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Distribution Channels: Types, And Examples – Updated 2022

A distribution channel is the set of steps it takes for a product to get in the hands of the key customer or consumer. Distribution channels can be direct or indirect. Distribution can also be physical or digital, depending on the kind of business and industry.

Distribution Types DatabaseCompanyDistribution TypeDescription Amazon Business Model Hybrid (direct to consumers + digital marketing growth strategy)In the case of Amazon, the company is among the most robust tech brands today, and it follows a hybrid strategy, where hundreds of millions of users go straight to the Amazon brand through its website and apps. On the other hand, Amazon also relies on digital distribution to enhance its visibility. For instance, Google search is also a great contributor to traffic for Amazon and many other digital channels. Apple Business Model Hybrid (direct to consumers + subsidized by mobile carriers)Apple relies both on its stores and on third-party carriers who enhance the distribution of Apple devices across the world. For instance, when it comes to the iPhone, for example, in 2021, Apple’s net sales through its direct and indirect distribution channels accounted for 36% and 64%. The direct channel (Apple’s owned stores) it’s critical to guarantee brand awareness, control over the distribution, customer support & service provisioning. The indirect channel is essential to enhancing the sales of expensive devices like the iPhone. For instance, a good chunk of iPhone sales is subsidized by phone carriers players, who amortize the cost of the phone into the plan, thus enabling more people to afford an expensive smartphone, like the iPhone. Facebook (Meta) Business Model Direct to consumer (Digital)Facebook is a tech player that primarily relies on direct digital distribution. In fact, over the years, the company has managed to first keep a strong brand for its main product (Facebook). After that, Facebook acquired Instagram, WhatsApp, and Oculus. These powerful brands enabled Facebook to get a direct relationship with users. However, it’s worth highlighting that Facebook (Meta) does not own the platform through which users get to the brand (the Apple Store and Google Play). Users can download and experience the brand’s products are owned by Apple and Google, respectively). Thus, its ability to distribute the product is highly reliant on the ability of the company to keep its brand strong. Google (Alphabet) Business Model Digital Vertical IntegrationGoogle (now called Alphabet) is a great example of digital vertical integration. The company follows each step of the data supply chain, from data harvesting to data repackaging and its exchange within Google’s proprietary advertising marketplaces. On the desktop side, Google owns the Chrome browser, the Google search engine, and the advertising platforms (AdSense, Google Ads, and YouTube Ads) to monetize the data. On the mobile side, Google owns the Android operating system, the Google Play Store, and the Google AdMob advertising platform. In this segment, Google also produced smartphone devices, and it’s now revamping its AR glass business segment. Luxottica Business Model Phisical Vertical IntegrationLuxottica is an excellent example of physical vertical integration and complete control over its distribution strategy. The company not only manufactures most eyeglasses frames and lenses but also distributes them across its owned stores and its wholesale distribution. Tesla Business Model Direct to consumer (Physical)Tesla sells its cars directly from its online stores, distributing them directly to customers. The company also owns Tesla physical stores worldwide, where customers can buy cars directly from them. The company has been spending a substantial effort in building its own stores to bypass classic car distributors, which has been a rule of thumb for a long time.Why a distribution channel strategy matters

Often companies undervalue distribution channels as they think that a good product or service will automatically create its distribution.

While this might happen, it is more of a utopia than reality. Distribution needs to be created, at times with sheer force combined with strategic planning and deep understanding of customers’ needs, or desire generation.

A traditional distribution strategy looks at the classic 4 Ps (product, promotion, price, and placement).

Those are the key ingredients to grow the revenues of a business, quickly and sustainably. Thus, a distribution strategy starts from:

Understanding the wants of their customers.Leveraging insights to create a better purchasing experience.Developing new products and services that customers will want to buy.Creating go-to-market strategies that reach the proper customer target.Generating demand for a set of products and services offered.

Without an appropriate strategy of distribution, it is hard to have a successful and sustainable business model.

Course: FourWeekMBA Business Model Innovation Flagship Course

Types of distribution channels

At a higher level, distribution channels can be broken down, in direct channels, and indirect channels. This primarily depends on how long is a chain between who makes the product and the final consumer.

The number of steps it takes will make the distribution channel direct or indirect. Let’s visualize a distribution chain to understand the difference between direct and indirect strategy:

Where in a direct distribution strategy a producer can access the consumer, in an indirect distribution strategy, the producer will meet its consumer demands via third-parties wholesalers or retailers.

Thus, a direct approach makes the value chain shorter and at the same time allows more control by the producer on how the final customer experiences the product or service offered.

At the same time, a direct to consumer strategy is quite expensive and not always effective enough to allow proper distribution. Therefore, companies often use a mixture of direct and indirect distribution strategies, which determine their marketing mix.

Between the direct-to-consumer and entirely indirect distribution strategy (where the producer sells to a wholesaler), there are several indirect variations, based on how many steps it takes to reach the final consumer and how long is the value chain.

For instance, in the scenarios in which a producer sells to a wholesaler, the wholesaler sells to retailers, who reach the final consumers. However, in some other cases, the distribution channels might be shorter.

Think of the Costco business model, where the company purchases a selected variety of goods in bulk from producers. Yet instead of reselling that to retailers, Costco itself acts as a retailer, by leveraging on its membership-based business model and selling those items in bulk quantity directly to consumers, who appreciate the convenience of its prices together with the selection of high-quality products.

Related: Business Strategy Lessons From Costco Business Model

Case study: Apple’s direct and indirect distribution mix

In other cases yet, the distribution channels strategy might be even shorter. Take the example of the Apple business model where the company sells part of its products via its retail stores, which creates a unique experience for Apple‘s consumers and makes the value chain shorter but it also leverages on an indirect strategy, to make those same products (usually quite expensive) more accessible to mass consumers.

Related: What Is a Business Model? 30 Successful Types of Business Models You Need to Know

Distribution channel vs. supply chain In business, vertical integration means a whole supply chain of the company is controlled and owned by the organization. Thus, making it possible to control each step through customers. in the digital world, vertical integration happens when a company can control the primary access points to acquire data from consumers.

It is easy to confuse and mix up the definition of distribution channels with the supply chain even though the distribution channels and strategies might sometimes cross with the supply chain.

The distribution strategy concerns primarily on bringing the product in front of customers, and especially customers that are willing and ready to buy it.

Therefore, in some cases, bringing a product in front of the right people might be a matter for the supply chain.

For instance, in the Luxottica business model, vertical integration means the ability to control the full customer experience and to choose also the location of the retail stores.

Thus, this is a case in which supply chain management also becomes a distribution strategy.

It is critical to maintaining a clear difference between supply chain and distribution channel strategy. While the supply chain comprises all the planning, manufacturing, and logistics activities that make the product go from the purchase of raw materials, transformation in a final product that might get delivered to the final customer (Zara business model leverages on supply chain management as a distribution strategy).

In short, where supply chain management concerns itself with integrating supply and demand, a distribution strategy involves itself primarily about the demand chain.

To have a deep understanding of the difference between the supply chain and distribution strategy it is important to consider three main aspects.

Case study: Tesla and Google, from physical to digital integrationTesla is vertically integrated. Therefore, the company runs and operates the Tesla’s plants where cars are manufactured and the Gigafactory which produces the battery packs and stationary storage systems for its electric vehicles, which are sold via direct channels like the Tesla online store and the Tesla physical stores.In business, vertical integration means a whole supply chain of the company is controlled and owned by the organization. Thus, making it possible to control each step through consumers. in the digital world, vertical integration happens when a company can control the primary access points to acquire data from consumers.Supply chain vs. demand chain

Where a supply chain seeks efficiencies that can, for instance, reduce the cost of purchasing raw materials, integrating several parts of the supply chain, or at creating better logistics.

Distribution channels and strategy looks more at creating demand for a product or service by leveraging on several strategies. For instance, having insight about potential customers can allow a company to generate demand via distribution and marketing just like in the Nike, business model.

Internal vs. external

A supply chain concerns with all the aspects that begin with sourcing raw materials, production processes, inventory management, and all the other processes that bring a product or service in front of the final customer.

On the other hand, a distribution strategy concerns primarily the demand chain. Therefore, the difference is primarily internal vs. external. Supply chain affects costs and how to reduce them via efficiencies.

Distribution channels and strategy looks at how to grow the demand. Thus, increasing revenues for the business. This distinction is not absolute. As in some cases when a core competence of a company is its supply chain management, then that also becomes a distribution strategy, just like in the Amazon business model case study.

Via efficient inventory management, Amazon can keep large facilities where most tasks are automated. This allows Amazon to host third-party inventories, of sellers that are part of the Amazon network.

That in turn, makes Amazon stores more interesting for final customers as they can find more products they need, they can get then faster and purchase them in a bundle. In this case, the Amazon supply chain strategy in part crosses with its distribution strategy.

Process-centric vs. customer-centric

Where the supply chain is often process-centric. In short, it wants to improve efficiency, reduce steps among several parts of the chain, and make the process as smooth as possible. Distribution channels and strategies focus on the customer.

Where is the customer? How do we get more of them? Is that a matter of price? Value or product? A distribution strategy is obsessed with customers. Once again, this is a rough distinction as in some cases, companies’ have a customer-centric approach at any company’s level.

That’s what Jeff Bezos means when says that successful companies need to stay in “Day One.“

Customer obsession goes beyond quantitative and qualitative data about customers, and it moves around customers’ feedback to gather valuable insights. Those insights start by the entrepreneur’s wandering process, driven by hunch, gut, intuition, curiosity, and a builder mindset. The product discovery moves around a building, reworking, experimenting, and iterating loop.Why you need to understand the demand chain

Demand chain management is a complex endeavor that involves the relations among suppliers and customers and how those interest to grow the demand of the product or service.

At the core, it is about designing a business model that makes it possible for the organization to meet customer needs, create desire and demand with an existing supply chain.

Thus, the demand chain is the value chain from your customers’ perspective. This implies synergies between the supply chain and distribution and marketing to design a business model that delivers the most suited value proposition and generate higher revenues for the business.

It is almost like demand chain management allows supply chain management to look outside the company’s boundaries and understand the market.

Therefore, demand management will primarily understand, generate, and stimulate customer demand and align the supply chain processes with that.

A proper distribution strategy focuses on understanding the supply and value chain to design a sustainable business model, where for instance:

The company has to guarantee enough margins and the proper condition to third-parties distributors to allow them to run sustainable operations.Align the incentives between the company, the distributors, and consumers.Train and educate distributors so that they can offer the best customer experience.Create alignment between distributors to avoid fragmented pricing, placement, and promotion strategy.Understand what products or services might allow the organization to grow its reach.B2B, B2C and distribution channels

A distribution strategy and therefore the distribution channels involved will change based on the target customer. Indeed, selling to a business clientele is not the same thing as selling to consumers.

This implies different capabilities and distribution strategies. For instance, a B2B (business to business) distribution strategy might be shorter, as you might be able to reach directly the businesses that will act as intermediaries between you and the final consumer.

Think of the case of a company selling software as a service (so-called SaaS). If that software is complex and requires a certain degree of expertise, it will be better suited to be sold via other agencies and third-parties, which in turn will have access to the consumer business.

This will imply a distribution strategy focused on acquiring the proper sales force to manage the more complex clients.

On the other hand, if a company sells an app for the iPhone, which doesn’t require any particular expertise from the final user.

The company will have direct access to its consumers and will use marketing channels, which don’t necessarily require a complex salesforce. This is a critical difference between marketing and sales.

B2B2C distribution strategyA B2B2C is a particular kind of business model where a company rather than accessing the consumer market directly it does that via another business. Yet the final consumers will recognize the brand or the service provided by the B2B2C. Therefore, the company offering the service might gain direct access to consumers over time. This kind of model can help build a robust B2B as the foundation of the consumer market. While it makes it less scalable in the short term, if well-executed, it can scale.

Another form of distribution strategy is a B2B2C, where a brand can leverage on existing pipelines to access the market. In this case, the B2B2C strategy to work has to enable the brand to be known by a larger customer base or audience, while it leverages on existing players with an established distribution platform.

That is how you can structure your company’s strategy around a B2B2C business model.

Traditional distribution channels vs. digital distribution channelsA digital channel is a marketing channel, part of a distribution strategy, helping an organization to reach its potential customers via electronic means. There are several digital marketing channels, usually divided into organic and paid channels. Some organic channels are SEO, SMO, email marketing. And some paid channels comprise SEM, SMM, and display advertising.

As consumer behaviors had swiftly changed in the last decades, more and more people purchase via the internet, and they feel more and more comfortable buying expensive items on the web.

For instance, Tesla allows you to order a $65K car directly on its site.

Therefore, digital distribution strategies are critical for any business, also one that has always operated off-line.

As explained by Gabriel Weinberg, CEO, and founder of DuckDuckGo, there are at least 19 distribution channels between online and off-line:

Targeting BlogsPublicityUnconventional PRSearch Engine MarketingSocial and Display AdsOffline AdsSearch Engine OptimizationContent MarketingEmail MarketingViral MarketingEngineering as MarketingBusiness DevelopmentSalesAffiliate ProgramsExisting PlatformsTrade ShowsOffline EventsSpeaking EngagementsCommunity Building

Each of those channels can be a critical ingredient to enhance the revenues of a business.

Related: Growth Marketing Strategies For Your Online Business

Distribution management: marketing or sales?

Understanding whether distribution management is a matter of sales or marketing is superfluous as it might make us switch the focus from what’s important.

However, it makes sense to draw some lines as this allows proper attribution of responsibility and accountability across the departments of an organization.

Thus, distribution management is typically seen as a marketing function. Yet, once again it depends on the kind of organization you’re running.

Imagine the case of a company that sells to wholesalers or retailers; this means most of the contracts might be managed by salespeople, as they require an understanding of deals terms, relationships and partnerships in place.

In that case, your salesforce will be able to give you insights that can help yo improve the distribution strategy. In the opposite scenario, where the company sells a product directly to consumers, most of the processes might be automated. Thus, most of the insights will be in the hands of the marketing department.

How do you assess the right mix for your distribution strategy?Distribution is one of the key elements to build a viable business model. Indeed, Distribution enables a product to be available to a potential customer base; it can be direct or indirect, and it can leverage on several channels for growth. Finding the right distribution mix also means balancing between owned and non-owned channels.

When building up a distribution strategy, it’s important to balance out between speed and control. And to leverage on those channels that can give momentum to the business.

Yet also, in the long-term prioritize those channels that make the company viable and its business model solid.

Key takeaways and why distribution is your most important asset

At any time, businesses can leverage on open and closed strategies to enhance and create ecosystems that enable the business to thrive.

In short, companies like Google, Amazon, GitHub, Uber, Airbnb, Twitter, Facebook, LinkedIn and many others that we discussed on this blog while growing they managed to create parallel ecosystems of developers, publishers, small businesses, entrepreneurs, and users that are really the base and foundation for those companies business model success.

