Business Model Innovation through Trial-and-Error Learning

Long Range Planning 43 (2010) 383e407

http://www.elsevier.com/locate/lrp

Business Model Innovation through Trial-and-Error Learning The Naturhouse Case Marc Sosna, Rosa Nelly Trevinyo-Rodrı´guez and S. Ramakrishna Velamuri How does an established organization innovate its business model, which is still contributing revenues and profits, but whose future effectiveness is likely to be undermined by changes in its external environment? We study the antecedents and drivers of business model innovation in a Spanish dietary products business threatened by economic recession and heightened competition resulting from liberalization. We document the evolution of the firm’s new retail-market business model in two distinct phases: 1) a five-year phase of experiment and exploration followed by 2) a high-growth exploitation phase when the firm outperformed its competitors by a wide margin and internationalized successfully, in spite of its products and final end customers remaining basically unchanged. The study, which takes a dynamic perspective, is situated in the organizational learning literature, and emphasizes the importance of trial-and-error learning for business model innovation. We also highlight the impact of the different types of learning that take place in these two phases, as well as the knowledgetransfer mechanisms from individuals to the organization and vice-versa. Ó 2010 Elsevier Ltd. All rights reserved.

Introduction ‘Without the strength to endure the crisis, one will not see the opportunity within. It is in the process of endurance that opportunity reveals itself.’ (Chin-Ning Chun) Business models have always existed, but have been of increased interest to practitioners and academics alike in recent years. Ever more frequently, we hear about companies - young and old, and from diverse sectors - where business model innovation has been the key driver of success (e.g. 0024-6301/$ - see front matter Ó 2010 Elsevier Ltd. All rights reserved. doi:10.1016/j.lrp.2010.02.003

Apple iTunes, Dell, and Amazon). Several studies show that business model changes are among the most sustainable forms of innovation, and while great and winning business models often appear to have gone straight from drawing board into implementation leading the firm to glory and success, in reality new business models rarely work the first time around, since decision makers face difficulties at both exploratory and implementation stages. At the exploratory stage, when their new business model is being conceptualized, managers face the uncertainty and unpredictability of fast-evolving markets; moreover, having formed their mental models of the environment on limited or imperfect cognitive representations, they can be hampered by their own ‘bounded rationality’. At the implementation stage, new business models also require organizational realignment, requiring decision makers to mobilize scarce resources, develop unique competencies and adjust organizational structures to promote learning, change and adaptation.1 New companies need to design their initial business models, which will often be strongly influenced by their founders’ prior education and work experience. In contrast, established firms may need to renew their existing business models to counter threats to their continued ability to create value for their stakeholders and/or to capture sufficient value for themselves. They will have to deal simultaneously with organizational inertia and other lock-in effects (resulting from previous business model designs) that make the introduction of new ones even more difficult, and may even need to cannibalize their existing business models and introduce competing new ones if they are to fend off strategic innovators and capture a vital market share for their long-term survival.2 In general, the sustainability of any specific business model is unclear, as market changes (new innovations, competitors, regulations, etc.) can quickly make existing business models obsolete or less profitable, and this means continuous business model innovation is an important capability for every firm seeking success in the long term. So the question our article specifically addresses is: ‘How does an established organization innovate its business model, which is currently still contributing revenues and profits, but whose future effectiveness is undermined due to changes in the external environment?’ Uncertainty regarding the viability of new business models in changing market conditions suggests the appropriateness of an experiential ‘trial-and-error’ learning approach to their conceptualization and implementation.3 And, whereas the early business model research presented a static perspective, recent studies have acknowledged that initial business models are frequently revised and adapted. But we do not yet know what role individual and organizational learning plays in this evolution: the research we report in this article seeks to contribute to the emerging dynamic perspective that sees business model development as an initial experiment followed by constant fine tuning based on trial-and-error learning.

