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Entrepreneurship 101: Building a Business Model

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Speaker: Dr. Ajay Agrawal, Peter Munk Professor of Entrepreneurship, The Rotman School of Management

For more information: http://www.marsdd.com/Events/Event-Calendar/Ent101/2007/businessmodel-20071219.html

Published in: Business, Technology
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Entrepreneurship 101: Building a Business Model

  1. 2. ` Building a Business Model Presented by: Dr. Ajay Agrawal, Peter Munk Professor of Entrepreneurship, The Rotman School of Management 19, December 2007
  2. 3. The Entrepreneur’s Three Key Questions December 19, 2007 Entrepreneurship 101 @ MaRS Professor Ajay Agrawal Rotman School of Management ©2007 Ajay Agrawal
  3. 4. Three Key Questions <ul><li>What’s my business? </li></ul><ul><li>What’s my business model? </li></ul><ul><li>What’s my pricing strategy? </li></ul>©2007 Ajay Agrawal
  4. 5. What’s my business? ©2007 Ajay Agrawal
  5. 6. What’s my business? <ul><li>Analytical approach to identifying the choice set </li></ul><ul><ul><li>Market size </li></ul></ul><ul><ul><li>Competition </li></ul></ul><ul><ul><li>Barriers to entry </li></ul></ul><ul><ul><li>Social relationships </li></ul></ul><ul><ul><li>Industry knowledge </li></ul></ul><ul><li>Costs of switching businesses </li></ul><ul><ul><li>Technical, analytical, marketing, social </li></ul></ul><ul><li>Suggested reading: </li></ul><ul><ul><li>Scott Shane (2000) “Prior Knowledge and the Discovery of Entrepreneurial Opportunities,” Organization Science </li></ul></ul><ul><ul><li>Ed Roberts (1991) “Entrepreneurs in High Technology,” Oxford University Press </li></ul></ul>©2007 Ajay Agrawal
  6. 7. What’s my business model? ©2007 Ajay Agrawal
  7. 8. What’s my business model? <ul><li>Most common options </li></ul><ul><ul><li>Sell service </li></ul></ul><ul><ul><li>License technology </li></ul></ul><ul><ul><li>Sell product </li></ul></ul><ul><li>Key issues </li></ul><ul><ul><li>Who owns key complementary assets? (market power?) </li></ul></ul><ul><ul><li>Appropriability of value? Enforcement of patent protection? </li></ul></ul><ul><li>Suggested reading: </li></ul><ul><ul><li>David Teece (1986) “Profiting from Technological Innovation,” Research Policy </li></ul></ul><ul><ul><li>Ed Roberts (2003) “The Product Market and the Market for ‘Ideas’: Commercialization Strategies for Technological Entrepreneurs,” Research Policy </li></ul></ul>©2007 Ajay Agrawal
  8. 9. Cooperate or Compete? <ul><li>Gans and Stern evaluate the commercialization strategy for start-ups: </li></ul><ul><ul><li>Cooperate (sell license) </li></ul></ul><ul><ul><ul><li>commercialize by engaging in an intermediate market to sell their intellectual property to an incumbent </li></ul></ul></ul><ul><ul><li>Compete (sell product) </li></ul></ul><ul><ul><ul><li>commercialize by developing the good in-house and competing directly in the product market </li></ul></ul></ul><ul><li>The decision of whether to license is based primarily on two factors </li></ul><ul><ul><li>the excludability environment </li></ul></ul><ul><ul><li>the specialized complementary asset environment </li></ul></ul>©2007 Ajay Agrawal
  9. 10. Two Elements of the Commercialization Environment <ul><li>The excludability environment </li></ul><ul><ul><li>To what extent can successful technological innovation by the start-up preclude effective development by an incumbent with knowledge of the innovation? </li></ul></ul><ul><li>The specialized complementary asset environment </li></ul><ul><ul><li>To what extent does the incumbent’s complementary assets contribute to the value proposition of the new technology? </li></ul></ul>©2007 Ajay Agrawal