In short, the turnover those companies make is just the tip of the iceberg of an ecosystem, which is often hard to control. The Internet, enabled ways for these organizations to involve thousands of publishers, developers, and users, where an organization, generating profits, built a strong distribution platform, thus making it compelling to other key players to participate in the growth of the ecosystem.

At the center of those open, and uncontrollable ecosystem, there is a strong distribution network, controlled by the organization in charge of the platform, that is able to monetize the ecosystem. Thus, the distribution network is, in many cases, among the most valuable assets a company has in the long run.

Even if that’s expensive to develop, a distribution network is always worth it, because that is how you build a business you can control and a platform where you make the rules of the game.

Connected Business Concepts To Distribution Channels

B2B2C Business Model

https://i0.wp.com/fourweekmba.com/wp-... data-large-file=”https://i0.wp.com/fourweekmba.com/wp-content/uploads/2018/12/b2b2c-business-model.jpg?fit=1024%2C772&ssl=1″; data-recalc-dims=”1″ data-ll-status=”loaded” data-lazy-loaded=”1″>A B2B2C is a particular kind of business model where a company, rather than accessing the consumer market directly, it does that via another business. Yet the final consumers will recognize the brand or the service provided by the B2B2C. The company offering the service might gain direct access to consumers over time.

Account-Based Marketing

marketing (ABM) is a strategy where the marketing and sales departments come together to create personalized buying experiences for high-value accounts. Account-based marketing is a business-to-business (B2B) approach in which marketing and sales teams work together to target high-value accounts and turn them into customers.

Retail Business Model

business model follows a direct-to-consumer approach, also called B2C, where the company sells directly to final customers a processed/finished product. This implies a business model that is mostly local-based, it carries higher margins, but also higher costs and distribution risks.

Wholesale Business Model

model is a selling model where wholesalers sell their products in bulk to a retailer at a discounted price. The retailer then on-sells the products to consumers at a higher price. In the wholesale model, a wholesaler sells products in bulk to retail outlets for onward sale. Occasionally, the wholesaler sells direct to the consumer, with supermarket giant Costco the most obvious example.

Direct-to-Consumer Business Model

business model where companies sell their products directly to the consumer without the assistance of a third-party wholesaler or retailer. In this way, the company can cut through intermediaries and increase its margins. However, to be successful the direct-to-consumers company needs to build its own distribution, which in the short term can be more expensive. Yet in the long-term creates a competitive advantage.

Marketplace Business Models

marketplace is a platform where buyers and sellers interact and transact. The platform acts as a marketplace that will generate revenues in fees from one or all the parties involved in the transaction. Usually, marketplaces can be classified in several ways, like those selling services vs. products or those connecting buyers and sellers at B2B, B2C, or C2C level. And those marketplaces connecting two core players, or more.

E-Commerce Business Models

business-to-business, where therefore a business sells to another company.
– B2C or business-to-consumer, where a business sells to a final consumer.
– C2C or consumer-to-consume, or more peer-to-peer where consumers sell to each other.

Marketing vs. Sale

The more you move from consumers to enterprise clients, the more you’ll need a sales force able to manage complex sales. As a rule of thumb, a more expensive product, in B2B or Enterprise, will require an organizational structure around sales. An inexpensive product to be offered to consumers will leverage on marketing.” data-image-caption=”

The more you move from consumers to enterprise clients, the more you’ll need a sales force able to manage complex sales. As a rule of thumb, a more expensive product, in B2B or Enterprise, will require an organizational structure around sales. An inexpensive product to be offered to consumers will leverage on marketing.

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The more you move from consumers to enterprise clients, the more you’ll need a sales force able to manage complex sales. As a rule of thumb, a more expensive product, in B2B or Enterprise, will require an organizational structure around sales. An inexpensive product to be offered to consumers will leverage on marketing.

What’s Distribution?

Distribution represents the set of tactics, deals, and strategies that enable a company to make a product and service easily reachable and reached by its potential customers. It also serves as the bridge between product and marketing to create a controlled journey of how potential customers perceive a product before buying it.

VBDE Framework

A Blockchain Business Model according to the FourWeekMBA framework is made of four main components: Value Model (Core Philosophy, Core Values and Value Propositions for the key stakeholders), Blockchain Model (Protocol Rules, Network Shape and Applications Layer/Ecosystem), Distribution Model (the key channels amplifying the protocol and its communities), and the Economic Model (the dynamics/incentives through which protocol players make money). Those elements coming together can serve as the basis to build and analyze a solid Blockchain Business Model.

Dropshipping Business Model

Dropshipping is a retail business model where the dropshipper externalizes the manufacturing and logistics and focuses only on distribution and customer acquisition. Therefore, the dropshipper collects final customers’ sales orders, sending them over to third-party suppliers, who ship directly to those customers. In this way, through dropshipping, it is possible to run a business without operational costs and logistics management.

VTDF Framework

It’s possible to identify the key players that overlap with a company’s business model with a competitor analysis. This overlapping can be analyzed in terms of key customers, technologies, distribution, and financial models. When all those elements are analyzed, it is possible to map all the facets of competition for a tech business model to understand better where a business stands in the marketplace and its possible future developments.

Digital Strategy Mix

Distribution is one of the key elements to build a viable business model. Indeed, Distribution enables a product to be available to a potential customer base; it can be direct or indirect, and it can leverage on several channels for growth. Finding the right distribution mix also means balancing between owned and non-owned channels.

Business Development

Business development comprises a set of strategies and actions to grow a business via a mixture of sales, marketing, and distribution. While marketing usually relies on automation to reach a wider audience, and sales typically leverage on a one-to-one approach. The business development’s role is that of generating distribution.

Other key resources:

What Is Business Model Innovation And Why It MattersSuccessful Types of Business Models You Need to KnowThe Complete Guide To Business DevelopmentBusiness Strategy: Definition, Examples, And Case StudiesWhat Is a Business Model Canvas? Business Model Canvas ExplainedBlitzscaling Business Model Innovation Canvas In A NutshellWhat Is a Value Proposition? Value Proposition Canvas ExplainedWhat Is a Lean Startup Canvas? Lean Startup Canvas ExplainedWhat Is Market Segmentation? the Ultimate Guide to Market SegmentationMarketing Strategy: Definition, Types, And ExamplesMarketing vs. Sales: How to Use Sales Processes to Grow Your BusinessHow To Write A Mission StatementWhat is Growth Hacking?Growth Hacking Canvas: A Glance At The Tools To Generate Growth Ideas

Business models case studies:

How Amazon Makes Money: Amazon Business Model in a NutshellHow Does WhatsApp Make Money? WhatsApp Business Model ExplainedHow Does Google Make Money? It’s Not Just Advertising! The Google of China: Baidu Business Model In A NutshellHow Does Twitter Make Money? Twitter Business Model In A NutshellHow Does DuckDuckGo Make Money? DuckDuckGo Business Model ExplainedHow Does Pinterest Work And Make Money? Pinterest Business Model In A NutshellFastly Enterprise Edge Computing Business Model In A NutshellHow Does Slack Make Money? Slack Business Model In A NutshellFastly Enterprise Edge Computing Business Model In A NutshellTripAdvisor Business Model In A NutshellHow Does Fiverr Work And Make Money? Fiverr Business Model In A Nutshell What is distribution

Distribution is a process of enabling a product or service to be easily accessible to the critical customer and consumer who needs that kind of product and service. Usually, distribution channels can be direct or indirect depending on the distribution strategy adopted by an organization to grow its profits.

What is direct distribution?

In a direct distribution model, a company can get its products directly in the hands of consumers without passing through an intermediary. Think of the case of a company like Apple, which sells its iPhones directly through its owned store thus reaching its key customers.

What is indirect distribution?

In an indirect distribution model, a company can get its products in the hands of the final customers, only passing through an intermediary. Think of the case of a company that manufactures a product that then gets sold by a third-party retailer. Thus the company can’t reach its customers directly.

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The post Distribution Channels: Types, And Examples – Updated 2022 appeared first on FourWeekMBA.

What Is The Wholesale Business Model?

The wholesale model is a selling model where wholesalers sell their products in bulk to a retailer at a discounted price. The retailer then on-sells the products to consumers at a higher price. In the wholesale model, a wholesaler sells products in bulk to retail outlets for onward sale. Occasionally, the wholesaler sells direct to the consumer, with supermarket giant Costco the most obvious example.

Understanding the wholesale model

Wholesalers receive attractive prices from the manufacturer because they deal in large minimum order quantities (MOQs), with larger order quantities reducing handling time and cost and increasing profit. In some cases, the wholesaler and the manufacturer are the same company.

In a traditional wholesale model supply chain, goods may flow from raw material suppliers to manufacturers, distributors, wholesalers, retailers, and finally to consumers. Since most wholesalers do not sell directly to the consumer in small quantities, they sell bulk goods to retail businesses for a profit. 

The wholesale model is a business-to-business (B2B) process since wholesalers buy from a manufacturing business and sell to a retail business. This differentiates the model from the retail model, a business-to-consumer (B2C) process where retailers buy from wholesale businesses and sell to individual consumers.

Functions of wholesalers in the wholesale model

Many companies utilize wholesalers and the wholesale model because of the impracticalities of selling direct to consumers. This is particularly true of large retailers, who may operate thousands of stores in hundreds of different regions.

To that end, some wholesalers act as middlemen for retailers and are vital cogs in the supply chain. Here are some of their functions:

Sales and promotions – wholesalers are typically responsible for meeting sales targets for their particular region through promotional campaigns. Inventory management – maintaining sufficient inventory is a critical function of any supply chain. Experienced wholesalers understand that different products sell at different rates. They then use this information to avoid overstocking and understocking issues across the supply chain.Breaking the bulk – when a wholesale company receives a bulk order, it must necessarily break the order down into smaller cartons or consignments ready for delivery to the retailer. Warehousing – to supply a whole region, wholesalers require a large warehouse space to store inventory. Warehouses must be large enough to accommodate the extra demand for stock during holidays such as Christmas. The warehouse itself must also be economical to operate and not eat into margins.Risk management – in most cases, wholesalers are also responsible for inventory losses incurred because of theft, fire, or accidental damage. This makes risk management a priority.Market information – wholesalers have a good understanding of the size and potential of a market and share this information with intermediaries up and down the supply chain. Some may also have information on how strong a competitor’s business is in a specific region, which is valuable information to retailers and other wholesalers alike.The benefits of buying and selling under the wholesale model

Let’s take a look at some of the benefits of buying and selling under the wholesale model.

BuyingCost and time reduction – as mentioned earlier, buying in bulk helps a business save money on most product ranges. For the retailer, the purchasing process is also more efficient. Wholesalers deal with multiple suppliers for every product, but the retailer only needs to do business with one wholesaler.Better deals – dealing with multiple suppliers, the wholesaler can quickly identify reputable companies who deliver high-quality products on time and at a reasonable price. This work also saves the retailer from finding reputable suppliers themselves.SellingHigher margins – selling under the wholesale model may require dealing with multiple suppliers and comparison shopping to get the best deal. However, this allows a business to buy low and sell high. Selling direct to consumers will earn the highest margins, while selling to retailers usually attracts a slightly lower (though still attractive) margin.Responsiveness – sellers also have a better understanding of high-demand products since they work with both retailers and customers. With supplier relationships already in place, wholesale sellers can also launch new products more quickly than competitors. What’s more, some wholesalers have a deep working knowledge of the timing and organization of the entire supply chain, which gives them a competitive edge.Key takeaways:The wholesale model is a selling model where products sell their products in bulk to a retailer at a discounted price. The retailer then on-sells the products to consumers at a higher price.The wholesale model helps larger retailers with the impracticalities of selling direct to consumers. Wholesalers perform several critical functions relating to sales and promotions, inventory management, warehousing, risk management, and the divulging of market information.For buyers, the wholesale model reduces the time and cost associated with securing multiple suppliers. For sellers, the ability to buy in bulk increases margins when dealing directly with the consumer. Wholesale sellers also have a deeper understanding of the market and supply chain itself, which increases competitiveness.

Read Also: Costco Business Model

Costco runs a high-quality, low-priced business model powered by its memberships that draw customers’ loyalty and repeat purchases. Top institutional investors comprise The Vanguard Group, with 8.55%, and BlackRock with 5.39%. Top individual shareholders comprise Craig Jelinek, Charles T. Munger (Warren Buffet partner and co-owner of Berkshire Hathaway), James Murphy, and more.

Read Also: Marketplace Business Models

A marketplace is a platform where buyers and sellers interact and transact. The platform acts as a marketplace that will generate revenues in fees from one or all the parties involved in the transaction. Usually, marketplaces can be classified in several ways, like those selling services vs. products or those connecting buyers and sellers at B2B, B2C, or C2C level. And those marketplaces connecting two core players, or more.

Read Also: Food-Delivery Business Models

In the food delivery business model companies leverage technology to build platforms that enable users to have the food delivered at home. This business model usually is set up as a platform and multi-sided marketplace, where the food delivery company makes money by charging commissions to the restaurant and to the customer. Wholesale vs. Retail A retail business model follows a direct-to-consumer approach, also called B2C, where the company sells directly to final customers a processed/finished product. This implies a business model that is mostly local-based, it carries higher margins, but also higher costs and distribution risks.

Where the retailer takes the risks of dealing with final customers, the wholesaler primarily deals with intermediaries/retailers that will take care of dealing with the final customers.

This, of course, has an advantage in terms of sales and marketing expenses. As the wholesaler will have fewer business risks, compared to the retailer. However, the wholesaler will need to spend a substantial amount of effort in developing its logistics infrastructure.

On the other hand, as the wholesales deal with the intermediaries, and at higher volume, and in some cases, for raw goods, it will also make fewer margins per product, as its business model will be based on volume.

The retailer, on the other hand, will enjoy wider margins per product, and it will have to carry a higher risk in terms of meeting a wider customer base. Therefore, a good chunk of its efforts will be spent on sales and marketing activities.

Wholesale vs. Direct-to-consumerDirect-to-consumer (D2C) is a business model where companies sell their products directly to the consumer without the assistance of a third-party wholesaler or retailer. In this way, the company can cut through intermediaries and increase its margins. However, to be successful the direct-to-consumers company needs to build its own distribution, which in the short term can be more expensive. Yet in the long-term creates a competitive advantage.

Similar to the distinction between wholesalers and retailers, the direct-to-consumer business will have to take the risks of dealing with the final customers. Usually, this requires a bigger effort, in securing this customer base, in supporting it before and after the sale.

Thus, the direct-to-consumers expenses related to customer acquisition, retention, and referral will be substantial. Thus, here you’ll see this projected on the balance sheets.

