between home and work

Defining a promise helps understanding the proposition value
Company promise or tagline
• What are the promise of those companies?
• Starbucks
• Ikea
• Easyjet / Ryanair
• Toyota
• Lego
• Danone
• Yves Rocher
• A “third space” of conviviality between home and work
• Functional home furnishing, low price and design
• Simple airline flights at low price faster than the car
• Auto reliability
• Learning though the joy of building
• Health through food and beverages to a maximum number of people
• Beauty based on plants
Denis Dauchy, 7 étapes pour un business model solide, 2010

The proposition value has to take into account all customers
Two customers
• Most of the time, the buyer is not the user of the product or service
Customer 1 Customer 2
Mass-market products
or services
 Distributor  Consumer
Services to
corporations (food,
transportation,…)
 Company  Employees
Web-based business
models class
 Students  Companies (management
consulting firms, investment
banking,…)
Pharmaceutical drugs
 Prescriber (dentist, general
practitioner GP,…)
 Patients, social security

• Companies have long engaged in head-to-head competition in search of sustained, profitable
growth
• Yet in today’s overcrowded industries, competing head-on results in nothing but a bloody ”RED
OCEAN” of rival fighting over a shrinking profit pool
• This strategy is unlikely to create profitable growth in the future
• Leading companies will succeed not by battling competitors but by creating “BLUE OCEANS” of
uncontested market space ripe for growth

Differentiate from competitors or innovate within the value
Red Ocean Strategy vs. Blue Ocean Strategy
• Similar to Michael Porter definition of strategy as a differentiation plan, Blue Ocean Strategy aims at
changing the proposition value to gain profitable growth
• Red oceans will continue to be an important part of a company’s strategy (a lot of tools and framework
already exists) but invest in blue oceans will create profitable growth
W. Chan Kim and Renée Mauborgne, Blue Ocean Strategy, 2005

Differentiate from competitors or innovate within the value
Four questions to challenge an industry’s strategic logic and business model
• First, capture the current state of play in the known market space in order to understand competition and
the principal factors (price, quality, design…)
• Second, reconstruct buyer value elements trading-off between differentiation and low-cost
• E.g. is the company over delivering without payback? (typical of a company caught in the Red
Ocean)

• In the 80s, Circus was a declining industry with decreasing audiences because of increasingly
attractive alternative forms of entertainment
• There were star performers but none could compete with movie stars, multiple show arenas and a
audience of families
• There was also increasing sentiment against the use of animals in circuses by animal rights groups
• Cirque du Soleil launched in 1984 and is now one of Canada’s largest cultural exports. Why?

Cirque du Soleil created a new value curve offering the best of both circus
and theater and eliminating or reducing everything else
Cirque du Soleil canvas
• By offering unprecedented utility, Cirque du Soleil has created a blue ocean and has invented a new form
of live entertainment, one that is markedly different from both traditional circus and theater
• Cirque du Soleil strategically priced its tickets against those of the theater because it attracted an adult
theater audience
• Cirque du Soleil tagline is: ”a mix of circus arts and street entertainment”

• With which industry do Southwest airlines compete?
• In what do they focus, in what they differ and what are they tagline?

DIVERGENCE FOCUS
52
Southwest airlines created a new curve offering high-speed transport with
frequent and flexible departures at prices attractive to the mass of buyers
Southwest Airlines canvas and the low-cost model
• Southwest Airlines created a blue ocean by breaking the trade-offs customers had to make between the
speed of airplanes and the economy and flexibility of car transport
• Southwest emphasizes only three factors (focus) and differentiate on four others factors from the
industry’s average profile (divergence)
• Southwest promise or tagline: “the speed of a plane at the price of a car… whenever you need it”

• With which industry do Logan compete?
• In what do they focus, in what they differ and what are they tagline?

Logan created a new curve offering a new car for the price of an used-car
Logan canvas
• Logan promise or tagline: “for the price of an used-vehicule, have a new car”
• Similarly, Amazon launched Marketplace not only to compete with second-hand cultural goods
marketplace like eBay but to close the gap between new and second items
Price Spaciousness Garanty Resistance Design Accessories Status
Low price new vehicule
Used-vehicule
Logan
DIVERGENCEFOCUS
High
Low

55
2 – Revenue stream
• Revenue stream is the cash a company generates from each customer segment
• A business model can involve two different types of Revenue streams:
• Transaction revenues resulting from one-time customer payments
• Recurring revenues resulting from ongoing payments to either deliver a Value proposition to
customers or provide post-purchase customer support

Ways to generate revenue streams
56
• Asset sale: selling the ownership rights to a physical product. E.g. Amazon selling a book
• Usage fee: selling the use of particular service. E.g. A telecom operator charging by the minute
• Subscription fee: selling continuous access to a service. E.g. Club Med Gym, WOW/World of Warcraft
online
• Lending/Renting/Leasing: temporary granting someone the exclusive right to use a particular asset for a
fixed period in return for a fee. E.g. Autolib
• Licensing: giving permission to use protected intellectual property in exchange of licensing fees. E.g. media
industry
• Brokerage fees: intermediation services performed on behalf of two or more parties. E.g. credit cart
providers, real estate agents
• Advertising: fees for advertising a particular product, service or brand.

