A lot of the analysis I do revolves around business models and how companies I cover in the consumer technology market make money. The reality is there are three major business models in use in the consumer technology market for directly monetizing a product or service but there are also a variety of other business models in use for products and services provided for free to the end user. Which of these business models a company chooses to use greatly affects its ability to make money, its ability to grow and, perhaps most importantly, the alignment of its customers’ interests with those of its users. It also provides a useful framework for analyzing Microsoft and Google’s aggressive strategies for smartphones in emerging markets, which seem unlikely to bear much fruit.
Business models for monetizing products vary greatly
The first chart below shows these three business models in use at large consumer technology companies for products and services which directly generate revenue. I’ve used examples from five major companies to illustrate these:
As you can see, each of the five companies I’ve listed makes money from at least two of the business models, and four from all three. But the alignment between the end users (you and I) and the paying customers varies greatly between the models. In the Direct model, the end user is the paying customer. In the Platform model, there are two parties making payments – the end user who purchases a product and the third party which supplies the product and pays the vendor a cut of revenues. In the Advertising model, there is zero alignment between the paying customer (the advertiser) and the end user. This user:customer alignment is important because it has the potential to create significant tension when it is less than 100%. The most obvious example is the constant tension over privacy at both Facebook and Google, which constantly attempt to push the boundaries between what users deem acceptable and what advertisers want. It’s an inherent feature of those companies’ business model impossible to overcome. Even the Platform model is subject to some of the same tensions: opening new APIs to benefit developers can create new privacy and security risks for end users. But the risks are far smaller than in the Advertising model.
The chart below shows the split in revenues between these three business models for the five companies listed (the split for Microsoft includes significant enterprise revenues too, so it’s not directly comparable to the others, who mostly sell to consumers):
As the chart shows, even though each company makes use of multiple business models, they do so in very different proportions. Apple and Microsoft make the vast majority of their revenue from the Direct model, Facebook and Google generate 90% of their revenue from Advertising, and Amazon makes most of its money through the Platform model (selling goods provided by third parties). As such, Apple and Microsoft have the highest alignment between their users and customers, Facebook and Google the lowest, and Amazon somewhere in the middle. This is why we’ve seen both Apple and Microsoft start to play up their business models in recent communications – Apple in its defense against allegations of data misuse in China:
“Unlike many companies, our business does not depend on collecting large amounts of personal data about our customers,”
and Microsoft in Satya Nadella’s recent email to employees:
“Apps will be designed as dual use with the intelligence to partition data between work and life and with the respect for each person’s privacy choices.”
Both Microsoft and Apple make use of Advertising models too, with Microsoft to a greater extent than Apple, but their overall businesses don’t depend on these revenues and, as such, they are less compromised in this respect. Amazon on the other hand, is driving rapid growth in advertising revenues and will have to deal with these challenges sooner rather than later. In the meantime, expect both Apple and Microsoft to continue to play up their business models as a positive differentiator for customers, while Google struggles to get past its own business model, especially when it enters new domains such as health and fitness and home automation.
Business models for non-monetized products
The other side of the coin is those products and services each company provides which are not directly monetized at all, either by revenue from end users or by revenue from third parties such as app developers or advertisers. Again, there are three main business models which apply to these cases. They’re shown in the chart below with examples from the same five companies:
The first thing to note is several of the companies again make use of all three business models, but this time around certain companies – notably Apple – make much narrower use of the models. None of these three models seeks to directly monetize the products and services being offered, but the rationale for doing so is very different. Again, there’s a very close relationship between the business model used and the user:customer alignment:
- Bundling simply adds more value to a broader product or service by providing certain components which are not directly monetized. This directly benefits the user, there’s no third party benefit and therefore 100% user:customer alignment.
- With the Data business model, there are two possible uses of the data generated, which are hard to separate because they’re often both served by the same product. For example, Google generates data from its Maps product, which partly helps to improve the product itself, but also feeds the advertising machine. In both cases, data from individuals is used for more than just that user’s benefit, which creates tensions around privacy, especially if the data is used for advertising.
- The Channel business model seeks to provide an environment in which the vendor’s other monetizable products and services can be promoted and is most common with operating systems or “meta operating systems“.
That last business model is worth exploring in a bit more detail, because it can look a lot like Bundling but is actually the reverse. With Bundling, for example in the case of iOS and OS X from Apple, the customer has already paid for the product (an iPhone, iPad or Mac), and the additional features are provided as value adds. With the Channel business model, the platform (e.g. Android or Windows Phone) is provided for free to OEMs, in the hopes the user will engage with the company’s other products and services, so the company can then monetize through one of the three major business models. So the benefit, if it works, accrues entirely to the vendor or to third parties, and not to the end user, in marked contrast to the Bundling business model.
Microsoft and Google’s strange pursuit of emerging markets
Since both Android and Windows Phone are now licensed free to OEMs, it’s interesting to see their owners battling over emerging markets so aggressively, in marked contrast to Apple’s focus on mature markets. Both Google and Microsoft spent time at their recent developer events talking about their efforts to get their operating systems into these markets. Google announced Android One, and Microsoft talked about all its new OEM partners and the reference design work it’s doing with Qualcomm. The question arises, what do these companies hope to achieve with these efforts in emerging markets? Since neither is directly monetizing its operating system, which of the indirect business models are they hoping to serve? It’s not Bundling, since they’re not charging for the OS itself, so it must be either the Data or Channel business model they’re pursuing.
But there’s a major flaw with either of those:
- Channel – neither Google nor Microsoft is likely to generate much revenue from these users from monetizable products, since ad spend is much lower in emerging markets than in mature markets, and emerging markets users are, for the most part, extremely unlikely to spend money on any of Microsoft’s paid services.
- Data – “It’s all about the data” is the response I hear every time I make this point about the Channel opportunity in emerging markets. But let’s drill into that. What is the data useful for? Data by itself isn’t valuable – it has to feed something, in this case either paying products or advertising. If so, we’re back to square one, since the data only really adds value to products and advertising in the same markets where it’s gathered, where it’s unlikely to generate much revenue.
The only conclusion that can be drawn is these companies are pursuing the emerging market opportunity simply because that’s where the growth is. This is, therefore, the only way to capture market share in the overall smartphone market. That strategy relies on the assumption there is some direct benefit from high market share on a global level, but it’s not clear what that is, when many of those users can’t be monetized. Winning market share in these markets appears to be largely an expensive exercise in gaining users that won’t generate much revenue, let alone profits, given the significant investments to be made to play there at all. Any victories achieved through these strategies, especially as these two companies compete aggressively for them, will likely be pyrrhic.