While many brilliant ideas come from start-ups with unsustainable business models, well-established firms suffer from an inability to innovate, especially in regulated industries. The innovation paradox can be overcome by applying the right business model: 1) Fun & Games, which ignores regulations; 2) Hide & Seek, which exploits regulatory ambiguities; and 3) Carnival Rides, which requires full regulatory compliance.
The Innovation – Profit Gap
Barriers to entry decrease daily as technology becomes cheaper, key infrastructure moves to the cloud, and digital platforms make it easy to develop apps and sell physical products. Ease of entry, combined with the growing mantra of “fail fast and fail often”, is creating a flurry of entrepreneurial efforts. Many digital ventures, however, launch a product or service before developing a way to create profit. For every big success, countless entrepreneurial tech ventures go bankrupt and thousands survive, but never thrive.
Although elite firms such as Netflix, eBay, and Zynga have successfully monetised their innovations, many innovations launch without a business model and the dangerously vague “build it and profits will follow” mindset. For all its popularity, YouTube remains a perennial money loser that survives only through subsidies from its parent Google.1 Twitter continues to lose money, with aggregate losses exceeding $2.5 billion.2 Other build-then-monetise firms find profit by radically redefining their core business models, such as Facebook, which transformed itself from its original business as an online advertising venue to an Internet-wide intelligent ad serving service.
While many start-ups driven by brilliant ideas suffer from poor or absent business models, well-established firms with proven business models often suffer from an inability to innovate.3 This is especially true in industries that face heavy regulation.4 Firms in regulation-heavy sectors such as healthcare, finance, and telecommunications are often slow to bring innovative products and services to market. The regulations present many constraints; however, much of the innovation shortage can be overcome by applying the right business model. This article introduces a business model framework for launching innovations in highly regulated environments.
Introducing Three Business Models
After a careful study of businesses within heavily regulated spaces and interviews with top executives, three innovation business models emerge: 1) Fun & Games; 2) Hide & Seek; 3) Carnival Rides. Each business model reflects different constraints from regulation and different levels of potential impact. Rapid innovation and most disruptions usually come from the first two business models. The ability to scale up in regulated environments comes from the third.
The Fun & Games business model ignores regulations by stating that the product or service offered is NOT for use that falls within the regulated space. The Fitbit wearable health-monitoring device is one of the most high-profile examples of this business model. The product clearly offers the capability of monitoring blood pressure, heartrate, and other functions that clearly fall within the regulators’ definition of medical devices.5 Nevertheless, the company’s terms of service specifically state: “The Fitbit Service is not intended to diagnose, treat, cure, or prevent any disease.”6 Thus, the Fitbit was launched stating that it is for entertainment – fun & games – rather than the health-monitoring reasons most customers will use it for.
The Hide & Seek business model exploits regulatory ambiguities or operates where existing regulations are unenforced. For example, in the United States, the Food and Drug Administration has a practice of not regulating mobile apps as long as they pose a low risk to the public. This allows companies to introduce products like the Medisafe Meds & Pill Reminder, which is designed for “managing drugs for many complex health conditions such as diabetes, heart conditions and cancer treatments, but also as a convenient reminder for taking birth control pills and vitamins. Track your glucose levels, blood pressure, pulse, temperature and weight alongside your medication management”.7 It also enables firms to design tools for doctors and other medical professionals, such as the QxMD Medical Calculator MDSS, which is used to help doctors diagnose and treat conditions such as heart failure, lymphoma, and chronic obstructive pulmonary disease.8
The Carnival Rides business model is employed by established companies that seek regulatory approval and compliance while developing new products and services. It is like a carnival – companies must pay the price of admission, then continue to pay every time they try something new, just as carnival goers must pay to enter and then pay for every ride. This business model is expensive financially and costly in terms of time lost to bureaucratic approval processes. Innovation is slow because initiatives are developed using design processes that are constrained by regulatory compliance procedures. Most of the established firms within the healthcare and financial services sectors employ this business model.
Some projects require the Carnival Rides business model. At the same time, many innovations, especially those with a quick time-to-market and those gaining wide adoption by individual (rather than corporate) users will come from companies using the Fun & Games and Hide & Seek business models.
Fun & Games
The Fun & Games business model is most often used by firms with a single product or service offering. They serve an established need within the regulated industry. They exploit the market; they do not create it. Consumers, not companies or professionals, are the target customers. There are two revenue models: sales and freemium offerings. Fun & Games firms can charge consumers for the product, like Fitbit charges for its devices. Freemium models, in which customers get some functionality for free but must pay for premium features, can be effective when providing services tied to products; however, except for mobile video games with in-app purchases, freemium strategies for services not tied to products are rarely successful.
Fun & Games offers the prospect of long-term monetisation that enables entrepreneurial firms to continue as ongoing concerns. The companies can be profitable selling their products and bundling freemium services to maintain ongoing revenue streams after the initial purchase. It is not advisable for a company founded on a Fun & Games business model to try getting regulatory approval. It is expensive, time consuming, and can reduce the firm’s ability to argue that the product or service is only for “fun and games”.