An emerging dynamic perspective sees business model development as an initial experiment followed by constant revision, adaptation and fine tuning based on trial-and-error learning. To answer our research question, we address the antecedents and the processes by which business models change over time. We argue that firms begin with a business model and then - in response to certain triggers (typically external) - plan, design, test and re-test alternative business model variants until they find the one that best suits their objectives. The framework that we present here promotes a developmental view by explicitly factoring in prior knowledge, as well as individual and organizational learning. We analyze the case of the Kiluva Group - a Spanish family-owned dietary products business which built up a successful and innovative business model after overcoming a challenging external environment e including heightened competitive intensity due to regulatory changes and a major 384

Business Model Innovation through Trial-and-Error Learning

economic downturn e that almost put paid to the firm. When the group’s initial attempts to promote a new business model for its own Naturhouse retail outlets were unsuccessful, the founder/ CEO, undeterred, took a learning approach, experimenting with change, sharing his ambitions and acquired knowledge with his team, and constantly adapting the model based on the observation of market feedback to organizational actions. Only four outlets were opened over five years, while the model was being fine-tuned using a this trial-and-error approach - during which time the revenues of the underlying wholesale business actually declined from V5.5 million in 1992 to V4.8 million in 1997. But, having ‘got the model right’, the company scaled up over the next ten years to hit 1,508 outlets, generating V140 million in revenues through Naturhouse in 2007 (a CAGR of 39.5%), with operating profits close to 30% of sales, and competitors trailing far behind. This innovative business model also allowed the firm to internationalize, thus both replicating and extending the business into foreign markets, and testing it under different contextual constraints. Analyzing this case, we found that when an established organization’s business model faces the threat of obsolescence from unforeseen external changes, experimentation is critical. Baden-Fuller and Stopford note how ‘Stagnating organizations need experiments, and to learn from them, if they are to succeed in rejuvenation.’ Individual and organizational learning from constant adaptation and low cost experimentation must be encouraged, as well as knowledge diffusion and resilience to bear potential negative outcomes from mistakes. While ‘change’ may be initiated at the top, it must permeate all firm levels and activities for it to become a collectively shared view. In summary, we argue that business model development through experimentation, evaluation and adaptation - in a trial-and-error learning approach involving all echelons of the firm - is an important organizational renewal mechanism.4

Literature review Business model development: a dynamic perspective Amit and Zott’s widely cited definition of the business model concept notes that it is ‘the design of transaction content, structure and governance so as to create value through the exploitation of business opportunities’. Although scholars have dedicated significant attention to business models (focusing on initial attempts to define the term, to proposals on the dimensions of a business model, to detailed explanations of these dimensions, to propositions of meta-models or reference models), Osterwalder et al. point out that ‘the relationship between business models and time is little discussed’, and the dynamic perspective has only recently been incorporated into research on this topic. Chesbrough and Rosenbloom note that successful businesses alter the initial models created during their start-up phases, while Linder and Cantrell describe four different categories of ‘change models’ depending on the degree to which a firm’s core logic changes, suggesting firms should adopt a very active approach in pursuing business model changes. Rindova and Kotha explain the ‘continuous morphing’ of Yahoo’s business model (compared to that of Excite) to show its importance and ‘how the focal firms sought to regenerate their transient competitive advantage on the Internet’. Similarly, Morris, Schindehutte and Allen envision ‘a business model life cycle involving periods of specification, refinement, adaptation, revision, and reformulation. An initial period during which the model is fairly informal or implicit is followed by a process of trial-and-error, and a number of core decisions are made that delimit the directions in which the firm can evolve.’ Baden-Fuller and Stopford find that making progress along a successful business rejuvenation path requires managers to experiment to discover what can work and what fails, and communicate and institutionalize learning mechanisms (incorporating new knowledge and skills) into systems, procedures and structures across all echelons of the organization.5 While dynamic business model evolution has been recognized by several scholars, it lacks theoretical grounding in the established literature which would allow us to understand its underlying mechanisms better and move the still shaky conceptual frameworks of business model development and innovation to more solid theoretical ground. This article aims to fill this gap and provide such a theoretical grounding to the dynamic view of business model evolution by drawing on the extant Long Range Planning, vol 43

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organizational learning literature to relate dynamic business model development to learning processes at multiple organizational levels.