Pricing mechanisms
57
Each revenue stream might have different pricing mechanisms

How do you set a price
58

Price is determined by what a buyer is willing to
pay and the competition is allowing to be
charged (not by markup on cost)
Price is determined by strategy

Pricing strategy depending of the product life cycle
60
Reminder
• Product introduction:
• Market skimming strategy setting up a very high
price . E.g. Electronic goods, luxury
• Or Penetration strategy: real low price even below
cost to gain market share
• Growth: decrease price because of volume
• Maturity: decrease price because of competition
• Decline: special offer because price is the main factor of
value
Chris Anderson, Free the future of a radical price, 2009
Milton Friedman, There's no such thing as a free lunch,1975

How can a product be free
61

62
Introduction to Free
• Free is giving without a cost… all included
• Free is not to be mistaken with “free” used by advertisers when it’s not really free:
• Free “buy one get one free” is just another way of saying 50 percent off when you buy two
• Free gift inside
• Free shipping
• Basic economics: there's no such thing as a free lunch
• The "free lunch“ refers to the once-common tradition of saloons in the United States providing a
"free" lunch to patrons who had purchased at least one drink. All the foods on offer were high in salt
(e.g. ham, cheese and salted crackers) so those who ate them ended up buying a lot of beer.
• You can make money on free (revenue stream) but also free can lead to fast growth:
• Before the 2000’s, Dell was known to be the first company to have reached one billion sales after
been launched in less than 10 years
Milton Friedman, There's no such thing as a free lunch,1975

The penny gap theory
63
• The penny gap is the difference between cheap and free
• For small payments, there is not a constant elasticity in price
• Zero is one market and any other price is another market
• Zero can attract lots of people because from the consumer’s perspective charging even a penny
makes us think about the choice

The economics of abundance (vs. scarcity)
64
• Digital technologies have become too cheap to meter creating a economy of abundance (e.g. information)
• Digital free theory:
• “If it’s digital, sooner or later it’s going to be free”
• “When something halves in price each year, zero is inevitable”
• “Waste is good”
• “Every abundance creates a new scarcity” (e.g. time)
• Though, externalities for the consumer still exist: technical process when buying or when recycling, travel
time,…

4 revenue streams around: first two been very old but evolving and the last two are emerging
with Internet
65
A. Direct Cross-Subsidies: give a free product that have high probability to make people pay for something
else
B. The “three-parties” (or two-sided markets): one customer segment subsidizes another (the most
common)
C. Freemium: premium paid version
D. Non-monetary markets: people choose to give away with no expectation of payment

66
A – Direct Cross-Subsidies
• This is the oldest and most familiar model where the cost of one product is shifted into the price of
another
• Free attracts customer in masses. Then cross-selling or up-selling validate the business model:
• Give a product (equipment) and sell a service (maintenance) or another product (supplies)
• Key success factor is the increase the equipment rate with products with better profitability
• It has other names: Gillette and razor blades, Equipment and Supplies, Equipment and Maintenance

How can you sell airlines tickets far under cost?
« People pay attention on ticket price not on the extra’s »

Famous examples of direct-cross subsidies
68
Free or far under cost Where the money comes from Companies
Printer Ink Printer manufacturer
Coffee machine Capsules Nespresso
Razor Razor blades Gillette
Real estate loan, credit card,
savings account
Cross-selling because customer
is stuck with the same bank for
20/30 years
Retail banks
Airline ticket Hotel room, rental car, cruise
and vacation package
Go Voyages, airline companies
Elevator Maintenance and security
upgrades
Elevator companies
Alarms Electronic surveillance Security companies
Equipement Reagent supplies Medical biology companies
Telephone Communications Carrier

More examples of direct-cross subsidies
69
• Give away services, sell products (Apple Store Genius Bar Tech support)
• Or Give away products, sell services (free gifts when you open a bank account)
• Give away software, sell hardware (IBM and HP’s linux offerings)
• Or Give away hardware, sell software (video game console model)
• Give away cell phones, sell minutes of talk time (many carriers)
• Or Give away talk time, sell cell phones (many of the same carriers, with free nights and weekend
plans)
• Give away the show, sell the drinks (strip clubs)
• Or Give away the drinks, sell the show (casinos)
• Free with purchase (retailer “loss leaders” e.g. gas sold in a supermarket)
• Free samples (gift boxes)
• Free trials (magazine subscriptions)
• Free parking (malls, supermarkets)
• Free condiments (restaurants)

70
B – Three-parties or Two-sided markets
• A third party pays participate in a market created by a free exchange between the first two parties. Thus
one customer segment subsidizes another
• The most common of the economies built around free is the three party system
• Advertising is the most famous one where advertisers pay for media to reach consumers:

Markets with three-parties revenue stream
71
• Three-parties is not limited to advertising
Market First-party
Consumer
Third-party Second-party
examples
Search Internet user Advertisers Google, Yahoo!
Online recruitment Job seeker Recuiters Monster, cadreemploi,
keljob
Free newspapers Readers Advertisers Metro, 20 Minutes
Free softwares Readers Software publisher Adobe
Debit card Card owners Retail Banks
Ecommerce platform Sellers Buyers eBay, Amazon
marketplace
Outdoor advertising Municipalities Advertisers JC Decaux, Clear Channel

More examples of three-parties
72
• Give free voice calling (in the US), charge advertisers (Facebook Messenger app)
• Give away content, sell access to the audience (ad-support media)
• Give woman free admission, charge men (bars)
• Give children free admission, charge adults (museums)
• Give away listings, sell premium search (match.com)
• Sell listings, give away search (craigslist housing)
• Give away travel services, get a cut of rental car and hotel reservations (travelocity)
• Give away house listings, sell mortgages (Zillow)
• Give away content, sell information about the consumers (practice fusion)
• Give away content, sell stuff (Thinkgeek)
• Give away content, charge advertisers to be featured in it (product placement)
• Give away resume listings, charge for power search (Linkedin)

73
C – Freemium
• Freemium is giving a free basic version to most of people and charging for a premium version to a few
people
• Freemium or contraction of Free and Premium was invented by Fred Wilson in 2006.
• Freemium is different with direct-cross subsidiaries because the ratio of free to paid is high (e.g. 90%,
95%) when giving free sample has a low ratio
• This ratio is enabled by Internet because the cost of serving the basic version is close to zero
• Si it’s not the same thing as "premium with a free sample.“
• Freemium is one of the most common Internet-based business model even though not every product or
service can work as freemium

Different kind of limitation of the basic free version
74
C – Freemium
• Functionnalities
• e.g. Linkedin, Flickr, Skype, Evernote, WordPress
• Time
• e.g. legal online streaming
• Capacity
• e.g. sending large files, DropBox (cloud backup system)
• Storage
• e.g. webmails
• Others factors
• e.g.
• Spotify and Gmail invitations
• Seat limited (first customers get free seats)
• Customer type limited: free for small and young companies, universities (licence model)