  10. 11. Benefits from Engaging the Intermediate Market for R&D <ul><li>Savings </li></ul><ul><ul><li>If the incumbent firm has already invested in developing the specialized complementary assets, the entrant can save the costs of duplicating this effort and the savings may be shared between the incumbent and entrant </li></ul></ul><ul><li>Less competition </li></ul><ul><ul><li>If the entrant engages the intermediate market with its invention, that will preclude it from entering the product market. As such, there will be less competition in the product market and so producers will collect a greater surplus </li></ul></ul>©2007 Ajay Agrawal
  11. 12. Costs of Engaging the Intermediate Market for R&D <ul><li>The main cost is the potential expropriation of intellectual property secrets and know-how by trading partners arising from the paradox of disclosure </li></ul>©2007 Ajay Agrawal
  12. 13. Importance of Complementary Assets Excludability Low Low High High ©2007 Ajay Agrawal Compete (stealth strategy, Christensen, disk drives; disrupts existing industry leadership) Cooperate? (strategy: invest in reputation for trading in ideas; e.g., Cisco; formal organizations, e.g., ASCAP in music, TLOs in universities, VCs; reinforces existing industry leadership) Either Strategy (strategy: entrepreneur’s choice, relative returns from competition v. cooperation?; e.g., Xerox developed complete vertical chain versus Nintendo’s widespread licensing of software development tools) Cooperate (strategy: demonstrate value, attract multiple bidders; biotech/pharma; reinforces existing industry leadership)
  13. 14. What’s my pricing strategy? ©2007 Ajay Agrawal
  14. 15. What’s my pricing strategy? <ul><li>Cost-plus VS Value-added </li></ul><ul><li>Variation in demand creates need for pricing </li></ul><ul><ul><li>Examples </li></ul></ul><ul><ul><ul><li>Price discrimination </li></ul></ul></ul><ul><ul><ul><li>Bundling </li></ul></ul></ul><ul><li>Suggested reading </li></ul><ul><ul><li>Carl Shapiro and Hal Varian (1999) “Information Rules,” Harvard Business School Press </li></ul></ul><ul><ul><li>Timothy Aeppel (2007) “Changing the Formula: Seeking Perfect Prices, CEO Tears Up the Rules,” Wall Street Journal </li></ul></ul>©2007 Ajay Agrawal
  15. 16. Which Price is Right? <ul><li>Estimated Costs: </li></ul><ul><ul><li>Parts ($400), Labor ($100) </li></ul></ul><ul><li>What should the selling price be? </li></ul>©2007 Ajay Agrawal
  16. 17. Extension: Demand Curve What is the optimal price? Profit? ©2007 Ajay Agrawal
  17. 18. Simple Example (1) <ul><li>Product: X </li></ul><ul><li>Customers:A, B </li></ul><ul><li>WTP A,B (X): $50 </li></ul><ul><li>P = </li></ul><ul><li>Π = </li></ul>©2007 Ajay Agrawal
  18. 19. Simple Example (2) (Introduce variance in WTP) <ul><li>Product: X </li></ul><ul><li>Customers: A, B </li></ul><ul><li>WTP A (X): $50 </li></ul><ul><li>WTP B (X): $20 </li></ul><ul><li>P = </li></ul><ul><li>Π = </li></ul>©2007 Ajay Agrawal
  19. 20. Simple Example (3) (Variance in WTP) <ul><li>Product: X </li></ul><ul><li>Customers:A, B </li></ul><ul><li>WTP A (X): $30 </li></ul><ul><li>WTP B (X): $20 </li></ul><ul><li>P = </li></ul><ul><li>Π = </li></ul>©2007 Ajay Agrawal
  20. 21. Simple Example (4) (Introduce Price Discrimination) <ul><li>Product: X </li></ul><ul><li>Customers:A, B </li></ul><ul><li>WTP A (X): $50 </li></ul><ul><li>WTP B (X): $20 </li></ul><ul><li>P A = </li></ul><ul><li>P B = </li></ul><ul><li>Π = </li></ul>©2007 Ajay Agrawal
  21. 22. Extension: Demand Curve What is the optimal price? Profit? ©2007 Ajay Agrawal
  22. 23. Optimal (Single) Price (Profit = 225) ©2007 Ajay Agrawal
  23. 24. Profit Increase by Price Discrim. (Profit = 300) ©2007 Ajay Agrawal
  24. 25. Simple Example (5) <ul><li>Product: X, Y </li></ul><ul><li>Customers: A, B </li></ul><ul><li>WTP A (X): $50, WTP A (Y): $20 </li></ul><ul><li>WTP B (X): $20, WTP B (Y): $50 </li></ul><ul><li>P X = </li></ul><ul><li>P Y = </li></ul><ul><li>Π = </li></ul>©2007 Ajay Agrawal
  25. 26. Simple Example (6) (Introduce Bundling) <ul><li>Product: X, Y </li></ul><ul><li>Customers:A, B </li></ul><ul><li>WTP A (X): $50, WTP A (Y): $20 </li></ul><ul><li>WTP B (X): $20, WTP B (Y): $50 </li></ul><ul><li>P X = </li></ul><ul><li>P Y = </li></ul><ul><li>P X,Y = </li></ul><ul><li>Π = </li></ul>©2007 Ajay Agrawal
  26. 27. End ©2007 Ajay Agrawal

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