Where the wholesaler will have most of its expenses as “cost of sales” (meaning the costs needed to sustain its infrastructure), the direct-to-consumer might have most of its expenses tied to sales and marketing activities.

Wholesale vs. Private LabelingPrivate labeling involves one company selling the products of another company using its own branding and packaging. In most instances, a retailer purchases products from a manufacturer that are then sold to consumers with the manufacturer’s brand and packaging visible. In private labeling instead, the retailer might have a third-party manufacturer produce goods and sell them under the retailer’s brand. Therefore the manufacturer acts as a private label, not showing its brand toward consumers.

In the case of the private label, the retailer sells to final consumers the products that the manufacturer has passed along with its own labels. The main difference with the wholesaler is that the private labeler does show its brands to final consumers, and therefore there might be some activities of post-sales support who go with the manufacturer.

On the contrary, in most cases, the wholesaler only sends over goods that might be unlabeled or labeled with other brands’ names (related to third-party manufacturers) and therefore, it doesn’t have to carry the expenses related to post-sales support.

Read More:

Business ModelsBusiness StrategyMarketing StrategyBusiness Model InnovationPlatform Business ModelsNetwork Effects In A NutshellDigital Business Models

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Tesla Business Model – Updated 2022

Tesla is vertically integrated. The company runs and operates the Tesla’s plants. Cars are manufactured at the Gigafactory which also produces the battery packs and stationary storage systems for its electric vehicles. These are sold via direct channels (Tesla online store and the Tesla physical stores). In 2021, Tesla generated $53.8 billion in revenues. Automotive sales generated $47.2 billion (almost 88% of the total revenues); services/other genearted $3.8 billion; and energy generation and storage generated about $2.8 billion in revenues.   

Revenues breakdown2021%Automotive sales$44.12B81.98%Automotive regulatory credits$1.46B2.72%Automotive leasing$1.64B3.05%Services and other$3.8B7.06%Energy generation and storage segment revenue$2.79B5.18%Total Revenues$53.8B Key Facts FoundersElon Musk, Martin Eberhard, JB Straubel, Marc Tarpenning, Ian WrightYear FoundedJuly 1, 2003, San Carlos, CAYear of IPOJune 29, 2010IPO Price$17.00Total Revenues at IPO$93.35 millions, as of Nine Months Ended
September 30 2009, prior to the IPOElon Musk becomes CEO2008Total Revenues in 2021$53.8 BillionEmployees99,290 full-time subsidiaries’ employees worldwideRevenues per Employee$542,079.00Who owns Tesla?Elon Musk is the primary individual shareholder, with 23.1% of the company’s shares

Tesla business model quick breakdown 

We describe the Tesla business model via the VTDF framework developed by FourWeekMBA. 

Tesla Business ModelDescriptionValue Model: Transition to renewable energy.Tesla’s mission is “to accelerate the world’s transition to sustainable energy.” The company does that through mobility products (cars for now) powered by electric engines. And by building the infrastructure to produce energy from renewable sources (solar primarily).Technological Model: Multi-sided network effects. Mass manufacturingAs of now, Tesla is a car company, but it’s also and primarily a software company. When Tesla releases new software updates, these consistently improve its cars (from suspensions to self-driving and more). When it comes to certain features, like self-driving, Tesla enjoys network effects, where the more the software is used to record mileage, the better it gets. And the more Teslas are on the road, the more it creates the infrastructure where these cars understand each other. And the more energy stations are available, the more EVs become convenient vs. gas-powered vehicles. Also, Tesla is one of the few companies that managed to build a sold car business at scale, in the last century.Distribution Model: Direct Distribution. Leasing arm.Tesla leverages its online and physical stores. Since the start, the company opted for a direct approach, bypassing car dealers. In addition, Tesla built, over the years, stores that mimicked Apple successfully. Another important element for distribution over the years will be the company’s leasing arm. Suppose Tesla can make leasing convenient to its customers. In that case, it might be able to exponentially grow its revenues (just like the iPhone was subsidized by mobile carriers, a Tesla should be subsidized through convenient leasing agreements to make it scale at mass level in the US).Financial Model: automotive regulatory credits, leasing, generating margins at mass production for both cars and energy storage.Tesla’s regulatory credits will exponentially grow as the company scales its operations. In fact, those credits are given to Tesla because it produces 100% electric vehicles. Thus, as the production scales, Tesla will get more credits at no additional cost or effort. In addition, as Tesla scales, it might be able to build its leasing arm, which might work as the real cash cow, on the one hand, and also the driver of the company car sales in the future (a Tesla might be too expensive for many, without a lease). In addition, Tesla isn’t just a car company; it’s transitioning to become a major energy producer with its superchargers and electric infrastructure. From energy production to distribution, Tesla might become the Exxon of the future!Tesla founding story

The electric carmaker company is owned by entrepreneur/visionary Elon Musk. Tesla was founded by Martin Eberhard and Marc Tarpenning in July 2003. Elon Musk entered Tesla in 2006, first as investor and chairman, then he took the role of CEO which he still holds today.

After many delays to the first production of the Tesla Roadster prototype (the first version of the Tesla, which was both a way to validate the market and to generate revenues to be invested in the production of new Tesla models), Martin Eberhard would eventually be ousted, and Musk would, later on, by 2008, become CEO of the compamy. 

Who owns Tesla? By 2021, most of Tesla’s shares are still owned by Elon Musk, among the company’s co-founders and currently the CEO. Elon Musk is the top individual investor, with a 23.1% stake in the company, equivalent to over 244 million shares. Musk is followed by Lawrence Ellison (founder of Oracle), with a 1.5% company’s stake. Ellison also sits on Tesla’s board. And Antonio Gracias, among the company’s first investors, has over 1.6 million shares of the company. Other institutional investors and mutual funds like The Vanguard Group, Blackrock, and Capital Ventures International also have a good chunk of the company’s stocks.

As of March 2022, Elon Musk is worth more than $240 billion, and this counting Tesla stocks only. 

Understanding Tesla long-term strategy

While we all know Tesla today, its strategy was shaped already a few years back. Usually effective strategies get rolled out in years, and only after they become successful those become obvious.

Yet, when they are getting rolled out they are not obvious at all. So much so, that those rolling out the unconventional strategy, are getting criticized, ostracized, and only at the end idolized.

This is the case of Tesla’s long-term strategy, which is worth analyzing to understand what entry-strategy Tesla employs, and what its long-term strategy looks like.

Targeting a subsegment of the automotive market

Based on the market context, companies, especially startups have to find ways to enter markets, often dominated by other players, and roll out a temporary business model, which is only viable in the short-term, as it helps the company to transition to a more mature business model, to achieve scale. 

When Tesla entered the market, it did it via the launch of the Roadster, a sports electric car, so it could start validating the market gradually, by a sub-segment of the automotive industry.

This enabled Tesla to enter with a product priced competitively (Tesla wasn’t able at the time to offer an electric vehicle at a competitive price). As sports cars are higher-priced, that segment of the market was in fit with Tesla’s temporary business model.

At the same time, the sports car segment also had customers open to more innovative products, as long as they would be highly differentiated.

Yet before transitioning to a new business model, the company will need to validate smaller segments of the market by attracting the psychographic which is ready to take on the new technology.

Yet often new technologies require the development of a whole ecosystem. For instance, in the case, of Tesla, it’s not about convincing people that electric cars are “cool” (not only that).

But also, initially, about providing the infrastructure to make the electric vehicle competitive in terms of everything else (availability of charging stations, charging vs. refilling, cost of batteries, time to recharge, and so on).

Only a few years after, in 2012, Tesla would finally start to roll out a business model based on potential mass adoption of its electric cars:

Only in 2012, Tesla would finally launch its Model S, the electrical sedan, intended to be adopted at mass-level. This strategy is still getting rolled out, and it might still take years to get to the level of mass-production.

Successful strategies take years to become viable, as in some cases, they require the fit between the technology and the ecosystem it encompasses and the market.

When this happens the company rolling out the business model will reach its full potential in terms of scale.

Back in 2012, Elon Musk explained that well:

“In 2006 our plan was to build an electric sports car followed by an affordable electric sedan, and reduce our dependence on oil…delivering Model S is a key part of that plan and represents Tesla’s transition to a mass-production automaker and the most compelling car company of the 21st century.”

Is Tesla profitable yet?

Tesla turned a profit for the first time in the third quarter of 2019. Indeed the company posted $143 million in net profits. However,  annualized the company net losses were $862 million.

What’s Tesla’s value proposition?

As highlighted in its financial statements, Tesla offers three core values to its customers:

Long Range and Recharging FlexibilityHigh-Performance Without Compromised Design or FunctionalityEnergy Efficiency and Cost of OwnershipTesla Core Technology

Source: Tesla Financials

Tesla’s core technology moves around three core parts: 

Autopilot & Full Self Driving (FSD).Vehicle Software.Battery & Power train.Breaking down Tesla business model

For the first time in its history, in January 2020, Tesla passed the $100 billion market capitalization. 

By 2022, Tesla passed a trillion dollar market cap, a 10x growth. For some context, in the same period, a company like Ford had a 60-70 billion dollars market cap. 

Tesla sells three main products:

Model 3: for mass adoption

A four-door mid-size sedan with a base price for mass-market appeal produced both in the Fremont Factory and. at the Gigafactory in Shanghai.

Model Y: the SUV

That is a compact sport utility vehicle (“SUV”) built on the Model 3 platform with the capability for seating for up to seven adults.

Model S and Model X: the full-size sedan

That is a four-door full-size sedan that features large touchscreens driver interface, Autopilot hardware, over-the-air software updates, and fast charging through our Supercharger network.

Related: What Is a Business Model? Successful Types of Business Models You Need to Know

Elon Musk’s long-term vision for Tesla

Back in 2018, Elon Musk highlighted the long-term vision for Tesla:

Our goal is to become the best manufacturer in the automotive industry, and having cutting edge robotic expertise in-house is at the core of that goal. Our recent acquisitions of advanced automation companies have added to our talent base and are helping us increase Model 3 production rates more effectively. We don’t want to simply replicate what we have built previously while designing additional capacity. We want to continuously push the boundaries of mass manufacturing.

Tesla’s mission can be summarized as:

to accelerate the world’s transition to sustainable energy.

As the company highlights:

Tesla builds not only all-electric vehicles but also infinitely scalable clean energy generation and storage products. Tesla believes the faster the world stops relying on fossil fuels and moves towards a zero-emission future, the better.

Elon Musk is getting ready to share a further Master Plan, for Tesla’s coming decade. 

Main Tesla subjects will be scaling to extreme size, which is needed to shift humanity away from fossil fuels, and AI.

But I will also Include sections about SpaceX, Tesla and The Boring Company.

— Elon Musk (@elonmusk) March 21, 2022

 Tesla revenue streams explained  In 2021, Tesla generated over $53.8 billion in revenues, compared to the $31.5 billion in 2020. The largest segment in the automotive sales (comprising regulatory credits revenues), followed by leasing (as part of the automotive), generated $1.6 billion in 2021. Outside the automotive sales, services (non-warranty after-sales vehicle services, sales of used vehicles, retail merchandise, and more) accounted for $3.8 billion. And energy generation and storage accounted for $2.8 billion. US and China are the primary markets, with almost $24 billion and nearly $14 billion respectively, in 2021. In 2021, Tesla generated $5.6 billion in Net Income, a net margin of over 10%.

Tesla has four main sources of income:

AutomotiveAutomotive leasingServices and otherEnergy generation and storage

Based on Tesla’s financial statements, in 2021 the company almost doubled its revenues while improving substantially its bottom line.

The most important revenue stream is the Automotive sales revenue (which includes revenues related to the sale of new Model S, Model X and Model 3 vehicles, including access to Supercharger network, internet connectivity, Autopilot, full self-driving, and over-the-air software updates, as well as sales of regulatory credits to other automotive manufacturers) with over $45 billion, followed by automotive leasing with over $1.6 billion and services and other with over £3.8 billion.

How can we explain such a growth? In 2021, Tesla experienced a 58% growth YoY in automotive revenues. Primarily driven by the ramped up production and deliveries of Model 3 (and Model Y).  For a bit of context, the Fremont factory churned out over 430 thousand vehicles in the last four quarters. And it’s ramping up production of the Model X: Here all the key metrics trailing 12 months. With the spiked up sales of vehicles. Improved operating and free cash flows. Together with improved profitability. Therefore, Tesla today is a wholly different company than it was just three years before. As also highlighted by the financial metrics below:   

And to be sure, this was all but a linear process. As Elon Musk highlighted, Tesla’s success was far from taken for granted. The worst near to death experience was in 2018 when Tesla wasn’t able to hit its production target, in what Musk called a “production hell.”

In a November 2020 Tweet Elon Musk emphasized: 

That funding round completed 6pm on Christmas Eve in 2008. Last hour of last day possible, as investors were leaving town that night & we were 3 days away from bankruptcy. I put in all money I had, didn’t own a house & had to borrow money from friends to pay rent. Difficult time.

Tesla distribution strategy

Tesla is vertically integrated, as its pipeline goes from manufacturing to direct sales of its vehicles.

As highlighted by Tesla  “the benefits we receive from distribution ownership enable us to improve the overall customer experience, the speed of product development, and the capital efficiency of our business.”

Even though a vertically integrated network represented a substantial investment in terms of physical assets Tesla can keep control over the experience of its customers. While also being able to retain important feedbacks throughout the supply chain.

Indeed, in a model where the customer is reached via indirect distribution the company might lose control of the customer experience at the last mile, and the valuable feedback it can gather from the marketplace.

Tesla follows an unconventional distribution model compared to other car manufacturers where the final sale is made via car dealerships which not tied to the company.

Why did Tesla use a direct distribution approach?

Back in October 2012, Elon Musk explained in a blog post, the whole philosophy around Tesla distribution strategy:

There are reasons why Tesla is pursuing a company owned store and service center model that we feel are really important. In many respects, it would be easier to pursue the traditional franchise dealership model, as we could save a lot of money on construction and gain widespread distribution overnight. Many smart people have argued over the years that we should do this, just like every other manufacturer in the United States, so why have I insisted that we take a unique path?

Some of the key elements that made Tesla go with this strategy, which was way more expensive, and hard in the short-term was:

Conflict of interest of franchise dealers

For traditional car dealers, gasoline cars constituted the vast majority of their business. Thus, the franchise dealer would have been in a conflict of interest in offering a Tesla product, as this would have required them to contrast their core business model.

Ability to educate and channel the customer toward choosing Tesla over established brands

As Elon Musk highlighted back in 2012: “Tesla, as a new carmaker, would therefore rarely have the opportunity to educate potential customers about Model S if we were positioned in typical auto dealer locations.”

So Tesla built its own stores, located in central places (similar to Apple stores’ distribution or perhaps branding strategy) to educate and enable potential customers to place orders, but primarily as a long-term objective to educate consumers about the brand and the potential of electric vehicles.