Collective knowledge must be adapted and current enough to face environmental uncertainties, [or] the firm’s chances of survival decrease. Trial-and-error learning Behavioral theories of the firm posit that organizations’ past experiences, retained in their routines and beliefs, influence their actions and how they adapt to environmental changes. But environmental changes are often ambiguous, and managers’ perceptions and interpretations e their cognition e of environmental threats and opportunities will interact with existing organizational routines and beliefs in shaping firm responses. Nelson and Winter claim that ‘organizations remember by doing’, so their prevailing routines and beliefs tend to support continuity in their behavioral patterns, making inertial pressures within the firm to preserve them quite strong and thus likely to obstruct changes to the organization’s strategy and structure. But if this collective knowledge is not adapted and current enough to face environmental uncertainties (and other external triggers), the firm’s chances of survival decrease, demonstrating the need to reinvest in learning to keep skills up to date.6 Routines and beliefs change through two learning mechanisms: trial-and-error experimentation and organizational search. Argyris notes that trial-and-error experimentation involves organizational members retaining actions that produce desired results and discarding those that don’t. Trying organizational actions out, and detecting and correcting errors during the process, generates learning. The iterative nature of the trial-and-error process allows the organization to introduce variations that produce results that converge with goals, and also fosters collective/organizational learning about both exploration and exploitation streams, promoting organizational change or stability at different times. He describes the important and useful distinction between single- and double-loop learning. In single-loop learning, individuals, teams, or organizations detect deviations from the ‘rules’ and modify their actions according to the difference between expected and obtained results, but ‘do not question the fundamental design, goals, and activities of their organization’. In contrast, double-loop learning ‘questions changing fundamental aspects of the organization’, promoting deep changes in the ways it both behaves and performs.7 Nelson has recently argued that the starting point of trial-and-error experimentation is a theory held by the actor - an individual, group, or organization - which need not be scientifically accurate in terms of having strong empirical support, but could simply be based on prior experience (and may even be the result of erroneous causal inferences). Such ‘theories’ can be conceptualized as cognitive maps e of managers’ perceptions of environmental conditions plus their own prior knowledge e and such cognitive representations play an important role in what Gavetti and Levinthal term ‘seeding and constraining the process of experiential learning’.8 No matter which organizational learning school we use to analyze knowledge acquisition,9 or which framework of learning processes we choose to link the individual to the organization and study the feed-forward and feedback dynamics (exploration vs. exploitation), sense-making is particularly important in considering the role of owner-mangers (OM), since their influence on the business is pervasive and will directly affect its ability to learn. Delegating and distributing real decision making authority to managers and employees helps the transition from individual (OM) learning to organizational learning, a key-step for strategic organizational renewal.10 The Naturhouse case captures an exploration process (strongly influenced by the OM) followed by the institutionalization of individual and group learning through organizational design, systems and processes that enabled and fuelled the exploitation phase. The entrepreneur or owner-manager (OM) is the main decision-maker, with his cognition and sense-making providing the most important input into the initial business model design process. Subsequently, he encourages his team to 386

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learn and experiment by sharing information and involving them in decision making. Team actions then create experiential wisdom that (as Levitt and March note) ‘accumulates as a result of positive and negative reinforcement of choices’. This market feedback then influences the OM’s original business model design process as experience modifies individual and team cognition, and new cognitive representations influence subsequent experiential learning processes. In the end, learning by an individual has consequences for organizational decision making (in this case, leading to the adaptation or change of the business model), in providing the premises on which the organization makes its choices, as well as in nurturing the learning flows between organizational levels.11 In summary, the research we report in this article has three characteristics: first, it takes a dynamic perspective by focusing on the evolution of the business model over time; second, it explicates both the antecedents and the processes of business model innovation; and third, it situates business model evolution within the substantial, rich literature on organizational learning to present a framework for leveraging business model change as a strategic renewal mechanism.

