Why tomorrow’s business model must be more capable than today’s model

This second article in the series builds on the premise of the first: competitiveness depends on capabilities and corporate competitiveness depends on what the firm is able to do better than its rivals. All organisations have a capabileome, a complement of capabilities, that is analogous to an organism’s proteome, its collection of proteins. And as the analogy is meant to imply, a firm’s capabileome is as specific to its business model as a proteome is to a species. For example, the capabileome of a research-based pharmaceutical company and a generic company overlap only to a limited degree, just like the proteome of you and a chimpanzee.

The practical implication of this is that if your firm wants to transform its business model, or improve how its current model works, it has to modify its capabilities. To continue the analogy, in the same way as proteome modification involves editing genes and base pair sequences, capabileome change requires changes to a firm’s organisational routines and its microfoundations. I’ll talk about how that is done in the third and fourth articles in this series but this second article addresses the steps that must proceed any attempt at tweaking your firm’s DNA: knowing which ‘genes’ to change and which ones not to.

As the George Harrison song says, ‘if you don’t know where you’re going, any road will take you there’. In other words, transforming or even just improving your business model begins with a clear idea of what you want that future model to be. This is easier said than done, not least because the term ‘business model’ has become so loosely used as to lose much of its meaning. To enable a successful transformation, it helps to think of a business model as a distinct strategy, structure and set of activities, often shared by many comparable companies, that is adapted to a specific habitat within the market. Again, a biological analogue is useful: just as capabileome is analogous to a proteome, a business model is analogous to a phenotype. And, to guide transformation effectively, the vision of your future business model must be specific. In the first article in this series (February 2023 PME), I described a 26-model framework that helps create that future vision. These models not only identify that business models fit each market habitat, they also identify the subtly different business models within each habitat.

Clearly, the choice of which business model to transform into is critically important. For some companies, this choice is very easy, either because they have no alternative or because their leadership has made an intuitive choice. Some firms focused on rare diseases are examples of this. Many firms, however, have options that they need to evaluate carefully. In this case, their choice is driven by two factors, as shown in figure 1. First, which business model offers the most economic potential. Second, how difficult is the transformation into that model. Quite obviously, the top right, easy and lucrative quadrant directs the first choice of model. But for larger companies, transformation may involve developing a portfolio of new models. In that case, the top right models are the immediate focus but top left models become a longer-term goal and bottom right models might offer opportunistic possibilities. In any case, the bottom left of the matrix represents models to avoid.

Placing multiple possible business models into this matrix demands thoughtful analysis. Both estimations – economic attractiveness and ease of transformation – are complex and multi-factorial. They include not only tangible factors, such as market sizes and investment requirements, but also intangible factors, such as fit with the firm’s existing culture and mission. Despite this difficulty, the assessment must be made because it is impossible to begin the transformation of the capabileome until its end point – the business model it must enable – is decided. Only once that fundamental decision is made is it possible to identify what new capabilities are needed. And even then, the answer to that question is in three parts, as shown in figure 2.

Figure 1: Business model choice

Figure 2: Specifying capabilities

An interesting aspect of differentiating capabilities is that, like proteins, they work together. Research and development capabilities are of little use without market access capabilities, for example. Equally, supply chain efficiency capabilities are only realised through pricing, tendering and account management capabilities. And, of course, no level of differentiating capabilities can make up for deficiencies in hygiene capabilities. No one will, for example, choose even the world’s best drug that is made in a US Food and Drug Administration non-compliant factory.

So, having addressed the hopefully straightforward hygiene factors, the major step in transforming the capabileome is identifying what new differentiating capabilities are needed. In keeping with the biological analogy, small changes to the business model need only small edits to the differentiating part of the capabileome while major transformations imply more and larger deletions and insertions to a firm’s DNA.

The important point to remember is that the choice of business model implies the required capabilities and the difference between old and new models implies how many of those required capabilities will be new. When firms understand this and align their capability development to their business model change, they succeed in the same way as a biological organisation adapts to a changing environment. But when this alignment fails, and capabilities either don’t develop or develop misaligned to the new model, the firm’s evolution stalls.

There is a third class of capability, dynamic capabilities, that is essential to change. Dynamic capabilities are the ability to do things that enable hygiene and differentiating capabilities. They are analogous to enzyme proteins, acting like catalysts for organisational change.

‘The major step in transforming the capabileome is identifying what new differentiating capabilities are needed’

While hygiene and differentiating capabilities are found mostly in operational functions, such as research and manufacturing, dynamic capabilities are mostly found in strategic functions and the processes for making and executing strategy. For example, the capability to create market insight is a dynamic capability. So too are capabilities in market segmentation and the design of value propositions. Leadership capabilities would also count as dynamic capabilities. Compared to hygiene and differentiating capabilities, dynamic capabilities are fewer in number but more systemic in their effect.

From my research into dynamic capabilities, two fascinating observations emerge.  Firstly, they are largely invisible from outside the organisation. While the outcomes of, for example, regulatory capabilities or research capabilities are usually obvious to outsiders in the form of, for example, approvals and product launches, the outcomes of dynamic capabilities are not obvious outside the company. Secondly, dynamic capabilities tend to be neglected by firms. Firms usually demand that their regulatory, research and finance people have formal qualifications and professional registration in their field. Equally, they invest heavily in ensuring that their practice in these fields is leading edge. In contrast, strategising and leadership are often regarded as ‘soft’ arts in which experience and instinct are more valuable than formal qualifications and rigorous process.

Improving or transforming your business model depends heavily on dynamic capabilities. When I compare firms that manage strategic change well and those that don’t, these enabling capabilities usually underly more obvious differences in other capabilities. And in those rare cases where business model transformation is a success it is always associated with a group of leaders and strategists who embody these rare, neglected capabilities.

It’s almost unheard of for leaders of life sciences companies to eschew change and support the status quo. As our industry’s sociological and technological environments change rapidly, business model development or transformation has become a focus for industry executives. In practical terms, this begins with choosing your future business model and then identifying the necessary changes to your capabileome. In this second article in the series, I’ve outlined the approach to this that is discussed, at much greater length, in my book Darwin’s Medicine. In the third article, I’ll drill down in to how those necessary changes can be engineered.

Professor Brian D Smith is a globally recognised authority on the evolution of the life sciences industry. PDFs, videos and podcasts of this and previous articles can be found at www.pragmedic.com