Why go for Freemium business model?
75
C – Freemium
• Marketing:
• By definition, having a free product makes it really easy to get customers
• Even though a free user might not convert, they can invite other free users who might (referral)
• Network effects (like fax):
• A network effect is what happens when a product or service becomes more valuable the more
people use it
• A phone isn't very useful if you can't call anyone else with it. But once everyone you know has a
phone, it becomes a pretty valuable thing to have
• If you're in a market that lends itself to network effects you're going to want to have a free basic
product because if you don't someone else will and will use the network effects to crush you
• E.g. Skype has 600 million users who make calls for free over the internet and only a small
percentage of those pay to make calls to landlines
Business Insider, What Is The Freemium Business Model, 04/2011

Key success factors (if not, choose another business model)
76
C – Freemium
• Get lots and lots of free users:
• Freemium is a numbers game: if only 1% of your users are going to pay you, then you need to have lots and lots of
free users (millions, typically) to make that 1% enough money
• If your product is more niche, go for premium instead of freemium
• If your product is not sticky, go for advertising instead of freemium
• Have a product or service whose value to users increases with time:
• This is the biggest thing that most people
• The value of your service needs to increase the more people use it
• E.g. Spotify: where you create all your playlists and organize your music. Once you've done thatyou're much more
likely to pay up. The value of Spotify to you has gone up from being just music to music, your playlists and your
friends' playlists, so paying starts to make sense
• Keep costs low:
• Freemium works because the marginal cost of each additional user is low, so you need to keep your operating costs
correspondingly low
• Time:
• It takes a long time to be profitable because users take longer to convert as the value of the product to them
increases over time, and because you keep adding (hopefully) new free users, freemium businesses take a long time
to reach breakeven point
• As people get older, people migrate into paying customer (premium part of freemium) because they get richer
Business Insider, What Is The Freemium Business Model, 04/2011

Examples of freemium
77
• Give away basic information, sell richer information in easier-to-use form (BoxOfficeMojo)
• Give away generic management advice, sell customized management advice (McKinsey)
• Give away Web content, sell printed content (everything from magazines to books)
• Give away online games, charge a subscription to do more in the game (penguins)
• Give away demo software, charge for the full version (most video games)
• Give away computer-to-computer calls, sell computer-to-phone calls (Skype)
• Give away free photo-sharing services, charge for additional storage space (Flickr)
• Give away basic software, sell more features (QuickTime)
• Give away ad-supported service, sell the ability to remove the ads (Ning)
• Give away "snippets" sell books (Google Books)
• Give away virtual tourism, sell virtual land (Second Life)
C – Freemium

78
D – Nonmonetary markets
• People give away content with no expectation of Payment
• Gift economy is based on the principle that the action of individuals have a global impact
• People give for different reasons: to gain reputation e.g. blog writers, altruism e.g. Wikipedia
or unintentionally/passively (web content helps Google)
• Labor exchange: paying something with labor even without knowing it
• E.g. free content in exchange of Captcha solving (used by spammer in exchange of free porn
but also used by Google Street view to decipher street numbers, names and trafic signs)
• E.g. voting on Digg, Yahoo Answers or using Google 411 (phone directory in exchange of
speech sound)
• Piracy: when piracy is so powerful that content producer have accepted that, form them, doing the
activity is not a moneymaking business
• E.g. online music

• Google is getting the public to identify house numbers and signs from Street View photos as part of
its reCAPTCHA anti-spam technology and feeding the data into its online mapping service

Answers to reCAPTCHA challenges are used to digitize textual documents
80
reCAPTCHA is a free CAPTCHA service that helps to digitize books,
newspapers and old time radio shows
OCR: Optical Character Recognition programs
Example of a CAPTCHA
Comparison of the accuracy of standard OCR versus
reCAPTCHA transcriptions

Features with poor usability can be an opportunity for revenues
CAPTCHA can also be used for advertising and generate revenues
Adyoulike

• How’s the music industry going?

Looking at the music industry
Global recorded music sales are decreasing since end of the 90’s due to digital piracy
Exhibit – Global Recorded Music Sales (bn USD, trade value)
IFPI, press report, 2012
Synchronization rights: revenues from music acquired for movies, advertisements and music videos

Music downloads still accounts for 80 per cent of digital music revenues but the market is
maturing
• Piracy has made difficult of charging a price for listening songs or albums
• Though consumers still find value in downloads from iTunes Music Store, VirginMega, FnacMusic and
others because of the sacrifices of the free music downloaded illegally (quality, security, complexity,
accessibility…)
• Even if downloads of music from iTunes Store and others still account for 80 per cent of digital music
revenues, this market is maturing and spending is flattening in all key territories

Streaming and downloads make the digital proposition value
• Consumers are finding great value in:
• Having access to millions of songs (sellouts are impossible)
• Creating and sharing playlists
• Listening to music in on all devices everywhere (accessibility = cloud storage, remember Philipp
comment on the “head” part of the long tail)
• Listening to music even offline
• Sharing his songs and getting recommendation on social networks
• Fremium streaming music services such as Spotify will be the key growth drivers over the next years as
usage and spending grow rapidly:
• Spotify Open: free but limited in number of songs and number of hours
• Spotify Unlimited: a monthly fee limited on a laptop
• Spotify Premium: a monthly fee for listening to music in on all devices and even offline
• All Spotify offers enable users to share easily on social networks such as Facebook:

Music streaming business model is already the largest market in Sweden, a country with a
robust culture of Internet piracy
IFPI Svenska Gruppen, press report, 07/2012
• Music revenues are increasing the Swedish music industry market due to digital sales
• Streaming is even cannibalizing downloads in Sweden
• Music licensing for online videos is a growing market as more and more people watch videos that are
accompanied by music

Digital recorded music is expected to overtake physical sales in 2015
PwC, Global Entertainment & Media Outlook, 2012