Today, after almost a decade of this strategy, Tesla is among the most recognized brands, and its stores are places that people enjoy to visit, as the electric vehicles proposed by Tesla have become iconic. 

Freedom to open direct stores anywhere 

With a traditional distribution strategy, it would have been easy for Tesla to run in conflict with franchised stores, by opening direct stores in close proximity. By having only a direct distribution, Tesla doesn’t have such a problem.

Does Tesla spend nothing on marketing?

Musk is famous for his unconventional stunts. For instance, the stunts of the flamethrowers or the Tesla roadsters sent on space managed to reach hundreds of millions of people worldwide without a dollar spent on ads.

However, this also fueled the myth that Tesla doesn’t spend a dollar on advertising campaigns or marketing.

Like any other company, Tesla has a marketing budget for advertising and marketing campaigns. As an example, in 2018 Tesla reported its “Marketing, Promotional and Advertising Costs:”

Marketing, promotional and advertising costs are expensed as incurred and are included as an element of selling, general and administrative expense in the consolidated statement of operations. We incurred marketing, promotional and advertising costs of $70.0 million, $66.5 million and $48.0 million in the years ended December 31, 2018, 2017 and 2016, respectively.

Thus, even though the former PayPal Mafia member Elon Musk is the master of unconventional PR, Tesla still needs advertising to push its sales.

However, if we compare that to the revenue figures for 2018 (over $21 billion), the spending on marketing activities is around 0,3% which is an incredibly low figure, almost negligible, considering that large companies like Tesla spend billion of dollars in branding campaings! 

Based on that, we can indeed affirm, that it’s like Tesla doesn’t have a marketing budget at all! And we’re talking about a company that pased a trillion-dollar in market cap!

Tesla manufacturing explained

Thousands of purchased parts sourced from hundreds of suppliers across the world. For the key parts (battery cells, electronics, and complex vehicle assemblies) Tesla developed closed ties.

For most car manufacturers, components to build the cars, are often single-supplied. Other parts are instead available from multiple sources. For as much possible to diversify the suppliers’ components as car manufacturers also Tesla can experience high volatility in sourcing the components for its cars.

To prevent that, Tesla either looks for multiple sources or can stock up inventories of components.

Is Tesla worth more than GM?

In January 2020, Tesla passed for the first time in its history the market cap of $100 billion, twice the market cap of GM (about $50 billion) in the same period even though in 2018 GM had 6-7 times the revenues of Tesla. Tesla though is valued as a tech company, which in the future can capture a wider and wider market, thus becoming way more valuable.

By October 2021, Tesla market cap would 10x, reaching over a trillion dollar! This in part, was due to the fact that the company managed to successfully pass the mass manufacturing stage.

Undoubtly, Tesla is getting valued as a tech company, an electric energy platform (not much different from its oil equivalent: Exxon or Chevron), and a company that might generate hundreds of billions in sales in the coming years. This is the bet markets are making. 

Tesla as a business platform

Looking at Tesla just as a company it’s a limited view. Tesla is much more than that. The company is a business platform, meaning it doesn’t just make and sell cars, but it is also an energy generation and storage platform. So it’s both a pipeline and a platform. To understand that let’s see the various components that make Tesla up as a company. 

Breaking down Tesla competitors As an electric automaker and builder of sports cars and now trucks, Tesla’s competitors comprise companies like Ford, Mercedes-Benz, Porsche, Lamborghini, Audi, Rivian Lucid Motors, Toyota, and more. At the same time, Tesla is an electric energy production and storage company (SolarCity); it competes with Sunrun, SunPower, and Vivint Solar. And as an autonomous driving company, it competes with companies like Zoox, Waymo, and Baidu with the self-driving software.

Tesla isn’t just an automaker; it is an electric-only car automaker, an electric storage company, and an autonomous driving player. For that, we’ll have to analyze Tesla from these three perspectives.

Automaking

Within the automaking segment, Tesla has over the years diversified its products‘ lines, to cover different segments of the market. When Tesla entered the market, as a go-to-market strategy it had to enter it (nonetheless Elon Musk’s long-term vision to make the electric car available to the masses) with the Roadster model.

While this model is still available, this is the highest-priced model and the product Tesla used to bootstrap its operations. Indeed, at the time, Tesla couldn’t produce a lower-cost electric car (Model 3 will finally achieve this goal), and that is how Tesla made its business model viable as it entered the new market for electric cars. This is what I call a transitional business model:

Note: A transitional business model is used by companies to enter a market (usually a niche) to gain initial traction and prove the idea is sound. The transitional business model helps the company secure the needed capital while having a reality check. It helps shape the long-term vision and scalability.

Over the years, as the market matures, Tesla grew, an electric ecosystem was born, and the technology to enhance battery performance improved, Tesla also expanded its products‘ lines to cover the various segments.

Sport & Performance

The primary models covering these segments are:

Roadster: here some of the competitors are Dodge Challenger, Porsche Chiron, and BugattiModel S: in this segment, Tesla competes with players like Mercedes S-Class, BMW 7 Series, Porsche Panamera, Audi A7 & A8, and more.Suv

The primary models covering these segments are:

Model X: here some of the competitors are BMW X5, Mercedes-Benz GLS-Class, Volvo XC90, Porsche Cayenne.Model Y (compact SUV): in this segment, Tesla competes with Renault Zoe, Nissan LEAF, Volksvagen e-Golf, Audi e-tron and more.Truck

In this segment, Tesla just launched the Cybertruck:

Cybertruck’s competitors comprise Rivian, Ford, Bollinger.

City Car

Tesla has finally its mass-market product, the Model 3. This model competes with models such as BMW Series 2,3,4,5 Mercedes Class C, CLA, CLS, Audi A3, A4, A5, Lexus, ES, GS, and many others.

Energy Storage

Tesla acquired SolarCity back in 2016, for $2.6 billion, and with that, it competes in the electric production and storage industry with players like SunRun, SunPower, Vivint Sonar, Trinity Solar, and SolarWorld to mention a few.

Autonomous driving

Tesla’s Autopilot is one of the key ingredients of its technology and one of the most interesting future developments for the company. In this segment, Tesla competes with other autonomous driving companies like Zoox (bought by Amazon), Waymo (an Alphabet bet), and Baidu.

Why the automotive regulatory credits matter for Tesla?

Automotive Regulatory Credits generated over $1.4 billion in revenues to Tesla in 2021, compared to just 594 million in 2019. 

How do they work? Since Tesla produces zero-emission vehicles (“ZEVs”), these credits are sold to other regulated entities “who can use the credits to comply with emission standards and other regulatory requirements.”

As Tesla rumps up its operations, those regulatory credits revenues will also grow together with the increased production of cars. 

In fact, the credits are directly linked to Tesla’s new vehicle production.

This revenue stream is extremely imporant, because (even if small for now) it’s completely free. Meaning, there is no additional effort/cost for the company in having these credits, it only needs to produce more EVs. 

And as the production scales, this number will grow exponentially, thus boosting the company’s profitability and cash flows (at least until this regulation will last)! 

Key takeawaysBack in 2008, Tesla used a go-to-market strategy by targeting a small segment of the automotive industry (sports car) as it could offer at the time competitive options to customers in that segment.In 2012, Tesla started to roll out its long term mission to have electric cars, mass-produced with the launch of its Model S. This strategy is still getting rolled out, and as Tesla gains more market shares and build a more viable electric ecosystem it can also reduce its pricing, thus increasing the mass adoption for its cars.Tesla uses a direct distribution model where it sells directly through its e-commerce and physical stores across the world.Tesla also offers new vehicle sales with customers’ trade-in needs for its existing Tesla and non-Tesla vehicles. The Tesla and non-Tesla vehicles acquired through trade-ins are remarketed, either directly by Tesla or via third-parties.Tesla also owns several manufacturing facilities where it either single-source certain components or it diversifies components sources. Where possible Tesla stacks up components to reduce the risk and volatility of the supply chain.Tesla’s distribution strategy combined with its appeal as consumer brands with products like Model 3, priced with a base price for mass-market appeal, makes Tesla among the most valuable car manufacturers in the world.

Read Also: Tesla SWOT Analysis, Transitional Business Models, Tesla Mission Statement.

Business resources:

The Ultimate Guide to Market SegmentationWhat Is a Business Model?The Complete Guide To Business DevelopmentBusiness Strategy ExamplesWhat Is a Business Model Canvas? Business Model Canvas ExplainedBlitzscaling Business Model Innovation Canvas In A NutshellWhat Is a Value Proposition? Value Proposition Canvas ExplainedWhat Is a Lean Startup Canvas? Lean Startup Canvas ExplainedMarketing Strategy: Definition, Types, And ExamplesMarketing vs. Sales: How to Use Sales Processes to Grow Your BusinessHow To Write A Mission StatementWhat is Growth Hacking?Growth Hacking Canvas: A Glance At The Tools To Generate Growth Ideas

Case studies:

Tesla Mission StatementWho Owns TeslaTesla SWOT AnalysisHow Does PayPal Make Money? The PayPal Mafia Business Model ExplainedHow Does Venmo Make Money? the Peer-To-Peer Payment App for MillennialsHow Does WhatsApp Make Money? WhatsApp Business Model ExplainedHow Does Google Make Money? It’s Not Just Advertising! How Does Facebook Make Money? Facebook Hidden Revenue Business Model ExplainedMarketing vs. Sales: How to Use Sales Processes to Grow Your BusinessThe Google of China: Baidu Business Model In A NutshellAccenture Business Model In A Nutshell Salesforce: The Multi-Billion Dollar Subscription-Based CRMHow Does Twitter Make Money? Twitter Business Model In A NutshellHow Does DuckDuckGo Make Money? DuckDuckGo Business Model ExplainedHow Amazon Makes Money: Amazon Business Model in a NutshellHow Does Netflix Make Money? Netflix Business Model Explained

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What Is A Franchising Business Model?

Franchising is a business model where the owner (franchisor) of a product, service, or method utilizes the distribution services of an affiliated dealer (franchisee). Usually, the franchisee pays a royalty to the franchisor to be using the brand, process, and product. And the franchisor instead supports the franchisee in starting up the activity and providing a set of services as part of the franchising agreement. Franchising models can be heavy-franchised, heavy-chained, or hybrid (franchained).

A business model or a growth strategy?

As the story goes McDonald’s started to use a franchising model to grow its restaurant business, and it became over the 1960s a giant in the restaurant business (or real estate depending on the perspective). 

McDonald’s leveraged the existing “Speedy Service System” developed by the McDonald’s brothers (what we would later call “fast food”) which was an incredible process development able to provide an improved product at a faster pace.

The speedy system itself represented the application of the manufacturing process to the restaurant business. Later another important building block was added. 

The franchising model really became widely applied during the 1920s and 1930s in the restaurant business. As new physical communication networks (in the US the Interstate Highway System) enabled people to move long distances with their cars. 

Later on, Ray Kroc would apply in its most aggressive form the franchising model (different formats already existed centuries before) to McDonald’s existing operation to create one of the most scalable restaurant businesses in the world. 

But is franchising a business model, a revenue model, or a growth (expansion) strategy?

Well, franchising alone is just a distribution/growth/expansion strategy. 

Yet, franchising combined with a product delivered differently (the “speedy system”) made up a whole new experience, that made it a new business model: the heavy franchised McDonald’s business model.

Therefore, as we’ll see throughout this research, franchising here is considered as a business model, as it embraces product, distribution, and growth, as a whole.

Understanding franchising

Modern franchising, as conceived in today’s business world came as a bio-product of the incredible expansion of the restaurants’ chains business across the US, like the automobile, and the infrastructure of highways built around it also enabled people to travel distances to go to their favorite restaurants.

From there, especially after the 1950s, franchising was used as a great way for restaurants to expand their operations across the country. This model today, while has become a standard, it’s all but a unified model. In fact, as we’ll see several companies mastered it and tweaked it, to make it in line with their business philosophy, and growth model, and strategy.

When a business is looking for a cost-effective means of increasing market share or geographical reach, it may opt to franchise its product and brand name. 

Franchising is essentially a joint venture between a franchisor and a franchisee. The franchisor is the original business that sells the rights to its name, idea, brand, or systems. The franchisee then buys these rights, which allows it to sell the franchisor’s goods and services under an existing trademark and business model.

The franchise business model itself is an attractive proposition for franchisees, particularly those wanting to leverage the brand equity of a franchisor in a highly competitive market. Franchising is thought to have originated in the United States, with the model first implemented by the Singer sewing machine company in the mid-19th century. 

Today, some of the world’s leading fast-food restaurant companies utilize the franchise model. These include McDonald’s, Dairy Queen, Taco Bell, Dunkin’ Donuts, and Jimmy John’s Gourmet Sandwiches. In the United States alone, the franchising industry employs approximately 8.67 million people across more than 785,000 establishments.

Some of the key points to take into account when it comes to franchising:

Growth: franchisning can work for sure as a growth propeller as you can easily increment the speed of opening up new locations, by also reducing initial capital requirements, operational costs, and time to market. Control: while franchising is a great model to speed up operations and test new markets. It also comes with loss of control over product, brand and standards, when executed too fast. As we’ll see throughout this research, different franchising models have come up over the years to make up for the loss of control over speed (like McDonald’s land operations trying in franchisees and making them accountable for the company’s best practices). Speed: the speed of execution is defenitely one of the key advantage of the franchising model. And as the market widens up or shrinks, a franchising model can help the company adapt fast, as locations can be open or closed according to market trends. Product development: while franchising is a great model for increasing the growth of the business. It might also come at the expense of the product development. Imagine the case of a company only running franchised stores, who loses the understanding of the customer. Instead, as we’ll see franchising models have adapted also to leave a small percentage of owned stores, where the francihising company can experiment and test new product lines. Branding: also here, franchising can make or break a whole brand. And this all depends on whether the company has been able to balance out speed and ability of the franchisees to stick with the company’s standards and be true to the company’s mission. How a franchising agreements work

Like any agreement between two parties, successful franchising depends on both companies demonstrating professional competence and acting in good faith.

To some extent, this can be facilitated by:

A code of conduct – which sets out how each party must act toward the other. Most codes outline disclosure requirements, a good faith obligation, a predetermined cooling-off period, dispute resolution mechanisms, and procedures for ending the agreement. Legislation – in addition to the code of conduct, franchise parties are also required to act in accordance with laws and regulations. In general terms, franchising agreements must operate within the bounds of fair work legislation, relevant tax laws, state licensing schemes, and anticompetitive conduct guidelines.

As we’ll see franchising agreements will take different shapes, according to the franchising model the company operates.

The three main types of franchising

Within the franchising model itself are three different types:

1 – Traditional franchising 

In traditional franchising, the franchisee sells products manufactured by the franchisor. This arrangement appears at first glance to be rather similar to a supplier-dealer relationship. However, this is not the case. The traditional franchise is more closely associated with the franchisor’s brand and generally receives more services than a dealer would from its supplier.

