Business Models, Strategy and Tactics

This note will provide you with a simple way to understand what business models are. You will also be
able to see how business models are linked to strategy and tactics (and yet distinct from them). There is
no generally accepted definition of a business model. Practitioners often talk about a business model as
“the way the firm operates”.
For this note, we will discuss two ways of thinking about business models. The first approach has been
popularized by Professor Clay Christensen at HBS1. The second approach has been promoted by another
Harvard professor Ramon Casadesus-Masanell (along with his co-author Joan Ricart of IESE)2. Both the
approaches though have common elements that you recognize. So, my advice is for you not be too hung
up on which of the two approaches is better but rather focus on the most important components that
constitute a business model.3 As an example, we will discuss JetBlue’s business model. Finally, this note
will highlight the difference between strategy and business model.
Christensen’s approach

According to Christensen, a business model consists of four interlocking, interdependent elements that,
taken together, create and deliver value. It starts with a value proposition—a product or service that
helps customers do more effectively, conveniently and affordably a job that they’ve been trying to do. By
job we mean a fundamental problem in the customer’s situation that needs a solution. Every job has
functional, emotional, and social dimensions of the result that is needed—which define the experiences in
purchase and use that need to be provided to get the job done perfectly. The value proposition is the
“customer value” – the one that increases the customer’s willingness-to-pay.
The value proposition defines the resources the business must put in place in order to deliver the value
proposition. In general, resources are things such as people, technology, products, suppliers, distribution

1
What are business models and how are they built? HBS module note. 2011
2
How to design a winning business model. HBR. Ramon Casadesus-Masanell and Joan Ricart. 2011
3
There are other ways of defining business models. One that is sometimes used by practitioners is
https://www.businessmodelsinc.com/about-bmi/tools/business-model-canvas/
channels, equipment, facilities, brands and cash. Resources typically can be hired and fired, bought and
sold, built or destroyed.
As a company uses its resources to deliver the value proposition, processes coalesce. Some processes are
visible, codified and consciously monitored and managed. Other processes are habitual ways of working
together to get things done that have evolved over time in response to recurrent tasks. When processes
have been used successfully and repeatedly, they become followed by assumption, rather than explicit
decision - “That’s just the way we do things around here”—and become part of the culture of the
organization.
The profit formula defines the gross and net margins the organization must achieve, given the structure
and magnitude of the fixed and variable costs inherent in its resources. It specifies how big the
organization must become in order to break even, and the pattern of profit improvement, if any, that
comes from increasing scale. And the profit formula defines how fast the organization must turn over its
assets, in order to achieve adequate returns.
In general, the value proposition defines value for the customer and the profit formula defines value for
the company and its owners. The resources and processes describe how that value will be delivered to
both the customer and the company. Also notice how the arrows are bidirectional denoting the
interdependencies among the components.
Example:
Let’s take an example of the case we covered this week (JetBlue)
Value proposition: JetBlue primarily targeted the vacation or leisure traveler. This customer segment is
different than what the full-service carriers (such as Delta, United, American) targeted – business
travelers. A vacation traveler values low price! (For the business traveler, usually her company pays for
it). Since JetBlue’s customer segment mostly lived in New York and Boston, they would prefer long-haul,
non-stop flights to their vacation destinations in Florida and California. Also, because these are long-haul
flights, these travelers would also prefer inflight entertainment and meals to be served. They would need
easy access to airports within the city of origin. So, JetBlue uses major airports within the city (rather than
secondary airport prioritization of Southwest). Remember, all these underlined are value drivers for
JetBlue’s customers and increase her WTP (the top end of the value stick!). Also don’t forget the no
cancellation policy, which is highly valued by vacation travelers! (They need to reach their destination but
they are not so fixated on delays)
Resources: To deliver these value proposition, JB needs slots in Boston Logan and New York JFK
airports. It needs to keep costs low to be able to deliver low prices. So, the standardized A320! We
discussed in class, how standardization has so many benefits. Pilots and staff benefit from such
standardization.
Processes: Several processes are required to convert resources to deliver the value proposition. Key
processes include (a) training of pilots and staff (b) online reservation system that reduces cost (c)
customer relationship management system etc. JetBlue didn’t do hub-and-spoke before E190. So, the
complex process of managing flight changes between different legs of the journey was not a concern for
them. But that changed because of E190! They needed a strong process of managing the hub-and-spoke
model, which they didn’t have. They also needed a different process to manage business travelers vis-à-
vis leisure travelers due to the introduction of E190.
Profit formula: How does JetBlue make money despite offering low prices (as Southwest) and frills (as
United or Delta)? The key to low prices is high volumes. High volumes ensure high aircraft utilization
through high load factor. JetBlue also keeps utilization high by flying red-eye flights (it can do that
because it focuses on long haul. SW doesn’t do any long-hauls, so no red-eye flights for them). As we
discussed, since SW’s focus is on short haul, its goal to increase average revenue per seat miles (ASM) is
through quicker turnarounds. On the cost (willingness to sell) side, JB focuses on reducing costs (both
fixed and variable costs) through highly fuel-efficient aircraft (A320), running reservation system with
part-time employees, increasing employee satisfaction (reduces turnover, increases productivity), long-
term relationship with Airbus (better deal and responsiveness), concentrating repairs and services in only
a few airports (increase economies of scale) etc. But all that changed because of the advent of E190!
So, can you recreate this for your company? Give it a shot!
Ramon Casadesus-Masanell’s approach
According to Casadesus-Masanell and Ricart, business models depict the ‘logic of a firm’. They define
business model as a set of choices relating to how a firm operates and the consequences of those choices.
Choices such as compensation practices, procurement contracts, location of facilities, extent of vertical
integration, sales and marketing initiatives and so on can be broadly classified into three categories:
policies, assets, and governance.