• 11 M song tracks (stock) in 2001, 100 M in 2010 (Gracenote/Sony db > Shazam db)
• Growth of the Gracenote database obviously includes a lot of older music that has only recently been
indexed and that is been rediscovered
– E.g. Oscar Wilde - Los Vidrios Quebrados (1967)
• The trend still looks like the amount of music available to consumers is steadily growing
• At the other side, overall sale of music (including albums, singles, digital tracks,…) exceeded 1.5 billion
transactions in 2010 (up from 845 million transactions in 2000)
88
What about content production and consumption?
The amount of content being produced and consumed in music is believe to be growing
Floor 64, The Sky Is Rising, 01/2012

• Psy with its Gangnam Style song, viewed more than 1 billion times,
would never had been a success outside South Korea without Youtube
– It generated 8 M USD from advertising (50/50 split)
• Ticket prices and merchandise have become major sources of income
for many popular rock stars like Lady Gaga, Madonna, Bruce
Springsteen and for bands like U2
• It’s not easy to duplicate the experience of a live show, so concerts
have become a source of revenue for musicians and aren’t negatively
affected by the availability of free downloadable music - in fact, free
music can encourage fans to attend live performances
• There’s actual scarcity for live music
• Other trends:
– Algorithms may be replacing humans in some parts of discovering new
talent (or at least discovering talent more cost-effectively)
– Gracenote, Shazam,… are datamining music metadata in order to serve
better music recommendations to consumers or to predict which artists
will be popular with target demographic groups
89
What about musicians revenues?

What has the Entertainment industry learned from the Music industry?
PwC, Global Entertainment & Media Outlook 2012-2016, 2012
Other Entertainment industries continued to grow in the past years when the Music industry,
newspapers and consumer magazine publishing took a hit

Some Entertainment industries have found new business models successful with the Digital
era, others no… well not yet… thus a business model challenge
IFPI, press report, 2012
• For consumers, today is an age of absolute abundance in entertainment due to the digital era and piracy
• New business models based on Digital sales are emerging in each Entertainement industry to take over
decreasing physical sales

PwC, Global Entertainment & Media Outlook 2012-2016, 2012
Though not all new business models can be based on Advertising since advertising is a
huge but finite market and volatile (reliant on the economic situation )

• Has the internet decimated the entertainment industry, or are we living in a new gold age for both
content creators and consumers?
• Entertainment spending per households as a function of income is increasing from 4.9% in 2000 to
5.6% in 2008 (US)
• The amount of content being produced in music, movies, books and video games is believe to be
growing:
• 1/4 M new books were available in 2002, 3 M in 2010
• 1.700 new movies p.a. in 1995, 7.000 in 2009
• 11 M song tracks (stock) in 2001, 100 M in 2010 (Gracenote db)
• The Entertainment industry is growing though the value chain is being totally redesigned

• How’s the video game industry going?

• Globally, the amount that consumers spend on video games - for hardware, software and accessories - has
grown from about $20 billion in 2000 to approximately $70 billion in 2011
• The demographics of video game players has expanded greatly beyond the traditional core of boys and
young men:
– 53% of game players are male and 47% female
– Average gamer player age is 30
– The amount of time kids are spending on video games has grown from 26 minutes per day in 1999 to 1 hour and 13
minutes in 2009 due to mobile device that has allow kids to squeeze more playing time into their busy days (Kaiser
Family Foundation survey)
• Worldwide, the population of gamers has exploded from 250 million in 2008 to 1.5 billion in 2011
95
Looking at the video game industry
Video games sales have grown with the digital revolution and cross the barrier of gender and
age limitations

• The traditional console business model, based on the
installed based per the attach rate (number of games
per owner), led to an elitist approach to game design
since price of each game was high (40-60 USD) and
hardcore gamers wanted a return for their investment
• New video games digital segments have emerged:
– Downloads: Steam is to games as iTunes is to music
– Massively Multiplayer Online (MMO) e.g. World Of
Warcraft
– Online / Casual
– Mobile
– Social
• Digital sales (and rental delivery) now generate 40% of
the industry
96
Purchases of digital content are growing the video games industry
ESA, Essential Facts about the computer and the video game industry, 2012

• Piracy of video games has fewer benefits than music
and movie piracy: Piracy is an issue for single-player
mode though the primary reason people buy games
retail is for the multiplayer modes:
– Most pirated games do not allow for multiplayer as the
game often has to connect to an official server where its
legitimacy can easily be verified by some sort of
authentication service
• Steam is to games as iTunes is to music:
– Steam is a digital distribution, digital rights management,
multiplayer and communications platform
– Steam has an estimated 70% share of the digital
distribution market for video games (competitor: EA’s
Origin)
– One PC game out of three is downloaded (average price
not much lower than retail: -7%)
– Steam is developed by Valve Corporation best known for
a number of popular entertainment franchises such as
Counter-Strike, Half-Life, Left 4 Dead
97
Looking at the video game download business model
2011 top-selling games at retail ranked by unit sales (VGChartz)

• Massively Multiplayer Online game are video games in which a large number of players engage
simultaneously in a persistent world
• Value of an MMO is in the size of the community per life time (retention)
• The hardcore game MMO revenue stream was invented by World of Warcraft:
– Average customer lifetime of 18 months
– Client box or download (50 USD)
– Subscription fees (15 USD/m)
– Virtual goods
– Average full cost to complete WoW for a gamer is 300 USD
• Few MMO have been able to replicate WoW model so they switch to F2P to lower entry barrier and get a
sizable community e.g. Habbo Hotel, Kart Rider, Warhammer, Everquest,…
– Free trial or free game
– Subscription optional
– Virtual goods for actions items (competition) and personalisation (expression)
• Theory of engagement: « the longer a user plays the more chances there are he buys virtual items »
– Items payable through micro-payments mainly inside the game (60%) and on an external web site
98
Looking at MMO business models
Luc Bourcier, Game in progress new business models for the videogame industry, 04/2012

• Online casual games are games played online to “kill time, make a pause, relieves from stress”:
• Free-to-Play (F2P) is the main business model (also for social games and some mobile games)
• F2P is a freemium business model that can be based on:
– Try-and-buy: limited access (time, levels,…), though games must be really addictive
– Advertising with ads display on hosting sites or inside the game
– Virtual goods
99
Looking at the online casual business model