Fun & Games customers are usually a one-sided network of consumers, not professional users. Open your technology or API so that other firms can add functions, which makes your offering more attractive to new customers. Your technology can become a platform for Hide & Seek and Carnival Rides firms to build upon, increasing demand for your core product or service in the process. Allow other companies to apply for regulatory approval of products and services that use your core platform. In many industries, once your core platform has been approved for a few regulated uses, it sets precedents that make future approvals easier. This leverages other companies’ money and resources in ways that benefit your firm. Other companies build the market for your product or service. Other companies formally open your product to regulated markets while you remain unregulated.
Managers of Fun & Games firms should keep in mind the following key lessons:
- Open your technology to other firms to increase the attractiveness of your product
- Don’t pursue regulatory approval
- Instead, allow partners to apply for narrow approval of their specific use of your platform.
Hide & Seek
The Hide & Seek business model is also built upon a single product or service offering (or closely-related set of offerings). Like Fun & Games, the innovation meets an established need within the regulated industry. The business model is appropriate when 1) there are no competing products or services; 2) competing offerings have failed to gain much traction; or 3) the product or service is comparable to existing offerings but offered at a significantly reduced cost.
Revenue comes from companies and professionals working within the regulated industry. Companies and industry workers will pay to use the product to improve or facilitate their job performance, like doctors who use QxMD’s Medical Calculator MDSS. Hide & Seek firms can also employ a subsidy revenue model, in which they provide the product or service to one set of users for free, while they require other user types to pay for it. The Medisafe Meds & Pill Reminder smartphone app employs the subsidy model. It provides the app for free to patients, but charges doctors to use the app to monitor whether patients take their medication properly.
Operating within the “Hide & Seek” area of a regulated industry allows you to innovate quickly and bring your products and services to market quickly. “Flying under the radar” presents both opportunities and risks. You can sell your offering within regulated industries and to the consumers who make up the Fun & Games customer base. BUT, it also puts you at a competitive disadvantage to firms who ultimately release competing products that have formal regulatory approval. Hide & Seek offers the prospect of long-term monetisation that enables entrepreneurial firms to continue as ongoing concerns; however, the size of the market will remain limited because many firms and individual practitioners within heavily regulated markets will be weary of using the product.
Hide & Seek firms are not speculative and created only to be sold, as they have viable revenue streams. Their advantage is faster time-to-market than firms working strictly within the regulatory approval system. Nevertheless, executives should build the business as a proof-of-concept to be acquired by Carnival Rides firms that can better navigate the approval process and have existing infrastructure to exploit the product or service within the regulated industry.
- Managers of Hide & Seek firms should keep in mind the following key lessons:
- In many cases, your ability to scale will be limited, as potential customers may be hesitant to use unapproved products and services
- Prepare for competitors to lobby government agencies to begin regulating your products or services
- Team with a Carnival Rides firm when seeking regulatory approval. It will be better equipped to navigate the regulatory process and market your product within the regulated market.
Carnival Rides firms should recognise that they are at a strategic disadvantage when it comes to creating innovative products and services. The regulatory bureaucracy slows down the release of new offerings. Therefore, Carnival Rides executives should seek to buy products and services created by firms using the more agile business models. Once products and services have been developed and field tested in the marketplace by more nimble companies, Carnival Rides firms can leverage their expertise to navigate the regulatory approval process. Carnival Rides firms also should create an investment subsidiary that funds Fun & Games and Hide & Seek firms. Carnival Rides firms can then formally acquire the products/services and run them through the approval process only after they are proved to be useful. This allows Carnival Rides firms to combine the greater innovativeness of entrepreneurial firms with their financial resources and expertise navigating the formal approval processes.
Managers of Carnival Rides firms should keep in mind the following key lessons:
- Look for opportunities to grow with help from innovative start-ups rather than lobbying regulators to police these firms
- Increase nimbleness by providing seed round investments in start-ups that create products and services aligned with your strategic goals
- Use your expertise with regulatory procedures to shepherd offerings from Fun & Games and Hide & Seek firms through the process.
Although several examples in this article come from the healthcare sector, these business models apply to many regulated industries. For example, within the financial services sector, investment planning tools useful for retail investors can be packaged as games or educational products under the Fun & Games business model. Likewise, research firms can use a Hide & Seek business model to sell investment analysis reports to financial professionals as journalism products rather than financial products or services. By employing the less constrained business models, firms can penetrate markets and challenge the incumbent Carnival Rides firms. At the same time, resourceful Carnival Rides executives will reach outside their firm boundaries for Fun & Games and to play Hide & Seek.
About the Author
Gregory Gimpel is a clinical assistant professor of computer information systems at Georgia State University. Prior to GSU, he conducted digital strategy research at the Massachusetts Institute of Technology and he designed Ball State University’s business analytics major. His research focusses on the intersection of emerging technologies, analytics, and digital business transformation. He worked in senior management positions for a decade before entering the academic world.
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