• Policy choices determine actions an organization takes across its operations (such as low prices
for JetBlue, using nonunion workers, flying to secondary airports to reduce costs, locating plants
in rural areas, or encouraging employees to fly coach class)
• Asset choices pertain to tangible resources a company deploys (e.g., manufacturing facilities,
satellite communication systems).
• Governance choices refer to the structure of contractual arrangements that confer decision rights
for policies or assets. For example, a given business model may contain as a choice the use of
certain assets such as a fleet of trucks. The firm can own the fleet or lease it from a third party.
Similarly, for Apple the governance choice is whether to manufacture in-house or employ
Foxconn.
Choices have consequences. These consequences also need to be included as part of the business model.
For instance, pricing (a choice) affects sales volume, which in turn, shapes the company’s scale
economies and bargaining power (both consequences). These consequences influence the company’s
logic of value creation and value capture.
According to the authors, consequences can be either flexible or rigid.

• Flexible consequence responds quickly when the underlying choice changes. For example,
choosing to increase prices will immediately result in lower volumes.
• In contrast, a rigid consequence is one that does not change rapidly with the choices that
generate it. For example, a ‘culture of frugality’ is a consequence that changes only slowly with
the choices that generate it.
• Whether a consequence is flexible or rigid has important consequences. There were several
consequences because of JB’s adoption of E190. Some were rigid in nature and would have
taken time to change. The management underestimated how the change affected the
consequences.
Example:
Let’s use the same example (JetBlue). The important choices made by JetBlue were:

• Offering low fares

• Focus on vacation/leisure travelers from NY/Boston/DC to Florida/California
• Standardized fleet of A320
• No cancellation policy
• Provide meals and inflight entertainment
• Online reservation system
• Concentration of repair and service in focus airports
• Non-unionized workforce
• And so on…
The key consequences of the choices above

• Higher volumes
• Low fixed and variable cost
• A reputation for reasonable fares
• High employee satisfaction
• Better bargaining power with suppliers (Airbus) etc.
• And so on…
You see how Christensen’s and Casadesus-Masanell’s are complementary!
Using the choices and consequences, you can build a causal loop to depict the business model. Once you
do that, you will notice how well-oiled the business model was for JetBlue (before E190). Parts of this
system were reinforcing each other. Here’s a high-level causal loop diagram denoting JetBlue’s business
model.
Can you create such a causal loop for your company? It’s worth a try!
There are several value loops in this diagram (loops that reinforce each other). The most important value
loop (in the above diagram) for JetBlue links components through orange lines. I recreate it below. Low
fares (choice) lead to high WTP that leads to large volume. Large volume then leads to low cost which
then leads to low fares and so on.
We discussed about value sticks (the difference between customers’ WTP and suppliers’ WTS) in
previous class. But the above is a value loop, which though is intrinsically linked to value sticks. A good
business model will have several such value loops reinforcing each other. You have seen value loops
before. Yes, you have! See below for Amazon. Can you think of other examples? What is your firm’s
most important value loop?

Difference between Business Model, Strategy, and Tactics

A simple analogy (provided by Casadesus-Masanell and Ricart) will help you distinguish between the
three. Think of the ‘business model’ as a car. If the car is small and compact, we can maneuver on narrow
streets and park in tight spots. If the vehicle is large and powerful SUV, we might have trouble making
comparable maneuvers, but we can still use it to go off-road and drive on a muddy path. By the way the
car has been designed and built, the driver is constrained in where they can go and what they can do.
So, think of the car itself as the business model. The act of driving the car is tactics. The design and
building the car is strategy. The business model is the result of strategy: the “realized” logic of the
firm.

Strategy reflects the contingent plan about which business model to use. The key word is contingent;
strategies contain provisions against a range of contingencies (such as powerful external forces,
competitors, environmental shocks), whether or not they take place. While every organization has a
business model, not every organization has a strategy – a plan of action for contingencies that may arise.
Also remember, our Strategy Diamond model consists of Arenas, vehicles, Differentiators, Staging, and
Economic Logic. A strategist assesses all options related to these five areas. The realized logic, or
business model, is finally chosen based on such assessment. Strategy is about building competitive
advantage by defending a unique position or exploiting a valuable and idiosyncratic set of resources. One
you create the strategy; you will develop a business model aligned to realize the logic of value creation
and capture (as articulated in the firm strategy).
But let me remind you that a firm however can have a business model without having a strategy! The
business model may or may not be designed aimed at occupying ‘unique position’ or exploiting ‘valuable
and hard to imitate resources. This should tell you how important ‘strategy’ is! It is all about winning.
What is an effective business model?
According to Casadesus-Masanell and Ricart, a good business model will meet three criteria:

A good business model therefore follows a good strategy. Internally consistent. Externally consistent.
And dynamically consistent.