• Ten of thousands of mobile games for smartphones and tablets can be download on platforms such as the
Appel App Store, Android MarketPlaces (Google Play), Amazon, Facebook Mobile and Playstation Suite
• Distribution is bypassing carriers: 30/70 meaning the game app developer get 70% of sales revenue (vs.
45/55 in cell phone business)
– An opportunity for mobile banking?
• Mobile video game revenue stream is based on:
– Selling the app (e.g. at 0.99 cent or F2P model)
– Selling virtual goods
– A little of advertising (average of 15%):
• Offer walls
• Sponsoring
100
Looking at the mobile video game business model

• Social games are those games played primarily on social networking sites or games that can be played with
a person’s real world social graph
– E.g. CityVille, FarmVille (Zynga), EA (Sims)
• Social video game revenue stream is based on:
– F2P model with a logic of a massive audience
– Virtual goods (50%)
– Advertising (25%)
– Lead-generation offers (25%): virtual currency incentives by marketers to social gamers in exchange of signing up for
subscriptions, participating in surveys, or buying goods and services
– Since virality is a key to success, notifications, invitations, sharing, gifting and other social network tools are used
extensively to get new customers
– Social games must work with a low retention rate (first day retention rate of 30% is a “huge success”)
101
Looking at social games

Looking at the e-sports business model
• Twitch launched 18 months ago borne out of Justin.tv, the largest online community to live streaming
service to enable streaming video service embedded into popular games
• Twitch provide instant broadcasting of user gameplay: 23 million unique viewers per month, viewers
watched 6 billion minutes viewed in December 2012, average session time of 1.5 hours
• Twitch is getting embedded in games such as Call Of Duty: Black Ops 2
• Twitch business model is based on sharing advertising revenue with broadcaster and in growing the e-
sports market e.g. Twitch has announced a new scholarship of $50,000 to five student gamers

• “Gamification” trend meaning that video games are no longer restricted to leisure:
– Every part of our lives will eventually be turned into a game
– Potentially encourage people to change their behavior to:
• Benefit the environment
• Perform their jobs better
• Lose weight
• Buy products
• Perform almost any task imaginable
• Games are even encroaching into vocational education
103
What’s next for the game industry?

• Two business models:
– Based on subscriptions such as Vimeo
• 150.000 paying subscribers in 2010
– Based on advertising such as Youtube
• 400 M USD of adversitiving revenues in 2010
• Online videos are also a substantial traffic driver to social networking (e.g. Facebook)
104
Short focus at online video services
Purely online video services are not yet collecting revenues at the same scale as the
traditional TV and films industries, but the size of this audience is unquestionnably large

• How’s the book publishing industry going?

• Consumer and educational book publishing will increase by 0.6 percent compounded annually to 116 bn
USD in 2016 from 112 bn in 2011
– E-books grow their share of global spending from 5% in 2011 up to 18% in 2016
– Print/audio consumer and educational books will continue to decline throughout the forecast period notably
paperback books (“livres de poche” in French)
• Publishers will need to provide eBooks in addition to paperbacks and the entire value process will be
changing, from aggregation right to distribution
• Piracy less likely to impact digital sales like in the music industry: demographic groups that are most often
associated with digital piracy (generally men between 20 and 39 years old) and not the same than those
associated with high-volume reading of mass market books (in general women age 40 and older)
• New intermediaries are emerging to handle eBooks:
– eBook platform (e.g. mass aggregators such as Amazon, Apple, and Google)
– Handling of payments
– Support for digital conversion
– Establishment of a digital content system
106
Looking at the book publishing industry
Sales of e-books expected to compensate the decline of the physical books
PwC, Turning the Page - The Future of eBooks, 2010

• Apps and special eBook editions enriched with music and video
– Notably for educational and juveniles segment e.g. Byook start-up http://youtu.be/O_pBNPe3s-M
• Sales of individual chapters and sections from books
• Offer additional content such as a blog/forum dedicated to a chapter or sentence, immediate definition of
a word, links to other content (news/other authors),…
• Easier to sell updates
• Books on demand
• Easier to sell porn and erotic fiction
• Establish basic contracts with university libraries to offer free eBooks for students or offer special editions
exclusively to students for a discounted price
• Providing online reviews (non-monetary action is posting a review at Amazon website)
107
New revenues streams are emerging and changing current business models
PwC, Turning the Page - The Future of eBooks, 2010

• In 2010, 4 million new titles were published with 92% of those being “non-traditional” i.e. self-publishing
and books representing the reuse of content, most of it not covered by copyright
• Non-traditional books are largely on demand titles produced by reprint houses specializing in public
domain works and by presses catering to self-publishers and micro-niche publications
• Non-traditional titles are marketed primarily on the Web
108
Non-traditional book publishing on the internet is 8X the output of traditional book
publishing
Bowker, ISBN Output 2002-2011, 2012
Non-traditional numbers are undersestimated since books with no International Standard Book Numbers (ISBN) are not included

The traditional business model of book publishing
109
What’s the business model of self-publishing?

A new business model by lulu.com
110
What’s the business model of self-publishing?

• World population continues to grow
• Literacy rates are increasing
• Developing nations are taking advantage of the lower infrastructural costs of ebooks
• Number of books per inhabitant is low in developing countries because books are much more expensive
than in France and hardcover book piracy is high
111
The best opportunity for the book publishing market is volume enabled by lowering costs of
digital distribution

• Filmed Entertainment has grown worldwide from 26 bn USD to 37 and is expected to reach 46 in 2015
(PwC)
• Film piracy includes Internet piracy and Hard-good piracy
– Though piracy apologists have long argued that online piracy was good for business (similar to freemium theory)
• New business model are aimed at decreasing demand for illegal pirated downloads:
– Worldwide releases
– Day-and-date digital releases (releasing in theaters and VOD the same day)
– Ultra release (releasing on VOD before a theatrical release) can also create a buzz and increase the number of people
going to theaters
• Current digital business models includes:
– VOD (Video-On-Demand)
– Over-the-top online movie providers such as Hulu and Google TV
– Steaming such as Amazon and Netflix
112
Short look at the film industry
Film industry is growing but new digital-based business models are yet to be found