For example, The Coca-Cola Company manufactures and bottles soft drinks before selling them to franchisees. The Ford Motor Company offers regular maintenance and servicing for Ford vehicles bought at franchise dealerships.

2 – Business-format franchising

The franchisee under this second model receives a complete system for delivering the product or service of the franchisor. The role of the franchisor is to define the business system and establish the brand standards, while the role of the franchisee is to manage its day-to-day activities within those systems and standards.

Dominoes doesn’t franchise pizza any more than McDonald’s franchises hamburgers. Both companies use business-format franchising to streamline the systems for delivering their branded products and services amongst franchisees.

3 – Social franchising

Social franchising is the newest franchising type and is the application of business-format franchising techniques in the delivery of products and services to disadvantaged people.

Companies that engage in social franchising provide basic items such as drinking water, pharmaceutical drugs, and other items related to healthcare, education, sanitation, and energy. The franchising arrangement itself is often with a not-for-profit organization, religious institution, or government body.

Other types of franchising based on the FourWeekMBA research

Beyond the classic configuration and categorization of franchising business models, the FourWeekMBA research identified three main types of franchising models, mainly swinging between a model where most restaurants are owned (skewed toward a chain model) or a model where most restaurants are franchised, or a hybrid model.

Heavy-franchised business model

McDonald’s follows what can be defined as a heavy-franchised business model.

McDonald’s is a heavy-franchised business model. In 2018, of McDonald’s total restaurants, 93% were franchised. The long-term goal of the company is to transition toward 95% of franchised restaurants. The company’s operating income in 2018 was $8.8 billion compared to $9.55 in operating income for 2017.

Many have argued over the years that McDonald’s is more of a real estate company than a restaurant company. Why is it the case? While McDonald’s does use a heavy-franchise model, where most restaurants are franchised (McDonald’s keeps a low ratio of chain restaurants where it can also do product development and discovery, which then gets extended to its franchised restaurants), there is a twist.

McDonald’s secures the land or the rental contract of the land, therefore the franchisee, even if an “independent restaurateur” is locked into McDonald’s growth plan. Indeed, one of the risks of a franchising strategy is the loss of standards, especially related to product quality. To prevent that, McDonald’s controls the land, thus making sure that the franchisee is aligned with the product’s standards.

In addition, starting a McDonald’s franchising operation might be quite expensive, and it might require substantial experience. Therefore, this works as friction at the onset, which should motivate to open McDonald’s restaurants only for those who really have solid growth plans.

In fact, as McDonald’s highlights, an initial investment to open up a restaurant might range from $1,008,000 to $2,214,080 (including a $45,000 franchise fee) and at least half a million of liquidity available to be invested into the business.

Franchisee can’t go on and open a McDonald’s on its own, instead the land lease agreement has to go always thourhg the company. In fact, McDonald’s keeps them separated. On the one side, the land development process; on the other side, the franchisee selection and operations.

On the one hand, the company has a real estate arm dedicated to the selection of lands for developing new restaurants. As the company highlights:

McDonald’s looks for the best locations within the marketplace to provide our customers with convenience. We build quality restaurants in neighborhoods as well as airports, malls, tollways and colleges at a value to our customers.

Some of the key criteria for restaurant development are:

50,000+/- sq. ft.Corner or corner wrap with signage on two major streets.Signalized intersection.Ability to build up to 4,000 sq. ft.Parking to meet all applicable codes.Ability to build to a minimum height of 23′ 4″.Source: McDonald’s

When it comes instead to the franchisees, McDonald’s offers a proven playbook and process to create a money-making restaurant machine.

To recap:

McDonald’s does use a heavy-franchised model. However, the company has tweaked the model to quickly expand its operations through franchising, while at the same time keeping control over standards followed by the franchisees, as McDonald’s operates as the landowner/operator. This tweak is extremely important as it helps balance out, the otherwise too aggressive franchising strategy, which is great for growth, but it might result in loss of control over process and product quality standards. For that, McDonald’s has created two separate operations’ arms: one is a real estate development unit, to develop the land for the restaurants; the other is the franchising operations to select franchisees and help them kick off operations.Heavy-chained business model

Where McDonald’s has found a balance to quick expansion and opening of new franchising by owning the land where franchisees operate and by locking them in through contractual agreements, thus making sure they respect the best practices of the group. Other restaurant chains, like Chick-fil-A use the opposite model.

While growth in opening new locations is much slower in comparison to the fast pace. ofplayers like McDonald’s the focus is on making sure the store would be successful. In fact, the initial fee requested to franchisees is way lower compared to McDonald’s ($10,000 vs. $45,000):

While the entry fee is lower, operating a Chick-fil-A franchisees will have to pay a 15% royalty fee. As the company explains it the franchise disclosure document as 15% of franchised restaurant sales, less amounts charged to franchisees for equipment rentals and business services fees and 50% of net profits.

In short, the Chick-fil-A franchising model has the following features:

It doesn’t require a net worth, compared to other franchisng operations as McDonald’s, as its the company who undertakes the expenses to open up a new restaurant.The franchising fee (entry fee) is just $10,000, compared to for instance, the McDonald’s $45,000 fee. However, the franchisee has to pay 15% on the net sales, and 50% on the net sales. This makes sense as the franchisor and not the franchisee is the owner of the business, where the franchisee primarily operates the business. Therefore, the Chick-fil-A franchising operations, looks more like a chain-model, while it skewes its playbook in finding the right people to operate the business. In fact, of the applicants, only a tiny percentage of those make it up to become franchisees. Hybrid or franchained business model

The Coca-Cola Company, has mastered a franchising model, which also works as a go-to-market strategy, which we defined franchained:

In a franchained business model (a short-term chain, long-term franchise) model, the company deliberately launched its operations by keeping tight ownership on the main assets, while those are established, thus choosing a chain model. Once operations are running and established, the company divests its ownership and opts instead for a franchising model.

As we highlighted in the Coca-Cola business model analysis:

Coca-Cola follows a business strategy (implemented since 2006) where through its operating arm – the Bottling Investment Group – it invests initially in bottling partners’ operations. As they take off, Coca-Cola divests its equity stakes, and it establishes a franchising model, as long-term growth and distribution strategy.

More precisely:

The Coca-Cola distribution system (source: Coca-Cola Company)

While in the directly owned bottling facilities Coca-Cola sells directly, in the concentrate operations, independent bottling partners manage distribution. Therefore, Coca-Cola makes money by selling its concentrate to bottling partners (they must place a full order for the concentrate available in that territory as part of the bottling agreement).

As exemplified below, this is how the whole system works:

Coca-Cola follows a business strategy (implemented since 2006) where through its operating arm – the Bottling Investment Group – it invests initially in bottling partners operations. As they take off, Coca-Cola divests its equity stakes, and it establishes a franchising model, as long-term growth and distribution strategy.

An opposite scenario might be that of using the franchising model in the short-term to test whether new markets are profitable, by reducing the operational costs required to open new units, and by speeding up the growth while internalizing them in the long run, if they turn out to be successful and strategic for the company.

This will work as a reverse franchained model.

In a reverse franchained business model, the franchising company can leverage franchising to test whether new markets are profitable, by reducing the operational costs required to open new units, and by speeding up the growth while internalizing them in the long run, if they turn out to be successful and strategic for the company by making it easy and convenient for franchisees to sell back the operations. Key takeawaysFranchising is a business model where the owner (franchisor) of a product, service, or method utilizes the distribution services of an affiliated dealer (franchisee). While most associate franchising with fast-food chains, the model can be traced back to the Singer sewing machine company.Franchising as a business model can be split into three types: traditional, business-format, and social. Most franchising agreements in place today are business-format agreements.Franchising is only successful if both parties act professionally and behave appropriately. This means following guidelines set out in a formal code of conduct or any applicable legislation.Franchising models recapIn a heavy-franchising model like McDonald’s the initial fee, the investment to open up a restaurant and the net worth required to operate the business are quite high. To keep the standards high, McDonald’s has a dedicated arm, which is in charge of land development, and that controls the rental agreement with the franchisees. The franchisees, in turn, own the business and they will pay royalties to the company.In a heavy-chained model, like Chick-fil-A, the initial fee to open up a restaurant, the net worth required to operate and the overall investment required is much smaller. Indeed, the company owns the whole operation, and it accepts applications from thousands of potential franchisees each year. In this franchising model, therefore, the growth of opening new restaurants is much slower compared to the heavy-franchised model. However, the company makes much more money from the franchising operations, as it gets high royalties as a percentage of sales and it also splits profits with franchisees. De facto, in this model the franchisee is more like a high-profile manager than the owner of the business. And in part, this is justified by the fact, that Chick-fil-A bears the costs of opening up these restaurants. In a hybrid model, or what we defined franchained, a company can leverage on a chain model in the short-term and unleash the franchising model, once the operations have been established. The Coca-Cola Company leverages this model to establish new operations. An opposite scenario might be that of using the franchising model in the short-term to test whether new markets are profitable, by reducing the operational costs required to open new units, and by speeding up the growth while internalizing them in the long run, if they turn out to be successful and strategic for the company. Connected Case StudiesMcDonald’s is a heavy-franchised business model. In 2018, of McDonald’s total restaurants, 93% were franchised. The long-term goal of the company is to transition toward 95% of franchised restaurants. The company’s operating income in 2018 was $8.8 billion compared to $9.55 in operating income for 2017.Starbucks is a retail company that sells beverages (primarily consisting of coffee-related drinks) and food. In 2018, Starbucks had 52% of company-operated stores vs. 48% of licensed stores. The revenues for company-operated stores accounted for 80% of total revenues, thus making Starbucks a chain business model. IKEA, as a brand comprising two separate owners. INGKA Holding B.V. owns IKEA Group, the holding of the group. At the same time, that is held by the Stichting INGKA Foundation, which is the owner of the whole Group. Thus, IKEA Group is a franchisee that pays 3% royalties to Inter IKEA Systems. 

Main Free Guides:

Business ModelsBusiness CompetitionBusiness StrategyBusiness DevelopmentDigital Business ModelsDistribution ChannelsMarketing StrategyPlatform Business ModelsRevenue ModelsTech Business ModelsBlockchain Business Models Framework

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14 Facebook Stats That Matter To Business People In 2022

Facebook, now Meta had f 71,970 employees as of December 31, 2021.The company also reported 2.91 billion monthly active users (remember that Facebook Inc, also comprises other products like Instagram, while they affect the Facebook bottom line, Facebook doesn’t report how much of it is coming from each product and doesn’t tell us the users count of those platforms). In 2021 Facebook, now Meta, generated $117.9 billion in revenues, compared to the $85.9 billion in 2020. In 2021 Meta generated $39.3 billion in net income, compared to $29.1 billion in 2020. In 2021 Meta business model was driven by advertising revenues, which represented 97.4% of the total revenues, compared to the 98.6% of 2020. As of 2021, Facebook spent over 20%($24.6 billion) of its revenues in R&D. While it spent about 12% of its revenues in Sales and Marketing activities ($14 billion).Advertising (over 97% of revenues): the company generated over $114.9 billion in advertising primarily consisting of displaying ad products on Facebook, Instagram, Messenger, and third-party. As Facebook highlighted, in 2021, the number of ads delivered increased by 10%, as compared with approximately 34% in 2020. And the price per ad increased of 24% in 2021, compared to a 5% decrease in 2020. This means that Facebook is squeezing users’ attention to drive up revenues (not a good sign).Payments and other fees (less than 1% of total revenues): $721 million in revenues primarily consisted of the net fee received from developers using Payments infrastructure or revenue from the delivery of virtual reality platform devices and most importantly revenue from the delivery of consumer hardware devices.Reality Labs generated about $2.27 billion in revenues (almost 2% of the total revenues) from the delivery of consumer hardware products, such as Meta Quest (former Oculus), Facebook Portal, and wearables, and related software and content. In 2021, Facebook started to report this segment separately, comparade to the advertising segment, as in theory, this should become the main business unit for the company in the coming decade (this is a matter of survival for Facebook). The ARPU or average revenue per user, is a key metric to track the success of Facebook,  – now Meta – family of products. For instance, by the end of 2021, Meta’s ARPU worldwide was $11.57. While in US & Canada it was $60.57, in Europe it was $19.68, in Asia $4.89 and in the rest of the world it was $3.43. Therefore, a user from the US or Canada as of 2021 is worth more than a user from Europe or the Asia-Pacific region. To make a comparison, a user from US and Canada, on average, is worth 17x more than a user in the rest of the world!  Most advertising revenues still come from mobile and from a main product: Instagram. Meta managed to increase susbtantially its revenues in 2021, primarily thanks to the number of ads delivered, which increased by 10% (compared to approximately 34% in 2020). The primary ad revenue driver was the price per ad increase of 24% in 2021 ( compared to a 5% decrease in 2020). This metric is extremely important as it shows that Facebook is squeezing users’ attention to drive up revenues.Reality Labs sales were primarily driven by Meta Quest (former Oculus), which turned out to be a great VR gaming console. Will it be able to make the jump and become the primary device for content creation, and consumption in the virtual reality? That’s an open question. 

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How Does Robinhood Make Money? – Updated 2022

Robinhood is an app that gamifies investing in stocks, ETFs, options, and cryptocurrencies, all commission-free. While the app is commission-free Robinhood made $1.81 billion in total revenues in 2021, primarily based on transaction-based revenue which represented over 77% ($1.4 billion) of the company’s overall revenues. Transaction-based revenues primarily includes payment for order flow from routing customer orders for options, cryptocurrencies, and equities to market makers.

Revenues breakdown2021Transaction-based revenues$1.4 BillionNet interest revenues$257 MillionsOther revenues$155.9 MillionsTotal Revenues$1.81 BillionNet Losses$-3.68 BillionsTransaction-based revenues breakdown2021%Options$688.8 Millions49%Cryptocurrencies$419.38 Millions30%Equities$287.73 Millions21%Other$6.33 Millions0.5%Total$1.4 Billion Robinhood Key Financial Stats201920202021Net Cumulative Funded Accounts5.1 Millions12.5 Millions22.7 MillionsMonthly Active Users (MAU)4.3 Millions11.7 Millions17.3 MillionsAssets Under Custody (AUC)$14.13 Billion$62.97 Billion$98 BillionAverage Revenues Per User (ARPU)$65$108$103Key Facts FoundersVladimir Tenev & Baiju BhattYear FoundedApril 18, 2013Year of IPO7/28/2021IPO Price$38.00Total Revenues at IPO$958 MillionsTotal Revenues in 2021$1.4 BillionEmployees3,800 full-time employees as of December 2021Revenues per Employee$369,039.47Robinhood business model short breakdown 

We describe the Robinhood business model via the VTDF framework developed by FourWeekMBA. 

