First, some background: I do not profess to be a seasoned expert. I am a good student at a decent B-School who is halfway through an MBA with a concentration in finance. My employment background has been mostly in management roles, including some military service. Business school seemed like a good choice.
So far through school, I have picked up a lot of technical skills. These are excellent and incredibly valuable (from how to think about creating an IT management strategy for maximum wisdom gain to how to properly account for taxes in a firm’s capital mix in order to maximize shareholder value). These are incredibly useful skills that will come up from time to time throughout an executive career.
However, it occurs to me that there is something else that I’ve been learning. There are other things that seem to seep through the cracks of the education; things that almost every class or text points to and yet somehow they are never laid bare. So here we are.
Core lessons that I have taken from business school
First (and this one’s big): the only way to add value to a firm is by creating value for its customers. I know that this one might seem obvious in a sort of naïve way. But then there are entire classes and schools of thinking (pretty much the entire “finance” career sector) that state that you can create value by optimizing your capital structure. This simply is not true. The starting point, the revenue that you are optimizing your capital structure around, it all comes from the customer. Rather than add value, a trained CFO does their best to mitigate its destruction via things like taxes and unchecked risk. These techniques, while tools necessary to maximize value for a firm (by minimizing its destruction) do nothing to actually create value. That comes from the customers. So how do we do that?
First, it’s important to recognize that there are only three business sectors: product (or manufacturing), resale, and service. They may be blended, a bit, but every company in the world is primarily one or another. (Apple, Walmart, and Google).
To coincide with the three types of business there are three ways to create value for customers. That’s it. Just three. Before I jump into what they are it is important to explain what value is to a customer. To put it simply: it’s a benefit received from your offering that has more utility to the customer than what they are giving you in exchange (money, although it doesn’t have to be).
Now onto the three methods.
Having expertise in a craft that is not easily replicated maximizes value. Apple is able to make more profit on a smartphone than a hammer manufacturer is able to make on a hammer for the simple reason that the smartphone is much more sophisticated, and thus harder for others to reproduce. The “others” here means not only competitors but also the consumer. Sophistication should be the primary tool of value creation in the product (manufacturing) category of the business model.
Economies of scale
Just about everybody recognizes that the larger your upfront investment, the lower your per-unit costs. The larger you grow, the more value you are able to create for your customers. Wal-Mart is able to create a hyper-efficient value chain due almost entirely to its enormity and economy of scale. Even in growing to their current size, the company reinvested earnings into growth aimed at obtaining economies of scale.
For a long time, it was hard for service companies to grow past a certain size. Restaurants and hotels could only grow so large in a given market before being faced with steep competition that seemed to offer the same value to customers as they were. Eventually, the value was added to the process by franchises and corporations who offered to simplify the delivery of their services (through streamlined menus and concierge services, for example, both benefitting from economies of scale). These services simplified the experience for their customers, though, which is what ultimately enhanced the customer value. Today, service companies on the internet are able to capitalize on simplification evermore, with companies cashing in by creating services that offer to simplify processes that were once complicated and cumbersome. This is ultimately the business model of every great tech company (Google, Amazon, Airbnb, Squarespace, Mailchimp, etc, etc, etc).
Just as the three core business models (product, resale, service) can be blended, so too–obviously, are the three core methods of value creation. The best companies are masters of all three, and therefore create the maximum value for their customers. Ultimately, however, each strong firm will specialize in the value creation method that corresponds with its business model.
There are only three business models: product, resale, and service. And there are three corresponding methods of value creation: sophistication, economies of scale, and simplification. Each can be blended to create the perfect mix. Everything else is smoke and mirrors.