Entrepreneurship tips
113
Question raised at the end of class#2
Is my start-up a good idea and what do you think of the business model?
1. No one can tell you if your Internet-based company will be a success or not (remember Twitter)
2. Go out and meet other entrepreneurs at conferences, start-up dating, La Cantine,…
• Top Upcoming Paris Startup Events (Paris StartupDigest newsletter)
• February 18 - [cours] Faire parler de sa boîte dans les médias (45€)
• February 18 - Master Classe Entrepreneur avec Gilles Babinet (39€)
• February 19 - L'importance de l'innovation technologique dans l'entrepreneuriat (gratuit)
• February 20 - Cup of Ideas Voice - Session CFO (15€)
• February 20 - Conférence Innover Entreprendre (gratuit)
• February 26 - Atelier Start'UP #11 : Les clés d'un bon prévisionnel financier (49€)
• February 26 - ApéroFounder : Trouver un co-fondateur (gratuit)
• February 26 - Startup Calling (gratuit)
• February 28 - Formation Business Angels – « De la Lettre d’Intention au Closing » (50€)
• February 28 - Pitch My Game (gratuit)
• …
3. Learn to pitch your business model and do a great presentation
• Like design, presentation performance does matter

Entrepreneurship tips
114
Question raised at class#2
Is my start-up a good idea and what do you think of the business model?
4. Find a team since it is the most valuable assets of a start-up
• Choose people to complement your skills
• An idea has no value so you can talk to people about your projects (though don’t tell industrial secrets i.e. how you
can do it)
5. You can start a Internet company without money notably in France:
• Though money save time
• Though money “is the nerf de la guerre”
• The earlier you ask for money, the more diluted you will be
• Your company has no value until it has users, revenues, profits or a product / technology

115
3a – Customer segments
• Customer segments are the different groups of people or organizations an enterprise aims to reach and
serve
• In order to better satisfy customers, a company may group them into distinct segments with common
needs, common behaviors or other attributes.
• An organization must take a conscious decision about which segments to serve and which to ignore (like
facebook)

Different types of Customer Segments
116
• Mass market: e.g. consumer electronic sector
• Niche market: such business models are often found in supplier-buyer relationships, e.g. car part
manufacturers (e.g. Faurecia in France)
• Segmented: a company serve several different industries with the same needs or segment customers to
provide a different proposition value:
• e.g. in the banking industry individuals customers can be segmented in wealth Management (>1M€
financial assets), High Net Worth (>0,1M€) and large public
• Diversified: a company serve unrelated customers segments with different needs e.g. Amazon sell “cloud
computing” services
• In fact, there are usually always two type of customers with different needs: B2B and B2C
• Multi-sided markets: e.g. a credit card company need a large base of credit card holders and a large base
of merchants who accept those credit cards

The Three Tiers of Noncustomers
117
Noncustomers differ in their relative distance from your market but they all
offer big blue ocean opportunities
• First-tier: buyers who minimally purchase an industry’s offering out of necessity and they are waiting to
jump ship and leave the industry
• Second-tier: people who refuse to buy your industry’s offerings
• Third-tier: people who have never thought of your market’s offerings as an option

How to attract each tiers of noncustomers
118
• First-tier: Pret targeted UK workers who used not to go to a restaurant for healthy and time-consuming
reasons with fast-food and fresh meal
• Second-tier: JC Decaux targeted refusing municipalities and corporations by putting advertising in the
street furniture instead on city outskirts
• Third-tier: defense department has usually sold military technology to the private sector
• Companies should go for the biggest catchment at the time although there could be overlapping
commonalities across all three tiers of noncustomers

119
3b – Channels
• Channels are the way how a company communicates with and reaches its customer segments to deliver a
value Proposition
• Communication, distribution and sales Channels comprise a company’s interface with customers

Type of channels
120
3b – Channels
• Distribution channels can be owned (sales force, web sales, own stores) or done with partners (partners
stores and wholesaler)
• Partners channels lead to lower margins but they allow an organization to expand its reach and benefit
from partner strengths
McDonald’s 2008 Restaurants Income
bn USD
Income growth
Owned 6,502 16.5 0%
Franchise 25,465 6.9 13%

121
3c – Customer Relationship
• Customer Relationships are the type of relationships a company establishes with specific customers
segments
• A company should clarify the type of relationship it wants to establish with each customer segment
(customer acquisition, customer retention, boosting sales/upselling)

Categories of Customer Relationships
122
• Personal assistance: relationship based on human interaction. E.g. point of sales (pos), call-centers.
• Dedicated personal assistance: dedicating a customer representative specifically to an individual client. It
represents the deepest and most intimate type of relationship and normally develops over a long-period
of time. E.g. key account managers, HWN individuals consultant
• Self-service: no direct relationship with customers
• Automated services: more sophisticated form of customer self-service with automated process. E.g.
offering a book or movie recommendations
• Communities: deploy user communities to become more involved with customers/prospects and facilitate
connections between community members
• Co-creation: go beyond the traditional customer-vendor relationship and co-create value with customers.
E.g. Youtube, Amazon invites customers to write reviews and thus create value for other book lovers

The buyer experience cycle
123
Great blocks to utility can be identify looking at the buyer experience in order
to be removed and unlock exceptional utility
• A each stage of the buyer experience, managers can ask a set of questions to gauge the quality of buyers’
experience and thus unlock utility for buyers
• The following questions can help you identify the most compelling hot spots to unlock exceptional utility:

124
4a – Key ressources
• Key resources are the most important assets required to make a business model work
• Key resources can be:
• Human
• Physical assets: manufacturing facilities, buildings, vehicles, machines, systems, point-of-sales
systems and distribution networks
• Financial resources / guarantees: cash, lines of credit, or a stock option pool for hiring key
employees.
• E.g. distributors (B2C) have usually a low or negative working capital as for producers (B2B),
they usually have positive working capital
• Intellectual: brands, proprietary knowledge, patents and copyrights, partnerships and customer
databases