Robinhood Business ModelDescriptionValue Model: Democratize Investing.Robinhood’s mission is to “democratize access to the American financial system.” They do that via a gamified investment platform which is easy to set up and use with no commissions (customers are routed to market makers who earn Robinhood payment for order flow commissions).Technological Model: Asymmetric Platform, Two-Sided Network Effects.Robinhood leverages two-sided network effects, where the more free users join the platform, the more it becomes attractive to market makers, thus prompting the platform to add a growing number of assets quickly. While Robinhood is primarily free for users, it generates revenues by routing customers to market makers and getting commissions for that. That is the mechanism of the so-called “payment for order flow.” That means that market makers are the primary customers for Robinhood.Distribution Model: Branding/Product Development/Growth Hacking, Deal Making, Lobbying.For Robinhood to keep growing, the company needs to invest massive resources back into its platform to enable a larger and larger number of users to invest on top of it. The company also invests substantial resources in branding campaigns, securing distribution deals on various platforms, and keeping its app’s rankings high across the Apple and Android stores. In addition, since Robinhood operates in a highly regulated sector, it needs to be able to keep close ties with regulators in the financial sectors (this is why Robinhood has internalized various lobbyists profiles in the last 2-3 years).Financial Model: Payment for Order Flow.While Robinhood is free for users, users transacting on Robinhood are routed to market makers, thus earning the company commissions for this trading activity, facilitating liquidity through various markets. In 2021, for instance, Robinhood made most of its money from the payment for order flow related to options and cryptocurrencies (and within cryptocurrencies primarily with Doge).Robinhood business model today

While Robinhood’s app is free, and it makes it easy for users to invest, it does make money in an asymmetric way. In fact, the company makes money on the transactions placed by its users, not by charging a commission, but instead by the so-called payment for order flow (“PFOF”).

Payment for order flow consists of a “kickback” or commission that the broker routing customers to a market maker (in charge of enabling the bid and ask price) will pay a commission to the broker as a sort of market-making fee.

Indeed, transaction-based revenues (which represented over 77% of the company’s revenues in 2021) consist of amounts earned from routing customer orders for options, cryptocurrencies, and equities to market makers.

As the company highlights, when customers place orders for options, cryptocurrencies, or equities on Robinhood, the platform routes these orders to market makers, receiving a commissions from them for creating market liquidity.

When it comes to equities and options trading, these fees are known as payment for order flow (“PFOF”).

When it comes to cryptocurrency trading, those are called “Transaction Rebates.”

When it comes to equities, the fees are based on the publicly quoted bid-ask spread for the security being traded.

For options, the fee is on a per contract basis based on the underlying security.

In the case of cryptocurrencies, Robinhood’s rebates are a fixed percentage of the notional order value.

Robinhood’s revenues, in 2021, were primarily driven by options and cryptocurrency trading.

While Robinhood supports various cryptocurrencies for trading, during the second quarter of 2021 and for the first, second, and third quarters of 2021, transaction-based revenue attributable to transactions in a single cryptocurrency (Dogecoin) generated approximately 7%, 32%, and 8% of our total net revenues, for each quarter!

Quick intro to RobinhoodAs pointed out on the Robinhood website you can “Invest in stocks, ETFs, options, and cryptocurrencies, all commission-free, right from your phone or desktop.“Robinhood earns money by offering:Robinhood Gold, a margin trading service, which starts at $6 a monthEarn interests from customer cash and stocks, just like a bank collects interest on cash depositsAnd from rebates from market makers and trading venues

Robinhood’s claimed mission is to “democratize access to the American financial system.”

Indeed, Robinhood’s primary value proposition is fueled by an investing platform that lets you buy and sell stocks, exchange-traded funds, options, and cryptocurrencies, all commission-free. As its mission is to democratize the financial system, this goes through three main elements of the platform:

User-friendlyMade for all investors–newcomersAnd convenient also to experts (even though that is not the primary target)

As Vlad Tenev, co-founder of Robinhood told Business Insider “there were a lot of people who didn’t believe in it, and we had to bang down a ton of doors. We were really relentless.”

After seventy-five pitches they finally got a round of investing that allowed them to launch the platform.

As explained on the Robinhood website, the realization of a market potential from the app came from the two founders’ experience in selling software to Wall Street’s hedge funds.

They figured those funds paid nothing for those transactions, while the average American would be charged for fees that would be up to $10 for every trade. From that, they realized they could democratize the whole process.

That is why in December 2013 they launched the service on Hacker News even before it was available:

This strategy paid off and Robinhood grew quickly, from a waiting list of hundreds of thousands of users in 2014 to over 3 million accounts in 2018. The convenience of the app is at the same time strength and for some a weakness. As pointed out on Bloomberg “it’s a little bit like putting a casino in an investor’s pocket.”However, that same frictionless, friendly user-experience, together with a seamless app have made it extremely popular among millennials.  Robinhood also makes money from rebates, as pointed out on its blog “the revenue from these rebates cover the costs of operating the business and to offer commission-free trading. Robinhood earns ~$0.00026 in rebates per dollar traded. That means if you buy a stock for $100.00, Robinhood earns 2.6 cents from the market maker.”At the same time, Bloomberg found out that than 40 percent of its revenue in early 2018, came from selling its customers’ orders to high-frequency trading firms, or market makers. Why does this matter? For a company that called itself Robinhood, which is supposed to democratize the financial markets. It might be paradoxical that the same company makes most of its revenues from users that have small capitals that generate income for high-frequency trading firms, which are the quintessence of Wall Street. Breaking down how Robinhood really makes money

If we look at the Robinhood business model more in detail, we find out it makes money with three primary ways:

Interest earning accountsA freemium model relying on more “advanced” featuresMonetizing via market making feesInterests earning accountsWhen the cash on Robinhood accounts are uninvested cash, those can be lent out and invested in other safe financial instruments that make Robinhood earn a small return on each dollar invested.The freemium model

Freemium is an effective model that can help companies leverage the free offering to create a sales funnel that generates a continuous stream of leads and paying customers.

Indeed, Robinhood offers basic services for free, and it offers more advanced functionalities (like buying on margins, or after-hours trading) part of a paid package called Robinhood Gold.

Read: Successful Types Of Business Models 

Market making fees

Another more controversial way for Robinhood to make money is through market makers, which pay small fees to Robinhood for sending trades to process through their platforms.

When a company becomes a synonym of buying stocks

During the pandemic Robinhood became even more popular, as more people looked into investing:

Stories of Robinhood amateurs, retail investors, performing better than Wall Street firms, became a mantra that helped the company further spread and grow.

However, Robinhood also became an app used by teenagers. In June 2020, a 20-year old started to trade options at the margin, and he had accumulated a paper loss of over $700K which led him to suicide.

This opened up the worry of predatory issues from the Robinhood part and the risk of running an app that makes it easy for everyone to trade. How Robinhood will address these issues will also affect how the platform will evolve and how regulation will react to that.

Handling hypergrowth 

As we saw at the beginning of this story, Robinhood’s preferred mode of expansion has always been through a waitlist that the company opened to quickly gain traction. 

Robinhood started to roll out its waitlist in 2019, for the UK. This was an important move, as it would have enabled an expansion outside the US.

As the company announced back in 2019: 

In 2013, Robinhood set out on a mission to democratize the financial system. We pioneered commission-free investing in the US to enable everyone to participate in the markets. Since then, over six million Americans have discovered Robinhood. 

And it continued: 

Today, we’re excited to continue our journey and introduce the Robinhood investing platform to the UK. With Robinhood, you can invest in thousands of US and global stocks, commission-free. There are no foreign exchange fees and no account minimums. Sign up today to get early access when we launch in early 2020. 

Yet, as the pandemic hit and growth picked up even further, also troubles came with it. Indeed, one thing is growth, another is hypergrowth.

When companies scale too quickly, especially in a sector, like Robinhood’s growth within the financial industry, things can get messy. 

In an industry highly regulated, and with the potential to negatively influence the lives of many young people approaching trading for the first time, Robinhood had to pause its international growth plan and focus on the US market.

In a statement released to TechCrunch the company announced: 

A lot has changed in the world over the past few months, and we’ve made the difficult decision to postpone our UK launch indefinitely.

And it stressed out how it needed to focus back on its core, the US, before being able to grow internationally, and not for lack of resources.

The company, back in May 2020, closed a round of $280 million, led by Sequoia, which valued the company at $8.3 billion.

Therefore, the focus back to the US, more than a problem of lack of allocated resources for growth, is a problem of handling scalability in an industry that has high regulatory boundaries. 

Robinhood and the meme economy Meme stocks are securities that go viral online and attract the attention of the younger generation of retail investors. Meme investing, therefore, is a bottom-up, community-driven approach to investing that positions itself as the antonym to Wall Street investing. Also, meme investing often looks at attractive opportunities with lower liquidity that might be easier to overtake, thus enabling wide speculation, as “meme investors” often look for disproportionate short-term returns.

As I explained in the piece about meme investing:

Platforms like Robinhood make money on fees from large Wall Street institutions through a mechanism known as “payment for order flow.” In short, this is controversial not only from the fact it kind of goes against Robinhood’s mission to democratize investing but also in terms of potential conflict of interests between the platform and its retail investors. 

In fact payments for order flow or “PFOF” work apps like Robinhood, or other stock brokerage firms make money by selling trades of their customers.

For helping the market to be liquid Robinhood gets a fee on each trade, which is taken from the spread (the difference) between the bid and ask price. The more liquid the market the tighter the bid and ask price, and vice-versa. And this, of course, might be a very lucrative side of the business for Robinhood. 

But it poses the question of how consistent it is with its mission. 

Indeed, during the take over of meme stocks in 2021, as explained in meme investing, Robinhood stopped the trades of some of these stocks (like GameStop) claiming a liquidity/risk insurance policy. Yet some doubted that this was also due to the fact that retail traders were squeezing out of the market a few hedge funds with short positions, also owned by some institutions Robinhood was doing business with (for more details look the whole meme investing piece). 

As an answer to these concerns Robinhood’s CEO highlighted the possibility to give away, or reduce this revenue stream, in a piece entitled “The Sub-Penny Opportunity,” Vlad Tenev explained:

The Sub-Penny Rule (SEC Rule 612) prevents exchanges from quoting in increments less than a penny. This limitation can result in an artificially wide NBBO, which is the pricing benchmark used by off-exchange market-makers. 

And he further explained: 

In a nutshell, exchanges cannot fairly compete with off-exchange market makers in executing our customers’ orders. As a first step toward better enabling our exchanges to compete fairly, we propose amending Rule 612 to allow exchanges to quote prices up to four decimal places for all stocks. 

Back in 2005, when Rule 612 was adopted, the consensus was that price increments of $0.0001 were economically insignificant. Supporters of the rule argued that sophisticated investors may use these smaller increments to step ahead of retail investors by trivial amounts. Some also argued that technology hadn’t advanced enough to properly handle an enormous increase in on-exchange quoting.

However, since that time, technology has advanced by leaps and bounds, and commission-free trading has become the industry norm. It’s now clear that customers value sub-penny price improvements and no longer consider them economically insignificant, especially in low-priced, high-volume stocks that may only trade with a penny spread. 

Robinhood’s IPO

Finally, the Robinhood prospectus is out we can finally look under the hood of the company to understand how its revenues are broken up.

As highlighted in Robinhood’s financial prospectus most of its revenues in 2021 were transaction-based. As we’ll see this means that Robinhood is making most of its revenues from payment per order flow.

During the pandemic, Robinhood managed to increase all its KPIs, primarily thanks to meme stocks, and crypto investing, which draw to the platform millions of new users.

Among the assets that recorded an exponential growth for Robinhood, equities, and options – driven by meme stocks like GameStop and AMC, cryptocurrency investing – primarily driven by Dogecoin; made up the incredible growth in assets traded on the platform and therefore the fees taken by Robinhood.

Within the transaction-based revenues, most of them came from market makers. And among those Citadel Security represented 34% of the total market maker revenues for Robinhood. This is relevant because Citadel Securities LLC is the largest market maker in the US, which during the short squeeze from Redditors bailed out hedge fund Melvin Capital. Wall Street As Main Customer

As the company highlighted in its financial prospectus:

We primarily earn transaction-based revenues from routing user orders for options, equities and cryptocurrencies to market makers when the performance obligation is satisfied, which is at the point in time when a routed order is executed by the market maker. The transaction price for options is on a per contract basis, while for equities it is primarily based on the bid-ask spread of the underlying trading activity. For cryptocurrencies, the transaction price is a fixed percentage of the notional order value. For each trade type, all market makers pay the same transaction price. Payments are collected monthly in arrears from each market maker.

And it continued:

Because a majority of our revenue is transaction-based (including payment for order flow, or “PFOF”), reduced spreads in securities pricing, reduced levels of trading activity generally, changes in our business relationships with market makers and any new regulation of, or any bans on, PFOF and similar practices may result in reduced profitability, increased compliance costs and expanded potential for negative publicity.

How do these transactions are computed?

Robinhood explains:

A majority of our revenue is transaction-based, in that we receive consideration in exchange for routing our users’ equity, option and cryptocurrency trade orders to market makers for execution. With respect to equities and options trading, such fees are known as PFOF. With respect to cryptocurrency trading, we receive “Transaction Rebates.” In the case of equities, the fees we receive are typically based on the size of the publicly quoted bid-ask spread for the security being traded; that is, we receive a fixed percentage of the difference between the publicly quoted bid and ask at the time the trade is executed. For options, our fee is on a per contract basis based on the underlying security. In the case of cryptocurrencies, our rebate is a fixed percentage of the notional order value. Within each asset class, whether equities, options or cryptocurrencies, the transaction-based revenue we earn is calculated in an identical manner among all participating market makers. We route equity and option orders in priority to participating market makers that we believe are most likely to give our customers the best execution, based on historical performance, and we do not consider transaction fees when routing orders. For cryptocurrency orders, we route to various market makers that we believe offer competitive pricing, and we do not consider Transaction Rebates when routing cryptocurrency orders.

Doge Represented Most Of Robinhood Growth For Crypto Assets

As highlighted in its financial prospects:

A substantial portion of the recent growth in our net revenues earned from cryptocurrency transactions is attributable to transactions in Dogecoin. If demand for transactions in Dogecoin declines and is not replaced by new demand for other cryptocurrencies available for trading on our platform, our business, financial condition and results of operations could be adversely affected.

Dogecoin was so important in terms of revenue streams related to crypto investing, that in Robinhood prospectus it was highlighted how the company would be negatively affected “if the markets for Dogecoin deteriorate or if the price of Dogecoin declines, including as a result of factors such as negative perceptions of Dogecoin or the increased availability of Dogecoin on other cryptocurrency trading platforms.”

Who Are Robinhood Customers?

As highlighted in the financial prospects “from January 1, 2015, to March 31, 2021, over half of the customers funding accounts on our platform told us that Robinhood was their first brokerage account.”

And it continued “as of March 31, 2021, approximately 70% of our AUC came from customers on our platform aged 18 to 40, and the median age of customers on our platform was 31.”

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The Facebook ARPU Explained

ARPU or average revenue per user is a key metric for attention merchants, like Facebook. It assesses the ability of the platform to monetize its users. For instance, in 2021, Facebook’s ARPU worldwide was $11.57. Its ARPU was driven by US & Canada ($60.57), followed by Europe ($19.68), and Asia ($4.89), and in the rest of the world it was $3.43.

Understanding Facebook’s ARPU and why it’s so important to its business model The ARPU or average revenue per user, is a key metric to track the success of Facebook,  – now Meta – family of products. For instance, by the end of 2021, Meta’s ARPU worldwide was $11.57. While in US & Canada it was $60.57, in Europe it was $19.68, in Asia $4.89 and in the rest of the world it was $3.43.

ARPU or average revenue per user is a critical measure to assess Facebook ability to monetize its users. ARPU is given by total revenue in a given geography during a given quarter, divided by the average of the number of monthly active users in the geography at the beginning and end of the quarter.

As specified on Facebook financials “this is calculated by computing revenue by user geography based on our estimate of the geography in which ad impressions are delivered.“

Important Note: It is important to notice that as reported on Facebook financials “ARPU includes all sources of revenue, the number of MAUs used in this calculation only includes users of Facebook and Messenger as described in the definition of MAU above.” That means the metric might be biased in favor of Facebook, as it comprises all the sources of revenues (comprising Instagram and WhatsApp). This implies that in part the monetization ability of Facebook might also be due to the increase in revenues from other platforms such as WhatsApp and Instagram. We can’t know for sure as this is not broken down in Facebook financials. 

Successful Types of Business Models You Need to KnowWhy ARPU is a critical metric for Facebook financial success

The critical business metrics Facebook tracks comprise:

Daily active users (DAUs): daily active users are defined by Facebook “as a registered Facebook user who logged in and visited Facebook through the website or a mobile device, or used the Messenger application (and is also a registered Facebook user), on a given day.“Monthly active users (MAUs): monthly active users are defined by Facebook “as a registered Facebook user who logged in and visited Facebook through the website or a mobile device, or used the Messenger application (and is also a registered Facebook user), in the last 30 days as of the date of measurement.“And average revenue per user (ARPU)

As an attention merchant, Facebook has to make sure to have its users to go back to the platform. Indeed, attention harvesting and the ability to sell it back advertisers and marketers is the Facebook primary business model. That is also why is critical to monitor the ARPU to understand how its business model is evolving.

In 2021, Facebook’s ARPU was primarily driven in the US and Canada.

This means that Facebook needs to keep primarily monetizing its users in the US and Canada.

How? In several ways. For instance, through an increase in ad spending, a larger marketers base, and better engagement rates of users all affect the ARPU.

Warning: ARPU is not how much your data is worth

It is critical to remark that what Facebook can make of users in terms of monetization doesn’t represent the real value.

In other words, the value of users’ data might be way higher than what Facebook can generate via advertising. Therefore, it is important not to confuse average revenue per user with the real value of the data behind users, which is another story!

In fact, in the last years, concerns about privacy have led to complete rehaul of users’ experience across various platforms. 

This in turn, affects, the overall Facebook business model. 

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How Does Facebook [Meta] Make Money? Facebook Business Model – Updated 2022

Facebook, the main product of Meta is an attention merchant. As such, its algorithms condense the attention of over 2.91 billion monthly active users as of June 2021. Meta generated $117.9 billion in revenues, in 2021, of which $114.9 billion from advertising (97.4% of the total revenues) and over $2.2 billion from Reality Labs (the augmented and virtual reality products arm). 

Facebook, metaverse and rebranding as Meta

At the end of October 2021, Mark Zuckerberg announced the Facebook Inc. rebrand as Meta. A company focused and dedicated to building the Metaverse. Beyond buzzwords and corporate communication. What does that imply?

With the announcement, Facebook, changed its name to Meta. It wasn’t just a name change (although it was perceived by many as such) but it also worked as an organization restructuring. 

Indeed, with this move Facebook, now Meta, wanted to show its bold move into VR/AR, which are seen by Zuckerberg as the next mass consumers’ platform after the smartphone.

In short, with this new organization, they are trying to go after, what today we call the Metaverse, which is something still hard to make sense of, since its definition is getting shaped now. 

Thus, Facebook, now Meta, is trying to become a leading player in this new market. But to really understand that we need to look at the overall Facebook business model. 

Snapshot of Facebook key stats and facts

As reported officially by Facebook, the company’s main headquarter is situated on 1 Hacker Way, Menlo Park, California 94025.As we highlighted the “Hacker Way” is Mark Zuckerbergs’ key driving business strategy mindset.Facebook, now Meta had f 71,970 employees as of December 31, 2021.The company also reported 2.91 billion monthly active users (remember that Facebook Inc, also comprises other products like Instagram, while they affect the Facebook bottom line, Facebook doesn’t report how much of it is coming from each product and doesn’t tell us the users count of those platforms). In 2021 Facebook, now Meta, generated $117.9 billion in revenues, compared to the $85.9 billion in 2020. In 2021 Meta generated $39.3 billion in net income, compared to $29.1 billion in 2020. In 2021 Meta business model was driven by advertising revenues, which represented 97.4% of the total revenues, compared to the 98.6% of 2020. As of 2021, Facebook spent over 20%($24.6 billion) of its revenues in R&D. While it spent about 12% of its revenues in Sales and Marketing activities ($14 billion).

Facebook key community metrics, as of 2021 (Source: Facebook Financials).

What drove Facebook business model in 2021? A FourWeekMBA Analysis shows that in 2021, the growth of Facebook’s revenues were driven by the US & Canada users’ monetization, due to a 24% price per ad increase in 2021. This means that Facebook is squeezing its users’ attention, to give a boost at its advertising revenues. 

As we saw, Facebook, now Meta makes money with an advertising business model. Almost all the revenue comes from targeted advertising.

Facebook revenue breakdown in 2021 was:

Advertising (over 97% of revenues): the company generated over $114.9 billion in advertising primarily consisting of displaying ad products on Facebook, Instagram, Messenger, and third-party. As Facebook highlighted, in 2021, the number of ads delivered increased by 10%, as compared with approximately 34% in 2020. And the price per ad increased of 24% in 2021, compared to a 5% decrease in 2020. This means that Facebook is squeezing users’ attention to drive up revenues (not a good sign).Payments and other fees (less than 1% of total revenues): $721 million in revenues primarily consisted of the net fee received from developers using Payments infrastructure or revenue from the delivery of virtual reality platform devices and most importantly revenue from the delivery of consumer hardware devices.Reality Labs generated about $2.27 billion in revenues (almost 2% of the total revenues) from the delivery of consumer hardware products, such as Meta Quest (former Oculus), Facebook Portal, and wearables, and related software and content. In 2021, Facebook started to report this segment separately, comparade to the advertising segment, as in theory, this should become the main business unit for the company in the coming decade (this is a matter of survival for Facebook). Facebook’s same mission statement, changed vision (hint: it’s all about the metaverse)

The company’s mission was to “to give people the power to build community and bring the world closer together.”

As Facebook, became Meta, its mission statement staid the same, however its vision changed. 

In fact, while Meta’s mission is still to give people the power to build community and bring the world closer together.

The vision is that “of helping to bring the metaverse to life.”

As the company highlighted in its 2021 financials: 

We build technology that helps people connect, find communities, and grow businesses. Our useful and engaging products enable people to connect andshare with friends and family through mobile devices, personal computers, virtual reality (VR) headsets, wearables, and in-home devices. We also help peoplediscover and learn about what is going on in the world around them, enable people to share their opinions, ideas, photos and videos, and other activities withaudiences ranging from their closest family members and friends to the public at large, and stay connected everywhere by accessing our products. Meta is movingbeyond 2D screens toward immersive experiences like augmented and virtual reality to help build the metaverse, which we believe is the next evolution in socialtechnology

The pillars of Meta’s business model

Family of Apps • Facebook. Facebook helps give people the power to build community and bring the world closer together. It’s a place for people to share life’smoments and discuss what’s happening, nurture and build relationships, discover and connect to interests, and create economic opportunity. They cando this through News Feed, Stories, Groups, Watch, Marketplace, Reels, Dating, and more. • Instagram. Instagram brings people closer to the people and things they love. Instagram Feed, Stories, Reels, Video, Live, Shops, and messaging areplaces where people and creators can express themselves and push culture forward through photos, video, and private messaging, and connect withand shop from their favorite businesses. • Messenger. Messenger is a simple yet powerful messaging application for people to connect with friends, family, groups, and businesses acrossplatforms and devices through chat, audio and video calls, and Rooms. • WhatsApp. WhatsApp is a simple, reliable, and secure messaging application that is used by people and businesses around the world to communicateand transact in a private way. Reality Labs • Reality Labs. Reality Labs’ augmented and virtual reality products help people feel connected, anytime, anywhere. Meta Quest lets people defydistance with cutting-edge VR hardware, software,

Facebook’s products line

Facebook [Meta] producs line comprises: 

Facebook

The main product, which enables people to connect, share, discover, and communicate with each other on mobile devices and personal computers. Some of the Facebook’s key features comprise: Facebook News Feed, Stories, Groups, Shops, Marketplace, News, and Watch.

Instagram Instagram makes money via visual advertising. As part of Facebook products, the company generates revenues for Facebook Inc. overall business model. Acquired by Facebook for a billion dollar in 2012, today Instagram is integrated into the overall Facebook business strategy. In 2018, Instagram founders, Kevin Systrom and Mike Krieger, left the company, as Facebook pushed toward tighter integration of the two platforms.

The fastest growing, mobile-based social media. Which Facebook acquired in 2012, for $1 billion and which today is worth many times over that. Instagram is primarily a mobile native app, to share photos, videos, and private messaging, and connect with and shop from their favorite businesses and creators. Some key features of Instagram comprise: the Instagram Feed, Stories (become a standard in social media, this format was copied from Snapchat), Reels (a feature that is becoming a standard format in social media, primarily copied from TikTok), IGTV, Live, Shops, and messaging.

Messenger

The messaging application for people to connect with friends, family, groups, and businesses across platforms and devices through chat, video, and Rooms.

WhatsApp

WhatsApp, the messaging application, which was acquired by Facebook for $19 billion back in 2014. Which Facebook integrated within its family of apps. While WhatsApp doesn’t monetize with ads directly, it is integrated in the other products.

Founded in 2009 by Brian Acton, Jan Koum WhatsApp is a messaging app acquired by Facebook in 2014 for $19B. In 2018 WhatsApp rolled out customers’ interaction services. WhatsApp might be transitioning toward a set of features from video chats to social commerce that might transform WhatsApp into a Super App.Facebook Reality Labs

Facebook Reality Labs is the augmented and virtual reality laboratory wchich produces hardware and consumer devices. This is comprised of Oculus, a leader in VR headset,  which Facebook acquired in 2014 for $2.3 billion. Oculus Quest, the main product line of what has been rebranded as Facebook Reality Labs is the VR device, which will also play a key role in the development of the Metaverse. 

We’ll see why the Metaverse plays such a key role for Facebook’s future. And it’s all about distribution. 

It’s all about ARPU: How much are you worth to Facebook?

ARPU stands for average revenue per user. In short, how much money a company can get on average from each user. In the Facebook case, we can take into account the monthly active users.

For a company like Facebook, for which over 98% of its revenues come from advertising the amount of time people spend on the so-called news feed is crucial to increase the profitability metrics of the company.

That isn’t only because Facebook is an advertising company, but also the way its business model was built. If you think about Google, what makes the company able to monetize its users is not necessarily how much time they spend on the search results pages. Instead, that is based on how fast users can find what they need. Once they click through that is how Google makes money.

Of course, things are changing fast both on Google and on Facebook. Yet as of now the more time you spend on Facebook and the more you’re active on it, the more you allow it to make money. What else? Not all users are born equal. In fact, according to the geography and the ad market of each country, the monetization strategy changes. 

For instance, that is how much each user based on geography was worth to Facebook in the third quarter of 2018:

US and Canada: $27.61Europe: $8.82Worldwide: $6.09

Therefore, a user from the US or Canada as of 2018 is worth more than a user from Europe or the Asia-Pacific region. The long-term objective for Facebook is to keep increasing its monetization for each user, especially in the developing parts of the world where there is still space to grow the user base, which instead has stalled in the US and Canada: 

Facebook move into the Metaverse!

The Facebook business model is quite simple: advertising. Even though there are two sources of income, most of the revenue comes from ads.

I wouldn’t be surprised to see the other sources of income, other than advertising, grow in the next years. That is good to diversify the revenue stream.

However, as of now, the company growth is tied to its ability to engage its daily active users. 

Some users (for instance, North America and Europe) are worth more on Facebook because those areas are monetized differently. Also, there is one key metric that tells us if the value of Facebook will keep growing in the long-run: ARPU. 

Facebook, together with Google, is the most profitable attention merchant. The company has emulated successfully the Google advertising machine.

With a couple of slight differences.

First, Facebook’s ads are pushed to the users via targeting, where in Google’s case these ads are pushed based on contextual search. Second, where Google’s distribution passes through ownership of hardware (Google manufactures the Pixel), browser (Google owns Chrome), mobile operating system (Google runs Android), and search. Thus, Google (Alphabet) is way more vertically integrated: 

Facebook’s distribution is primarily based on strong brand names. With the acquisitions of Instagram, WhatsApp and Oculus, Facebook has kept a strong distribution, yet primarily based on the strenght of these brands. 

Thus, from here we can really really explain the swift move that Facebook made into the Metaverse. 

We can argue that Mark Zuckerberg’s Meta is in a Blitzscaling mode. Where it’s both trying to defend its business model, and attack the market, by creating a whole new industry, potentially bigger than mobile. 

To understand this, we need to look at the Apple’s privacy update on mobile devices.

The Apple’s privacy change

The triggering move to Facebook’s rebrand has been the survival threat posed by Apple to the entire Facebook business model. On January 2021, Apple announed the “Data Privacy Day” where it explained: 

“A Day in the Life of Your Data” helps users better understand how third-party companies track their information across apps and websites, while describing the tools Apple provides to make tracking more transparent and give users more control. The explainer sheds light on how widespread some of these practices have become. On average, apps include six “trackers” from other companies, which have the sole purpose of collecting and tracking people and their personal information.Data collected by these trackers is pieced together, shared, aggregated, and monetized, fueling an industry valued at $227 billion per year.