125
4b – Key activities
• Key activities are the most important things a company must do to make its business model work
• There is several types of key activities:
• Production: designing, making and delivering a product. E.g. Manufacturing
• Problem solving: coming up with new solutions to individual customer problems. E.g. hospitals,
consltancies and services organizations
• Platform/Network: networks, platforms, software and brands. E.g. eBay, Visa

126
4c – Key partnerships
• Key partnerships are the network of suppliers and partners that make the business model work
• There is four types of partnerships:
• Buyer-supplier relationships to assure reliable supplies
• Strategic alliances between non-competitors
• Coopetition: strategic partnerships between competitors
• Joint ventures to develop new businesses

Motivations for creating partnerships
127
• Optimization and economy of scale: optimize the allocation of resources and activities since it would be
illogical for a company to own all resources or perform every activities by itself
• E.g. 100,000 people will have contributed to build your iphone 5.0, limitation for 3D printers
• Reduction of risk and uncertainty: it is not unusual for competitors to form a strategic alliance in one area
while competing in another. E.g. Blu-ray
• Acquisition of particular resources and activities: such partnerships can be motivated to acquire
knowledge, licenses or access to customers

Tracking partnerships with the code bar and code packer
128
Exhibit - Code bar Exhibit - Code packer
Exhibit – Tracking a partnership for a bean can with Open Food Facts
OpenFoodFacts

129
5 – Cost structure
• Cost structure is all costs incurred to operate a business model
• Naturally enough, costs should be minimized in every business model but we have already see that some
business models are more cost-driven than others (design to cost, pyramid base):
• Cost-driven: focus on minimizing costs wherever possible maintaining the leanest possible cost
structure
• Value driven: focus on value creation rather than the cost implications

Who are the Internet heavyweights
130

Top 10 Internet IPOs
131
Looking at Internet heavyweights…
10 biggest Internet IPOs of the last 10 Years
Internet companies IPO
year
Area Stock price since IPO
IPO-February 2013
Facebook 2012 Social media -30%
Google 2004 Search and advertising +620%
Alibaba 2007 B2B ecommerce Since then delisted from
Hong Kong Stock Exchange
Yandex 2011 Russian search engine -70%
Shanda Games 2009 Online games -70%
Zynga 2012 Social games -60%
Giant 2007 Online games -70%
Renren 2011 Chinese social media -80%
Groupon 2011 Discounted gift certificates -80%
Linkedin 2011 Professional social media +70%

• What is Facebook business model?

What is Facebook’s business model?
Facebook value proposition
Facebook value proposition
• Facebook helps Internet users stay connected with their friends, families, and colleagues
• Facebook provides a number of products, free of charge, to its users:
• Timeline, News Feed, Photos and Videos, Messages (Email, Chat, Text Messaging), Groups,
Lists, Events, Places, Subscribe, Ticker, Notifications, and Facebook Pages
• Facebook have a “long tail” of customers (not dependent upon any single customer for their
revenues)
Business Model Innovation Matters, Understanding Business Models, 2012

Its revenue stream is mainly advertising-based
Facebook, Facebook Reports Fourth Quarter and Full Year 2012 Results, 30/1/2013
Facebook key operational figures
• Fourth Quarter 2012 Operational Highlights:
• Monthly active users (MAUs) were 1.06 billion as of December 31, 2012, an increase of 25%
year-over-year
• Daily active users (DAUs) were 618 million on average for December 2012, an increase of 28%
year-over-year
• Mobile MAUs were 680 million as of December 31, 2012, an increase of 57% year-over-year
• Mobile DAUs exceeded web DAUs for the first time in the fourth quarter of 2012
• Recent Business Highlights
• Mobile revenue represented approximately 23% of advertising revenue for the fourth quarter
of 2012, up from approximately 14% of advertising revenue in the third quarter of 2012
• Facebook launched Graph Search Beta, a structured search tool that enables users for the first
time to find people, places, photos and other content that has been shared on Facebook
• Launched Facebook for Android 2.0, completely rebuilt to deliver improved stability and faster
performance and opened Facebook Messenger to anyone with a telephone number

Its revenue stream is mainly advertising-based
Fabernovel, Facebook, The Perfect Startup, 05/2012
Facebook key financial figures
• 5.1 bn in 2012 (up from 3.7 bn USD in
2011)
• 83% of revenues coming from advertising
• Profit down to 0,05 bn in 2012 (down from
1 bn USD in 2011) mainly due to shares
given to the top management
Exhibit – Key figures 2011

Facebook replicated Google’s formula... with relatively less success
Facebook advertising model

Facebook’s main asset is the connections and interactions between users
Facebook’s Social Graph
• 100 billion friendships, 250 million photos uploaded every day and 2.7 billion Likes and Comments per day
• « User engagement » is key for Facebook success

Looking at the Canvas
Facebook business model using the Canvas

Facebook vs. MySpace
Automated news feed launched in 2006 gave the illusion of a continuous user and
personalized activity that MySpace didn’t have

Similar to Google’s Page Rank, Facebook’s created its Edge Rank based on
an algorithm
Facebook’s Edge Rank

Its new Open Graph is expected to leverage its current business model (key
partners)
Facebook’s new OpenGraph

Facebook is a social media (not only network) based on advertising
Facebook’s like button developed the social graph even further

Facebook could be squeezed out in the next years by new competing apps
On Mobile Facebook lost the central position n the ecosystem which made its success on the
web

If successful, Facebook can become the apps merchandising expert
In May 2012, Facebook launched its mobile weapon: the Facebook App Center

Facebook’s stock quote highly volatile since the company is still growing fast and it is in the
advertising business

• What is Google business model?

What is Google’s business model?
Google value proposition
Google value proposition
Organize the world’s information and make it universally accessible and useful…
… for better quality leads

Google has changed the ad industry by giving products away to end users for free
(in return for advertising), as well as reducing the advertising costs for brand
Google revolution on advertising
• Google opened up the market to SMEs and extended the reach of larger corporations
• A great search algorithm is important though real advantage comes from the massive investments in
Google platform which means tiny marginal costs, so Google give Free products to end users
Illustration – Advertising market by company size

Google revenue stream comes from Google AdWords and Google AdSense
Google revenue stream
Traffic acquisition costs (TAC) comprises of money paid to the Google Network websites under the Adsense program and to the distribution partners who distribute Google
Toolbar and other products or drive traffic to the Google websites.

Two-thirds of Google revenues come from AdWords and remaining from AdSense
Google quarterly revenues
Google, Q3 2012Quarterly EarningsSummary, 2012

Newspaper ad revenue after Google

Google give products away in return for advertising (two-sided market) and
Google reduce the advertising costs for brand
Google business model using the Canvas

Google is trying to remain central in the Mobile experience
Google strategy on mobile
• Mobile advertising is still in relative infancy, though the mobile device is quickly becoming the world’s newest gateway to
information
• Google dominate the mobile ad market which is mainly based on search
• Google is trying to remain central in the Mobile experience controlling the hardware, as well as the software:
• On the software side,
• Android was created to be a free, fully open source mobile software platform that any developer could use to
create applications for mobile devices and any handset manufacturer can install on a device
• Android include the Google Mobile App
• On the hardware, Google acquired Motorola Mobility in 2012 (12,5 bn USD) in order to acquire Motorola’s patent
portfolio and remain central in the mobile experience like Apple has demonstrated with its popular iPhone

Google’s stock quote highly volatile since it is in the advertising business

• What is Zynga business model?
155

What is Zynga’s business model?
Zynga business model key elements

Zynga business model key elements
• Value proposition: free-to-play social gaming
• Revenue stream: freemium model
• F2P for hundred of millions of players
• Limited by “Energy”: after a mission, players have to wait for energy to be replenish (can take several hours)
• Sell virtual goods like “Energy” (95% of revenues, remaining is advertising)
• Players can also take surveys, buy services from Zynga's partners, watch advertising videos in order to obtain
game credits
• Key partner: Facebook contributed to 94% of Zynga revenue though Zynga contributed “only” to 15% of Facebook’s
Revenue
• Customer acquisition is key:
• Zynga's customer acquisition was largely built on Facebook initially and most of its new users came in through
incentivized viral loops
• But Facebook prevented applications in 2010 from sending messages to news feeds of friends because of spam
concerns:
• Many of Zynga's games involve players posting messages to non-players, often for in-game benefits.
• Many non-players have notably complained about such communications created by those games that appear
to them as "spammy"
• Key activities: even if Zynga has plenty of games, revenues come mainly from three games: Farmville, CityVille and
MafiaWars

Zynga relies on "hit" games and so its business will always have an element
of cyclicality
Zynga users growth

Zynga business model using the Canvas
Citrix Startup Accelerator, Zynga Business Model Canvas, 06/2011

• Facebook and Zynga revised their partnership:
• Facebook can make its own games, if it chooses
• Facebook will no longer be the exclusive social platform for Zynga, allowing it to launch
games first on mobile or its own Zynga.com platform

Growth will have to come from other platforms, particularly Google+ and
mobile games
Zynga stock quote dropping since the IPO because of stable “bookings” and partnership
revision with main partner, Facebook

• What is Linkedin business model?
162

What is Linkedin’s business model?
Linkedin business model key elements
• Value proposition: help professionals stay connected with each other by creating and managing a professional identity and
building a professional network
• Helps getting new businesses, helps changing jobs, helps networking
• Revenue stream: freemium model
• Free for its network members: Profile and Profile Stats; LinkedIn Connections, Invitations, and Introductions;
knowledge and insights using tools such as LinkedIn Groups, Network Updates, News, Answers etc.
• Premium offering (50% of revenues): LinkedIn InMails and Profile Stats Pro
• 1,5% of user are premium (90,000)
• Hiring Solutions and advertising (50% of revenues): recruiters post and manage job opportunities
• Competitors: Monster, Cadreemploi,…

Linkedin business model using the Canvas

• Linkedin acquired Slideshare in 2012 to add presentations to your Linkedin profile (individuals and
company) to differentiate from other Hiring solutions showing just a resume with cold data
(education, experience and skills) leading to:
• A better recruitment search
• Higher switching costs for members

Recruiting presents the best growth catalyst for Linkedin
Linkedin stock quote went up since IPO

• What is Groupon business model?
167

What is Groupon’s business model?
Groupon business model key elements
• Value proposition:
• Deep discount deals for customers who discover new services and merchandise
• Guaranteed revenues and large number of customers for merchants and incremental revenues (Gap Groupon value of
50 USD likely to convert into 75-100 USD spending in the store)
• Best suited businesses: those with high fixed costs, high customer acquisition costs and repeat purchases
• Revenue stream:
• Groupon share of 50% on deals
• Negative working capital since payments spread out in 3 installments over lifecycle of a deal
• Customer relationships:
• Horrible publicity surrounding Groupon
• Lack of quality control
• Cost structure:
• High cost of customer and merchant acquisition (sales people on the ground)
• Lack of network effect: each city has to be won separately
• Low switching costs for merchants and customers
• Competitors: Living Social (Amazon) and DealMap/Dailydeal (Google)
• Past competitors: Yelp and Facebook

Groupon business model using the Canvas
Sami Dob, Is Groupon Business Model profitable for Merchants? for Consumers? 2011

Groupon stock quote went down since IPO

Groupon growth future remains in its huge customer database of 200 Million
Groupon key growth levers
• Increase purchasing frequency and repeat buys
• Activate dormant customers who have not purchased
• Reduce cost structure notably customer costs acquisition
• Improve execution and quality control

Quizz
Top 5 Internet
IPOs
1. Network
effect?
2. Switching
costs?
3. Sales and/or
R&D engineers?
4. Revenue not
the right KPI?
Facebook
Google
Zynga
Groupon
Linkedin
1. Which company has network effects?
2. Which company has locked the customer (high switching costs)?
3. Which type of employees work in each company (sales and/or R&D/engineers)?
4. For which company, revenue is not a Key Performance Indicator?

Web-based business models, Eduardo Larrain - HEC Paris

Web-based business models, Eduardo Larrain - HEC Paris

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