App privacy nutrition lab, by Apple (Source: Apple). This was just another of the steps Apple had taken to completely rehaul the digital advertising industry. In fact, Apple started to roll out a new default mode for privacy on its mobile devices. Where it showed users a clear statement where it said “Facebook would like permission to track you across apps and websites owned by other companies.” This led and it’s leading many users to opt-out from mobile tracking and therefore advertising. Potentially creting a negative impact to the whole Facebook ecosystem. The Metaverse Supply Chain 

In the 2021, Founder’s letter Mark Zuckeberg highlighted: 

We are at the beginning of the next chapter for the internet, and it’s the next chapter for our company too.

In recent decades, technology has given people the power to connect and express ourselves more naturally. When I started Facebook, we mostly typed text on websites. When we got phones with cameras, the internet became more visual and mobile. As connections got faster, video became a richer way to share experiences. We’ve gone from desktop to web to mobile; from text to photos to video. But this isn’t the end of the line.

The next platform will be even more immersive — an embodied internet where you’re in the experience, not just looking at it. We call this the metaverse, and it will touch every product we build.

And he continued: 

In the metaverse, you’ll be able to do almost anything you can imagine — get together with friends and family, work, learn, play, shop, create — as well as completely new experiences that don’t really fit how we think about computers or phones today. We made afilm that explores how you might use the metaverse one day.

Facebook, now Meta emphasized its role in this development as: 

Our role in this journey is to accelerate the development of the fundamental technologies, social platforms and creative tools to bring the metaverse to life, and to weave these technologies through our social media apps. We believe the metaverse can enable better social experiences than anything that exists today, and we will dedicate our energy to helping achieve its potential.

These statements which sound inspirational are actually explaining the long-term survival threat posed to Facebook, the rebrand as Meta, and its long-term success, achievable if Facebook managed to build the Metaverse!

What can you do in the Metaverse?

While Facebook’s vision for the Metaverse is limited for now, this might comprise various business worlds, domains and ecosystems. In fact, Metaverse is a term that comprises VR/AR, crypto and more. 

Yet, In Facebook’s Meta vision, the Metaverse will have a few key killer features like gaming, fitness and more: 

Horizon Home

Messengers calls in VR

Work and Productivity

Summary Facebook was founded in 2004 by Mark Zuckerberg in his dorm room at Harvard. Since then the company has never stopped growing. If it were a country, Facebook would probably be the most crowded on earth. However, the ability of the company to increase its value over time is based on how much money on average can make for each user.Over 97% of Facebook’s revenues come from advertising. Therefore, unless things will change; the news feed is still the primary driver for monetizing Facebook’s content. A simple change in its algorithm can influence the mood of billions of people. Also, it can affect the value of the company for billions of dollars.Facebook swiftly moved into the Metaverse, as Apple’s privacy changes also threatened the company’s long-term survival. That is why Facebook, now Meta is committed in building the so-called Metaverse. Key conclusions Though Meta claims to move toward the Metaverse, advertising through Facebook/Instagram is still the primary driver. While Facebook has kept growing in areas of the world like Asia and the rest of the world, its monetization and ARPU are still primarily tied to US & Canada, which, in 2021 represented over 43% of the total revenues. In 2021, ARPU was $11.57 worldwide. While in US & Canada it was $60.57, in Europe it was $19.68, in Asia $4.89 and in the rest of the world it was $3.43. This shows the great discrepancy in ability to monetize traffic un North America and Europe vs. other areas of the world. Most advertising revenues still come from mobile and from a main product: Instagram. Meta managed to increase susbtantially its revenues in 2021, primarily thanks to the number of ads delivered, which increased by 10% (compared to approximately 34% in 2020). The primary ad revenue driver was the price per ad increase of 24% in 2021 ( compared to a 5% decrease in 2020). This metric is extremely important as it shows that Facebook is squeezing users’ attention to drive up revenues.Reality Labs sales were primarily driven by Meta Quest (former Oculus), which turned out to be a great VR gaming console. Will it be able to make the jump and become the primary device for content creation, and consumption in the virtual reality? That’s an open question. While other tech giants like Google and Apple are vertically integrated, and control the whole supply chain of data. In fact, Apple runs iOS operating system on the iPhone and the Apple Store. While Google runs Android operating system on Android Devices, and the Google Play marketplace on top of these devices. These are the mobile distribution pipelines that enable apps, like Facebook & Instangram to be experienced by billions of users. While the Facebook’s family of apps still enjoy strong brands, thus, making it hard for companies like Apple and Google (which control the mobile distribution pipelines) to block users’ growth for the company. These companies can still affect negatively the Meta advertising machine, as they can change the rules of how users need to approve personalized advertising – unilaterally. While there is not clear sign of slowed revenues for Meta, in 2021. It’s worth emphasizing how the company kept growing its revenues by increasing the cost of advertising substantially (not a viable strategy in the long-term). In addition, the company expects a substantial slow-down in 2022, as effect of the Apple’s privacy policy change (users have to opt-int explicitly to targeted ads). In fact, Meta’s CFO has already announced a substantial – expected – decrease of profitability for the company in 2022. This means, that the move to the metaverse, for Facebook (now Meta) isn’t just a strategic move. That is a survival move! Where Facebook hasn’t integrated its supply chain over the years, primarily relying on third-party marketplaces (Apple Store and Google Play), to make its business model survive in the long-term, the company will need to build the hardware, operating system, software and marketplace that might power up the next generation of mass consumer devices!Related Case Studies

Instagram Business Model

Instagram makes money via visual advertising. As part of Facebook products, the company generates revenues for Facebook Inc. overall business model. Acquired by Facebook for a billion dollar in 2012, today Instagram is integrated into the overall Facebook business strategy. In 2018, Instagram founders, Kevin Systrom and Mike Krieger, left the company, as Facebook pushed toward tighter integration of the two platforms.

Snapchat Business Model

Discord Business Model

Discord makes money in several ways. From its Discord Store, where users can buy premium games, to the seller shops, that primarily works with a 90/10 revenue share for developers and game sellers. And the ability for sellers to get more visibility on the platform by adding features to the game visibility.

WhatsApp Business Model

Founded in 2009 by Brian Acton, Jan Koum WhatsApp is a messaging app acquired by Facebook in 2014 for $19B. In 2018 WhatsApp rolled out customers’ interaction services, starting to make money on slow responses from companies. And Facebook also announced conversations on WhatsApp prompted by Facebook Ads.

Pinterest Business Model

Pinterest makes money by selling advertising for marketers and companies that can gain visibility for their brands and more sales for their shops. In 2018, Pinterest made over $755 million in advertising revenue and it had 250 million monthly active users.

Twitter Business Model

Twitter is a platform business model, monetizing the attention of its users in two ways: advertising and data licensing. In 2018, advertising represented 86% of its revenue at over $2.6 billion. And data licensing represented over $424 million primarily related to enterprise clients using data for their analyses.

Telegram Business Model

Telegram is a messaging app emphasizing privacy and encryption, launched in 2013. It doesn’t make money yet, while it raised over $1.7 billion in Initial Coin Offerings throughout 2018, halted by the SEC in 2019. Telegram wants to keep the app 100% free while trying to sustain its growth.

Reddit Business Model

Reddit is a social news and discussion website that also rates web content. The platform was created in 2005 after founders Alexis Ohanian and Steve Huffman met venture capitalist Paul Graham and pitched the company as the “front page of the internet.” Reddit makes money primarily via advertising. It also offers premium membership plans.

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Visualizing Facebook ARPU – Updated 2022

The ARPU or average revenue per user, is a key metric to track the success of Facebook,  – now Meta – family of products. For instance, by the end of 2021, Meta’s ARPU worldwide was $11.57. While in US & Canada it was $60.57, in Europe it was $19.68, in Asia $4.89 and in the rest of the world it was $3.43.

Period (Data collected by FourWeekMBA)WorldwideUS & CanadaEruropeAsiaRest of the worldQ1 2021$9.27$48.03$15.49$3.94$2.64Q2 2021$10.12$53.01$17.23$4.16$3.05Q3 2021$10$52.34$16.50$4.30$3.14Q4 2021$11.57$60.57$19.68$4.89$3.43Quick takeaways from Meta’s ARPU rates

While the family of products, part of Meta has a massive user base, which in 2021 reached over 2.91 monthly active users, worldwide. When it comes to monetization, and the advertising machine, it’s mostly skewed toward users from US & Canada.

Indeed, a user from US & Canada is monetized at an average of $60.57, compared say, an user in Asia, which rate is $4.89. 

This is why it’s very important to keep looking at the growth and ability of Meta to monetize users in US & Canada.

While users across the world might be more important in the future (if the company is able to increase its monetization per user) its business model is still skewed toward North America. 

Understanding the Meta business model

In the infographic above you can appreciate Facebook growth in ARPU over the years. ARPU or average revenue per user is a critical metric to understand how Facebook monetizes and has monetized its users over the years.

As the Facebook business model is primarily powered by advertising, failing in monetizing its users, by selling them targeted ads would mean a failure in its overall business model.

In fact, rather than becoming less relevant, advertising revenues in proportion to other monetization strategies have stayed stable, at over 97.4% of its total revenues.

In fact, Facebook, now called Meta generated $117.9 billion in revenues, in 2021, of which $114.9 billion from advertising (97.4% of the total revenues) and over $2.2 billion from Reality Labs (the augmented and virtual reality products arm). 

Revenues from advertising, at least in 2021, seemed to be driven by mobile advertising, which contributed to most of Facebook revenues.

I took a long-term perspective on how the company has grown its monetization strategy over the years.

After an inflection in the first quarters of 2018 in the US & Canada, Facebook seems to be growing again by 2021, primarily in US/Canada and Europe, where indeed, Facebook might be simply monetizing its users by prompting more ads.

What, if any, can we notice from those numbers?

Facebook (shacky) business model

As Apple announced important privacy changes to the way users opt-in to advertising through their smartphones, this hasn’t shown yet on Meta financial statements of 2021. However, the company expect a large negative impact on revenues, in 2022. 

This made the company change direction, and get restructured (see Meta Business Model).

It’s important to highlight, that Facebook distribution primarily relies on top of Apple and Google mobile distribution pipelines. 

In fact, where Apple and Google runs their own mobile marketplaces, Facebook doesn’t. And this is now affecting its whole business model. Going forward, Facebook will try to build its own supply chain of data (from hardware, to software, operating system and marketplace on top of which the brand is experienced by users). 

Facebook acquired users by acquiring companies

In general, companies can execute several business strategies to keep growing their users’ base. In particular, Facebook has been acquiring other companies, when they were still in a startup mode; and paid them at a relatively low price (at hindsight) compared to what those companies have meant in terms of monetization strategy in these days.

For instance, Facebook owns several companies and products, some of them are:

MessengerInstagramWhatsAppOculusMasquerade

Each of those companies has been critical in terms of Facebook ability to keep monetizing the data from its users.

As Facebook points out on its website:

In accordance with their respective terms of service and privacy policies. We may share information about you within our family of companies to facilitate, support and integrate their activities and improve our services.

Which means Facebook can better sell targeted ads to users, and monetize those ads by having marketers and companies pay for eyeballs.

For instance, when Facebook acquired Instagram for a billion dollars, it might have seemed too expensive, for a company that didn’t turn a dime.

Yet as of today, most Facebook revenues are coming from advertising on mobile devices (mobile was Instagram strength and Facebook weakness).

While we don’t know for sure the breakdown of revenues coming from advertising on Instagram (Facebook doesn’t officially report it) it might be possible that Instagram has driven a good chunk of the revenue growth in the last years.

Facebook so far has made just the right acquisition at the right time to move to the next stage of the web.

That is also why it acquired Oculus (a VR device) and Masquerade (face tracking app that offers three-dimensional animations to users’ faces). We’ll see if those moves will turn out to be successful for the coming years.

Beware of power users

ARPU doesn’t capture what I would define power users (those that are worth the most to the platform based on how much they use it and engage with it). In short, Facebook might be described as a marketplace for attention, some users are just average, while a very few are power users and they do make a difference to the overall company’s strategy.

While Facebook doesn’t disclose the demographic of users that are worth the most, they might have internal metrics that help them navigate through their long-term strategy and how to keep those power users engaged.

Not all users are born equal

When you look at Facebook ARPU, one thing is clear; not all users are born equal. Users’ monetization primarily depends on ads budgets in each country.

It is clear that countries like the US and Canada have way higher ads budget, also given their higher GDP per capita, compared to other countries from Asia or Eastern Europe.

That is also why the ARPU for other geographical areas is way lower.

This brings us to the next point.

US & Canada are still the ones worth the most to Facebook yet its penetration might be well over

The US represents the critical country for Facebook‘s revenue and its monetization strategy. While its ARPU has also grown in 2018, the user base has pretty much stalled.

Facebook users for US & Canada have fluctuated around 241-242 monthly active users in 2018, a 1.2% increase compared to 2017. Yet its revenues have increased by 33% in the third quarter of 2018, compared to the third quarter of 2017.

That might be driven by increased budget in mobile advertising.

The penetration of Facebook in the US has reached 72.4% according to internetworldstats.com. This makes it hard for Facebook to expand further in terms of users’ base. 

As of 2021, indeed, the monthy active users, in the main regions that make the core of Meta’s recenues mostly stagnated. With the US & Canada which between 2020-2021 stuck around 259-262 monthly active users.

And Eurupe going from 419 million monthly active users in 2020, to 427 monthly active users in 2021.

For some context, annual worldwide ARPU in 2021 was $40.96 (increase of 28% from 2020). For 2021, ARPU increased by 40% in Rest of World, 35% in Europe, 31% in the United States & Canada, and 26% in Asia‑Pacific, as compared with 2020.

While the growth stalled in the main geographies, user growth was more rapid in geographies with relatively lower ARPU, such as Asia‑Pacific and Rest of World. This is where the future users’ growth will be substantial in the coming years, as western markets have reached almost saturation. 

Data has a value in its own sake

Besides the $ value in terms of monetization, analyzing the data based only on the ARPU is quite limited.

Indeed, even though Facebook doesn’t yet make much money with its users outside US, Canada, and Western Europe, it still collects data, that makes the platform grow and become better and stronger over time.

While Facebook still faces operating costs of running its servers and platform in those countries, this cost is financed by other countries (like the US) that bring in revenues at a substantial margin for Facebook.

Facebook move into the Metaverse

Facebook, now Meta, has made a big move into the Metaverse. As the company needs to rebuild its supply chain of data from scratch, if it wants to keep control over its business model in the long-run!

Read: Facebook Metaverse Move. 

Read next:

How Does Facebook Make Money?ARPU: This Is How Much You’re Worth To FacebookHow Mobile Advertising Is Driving Facebook GrowthHow Much Is Facebook Really Worth To Users?The Advertising Economy: Inside Facebook Money-Making MachineWho Owns Facebook? Mark Zuckerberg Tech Empire

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