The owner-manager’s cognition and sense-making provides the most important input into the initial business model design. Methods Our article is based on a single case study design, which Yin judges as appropriate when the case in question is extreme, unique or revelatory. We have tracked the progress of the subject company - the Kiluva Group - since January 2004, and chose the Naturhouse case because its business model innovations had allowed it to grow at nearly 40% per year for more than 10 years. This innovation was not based on leveraging information technology (as in the case of such well known innovators as Dell, Charles Schwab, Amazon etc.), but concerned an undifferentiated product in a mature market. Furthermore, its business model innovation was consummated only after five years of trial-and-error. We therefore believed Naturhouse was both a revelatory case, and one that was particularly suited to our purpose. Our data sources were interviews with internal and external stakeholders, company documents and records and newspaper articles. (See the Appendix for detailed information on sources and quality of data matters, triangulation and refinement). During the data analysis we wrote memos and set up a series of categories in order to classify the information received, which allowed us to capture and share our thoughts, as well as to compare answers from different interviewees. Each interview discussion was directed toward the history of the interviewee with the company, the situation in 1992 (the date of the first new business model experiment), the initial business model development, the innovation and adaptation processes, the factors impacting decision making and strategic choices, individual and organizational learning, competitive advantage and growth strategies, and the entrepreneur’s (founder’s) personality, character and expectations. As codes and memos accumulated and we distinguished clear relationships, an emergent pattern became obvious: from this point, we focused on those core variables that were highly interrelated - decision making processes, type and rate of learning, time and actors involved.

The Naturhouse story 1986e2007 Kiluva is a family business group which, by the end of 2007, owned and operated 1,508 dietary supplement shops (of which 94% were operated by franchisees) in Spain and abroad under the name ‘Naturhouse’. Despite offering an undifferentiated product to a mature market, the Naturhouse retail business had grown over 21 years to achieve 2007 revenues of some V140 million. The Kiluva Group story dates back to 1986, when Felix Revuelta decided to set up his own company as ownermanager (OM) to distribute dietary products. He had deep knowledge of the dietary products market (customers, suppliers, competitors, etc.), having had 12 years experience as an external Long Range Planning, vol 43

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consultant and later as general manager and minority shareholder of the dietary products company Dietisa. As a successful manager, he built Dietisa’s annual revenues to approximately V20 million, but when it sold out to a multinational pharmaceutical company, Revuelta sold his shares too and left to set up his own business, taking two other experienced Dietisa managers with him. Initially, Kiluvaea wholesale dietary products distributor - experienced strong growth between 1986 and 1992, with revenues in 1992 of V5.5 million. However, the 1991 liberalization of the Spanish dietary products market involved relaxation of government registration of products, which meant Kiluva found itself battling for retail shelf space against markets leaders such as Santiveri and Dietisa, who competed on the strengths of their brands and range of products, and new entrants competing on price. Faced with this increasing competition, Revuelta decided (in 1992) to set up Kiluva’s first retail shop in Vitoria in the Basque Country. He and his team had some experience managing retail outlets during their time with Dietisa, but they wanted to innovate with new retail concepts and test some new ideas they had seen in the U.S. and other European countries in the Spanish market. One of their main objectives was to develop a business model that could eventually be franchised.

‘We made every possible mistake with this first shop ethe location was too up-market, and we tried to do too much.’ The first shop e opened under the new brand name ‘Naturhouse’ - offered beauty products and services, massages, hair loss treatment, group therapy for weight loss, and nutrition products and services. But it was a failure, and met just a few of the team’s expectations e as Revuelta recalls: ‘We made every possible mistake with this first shop .[we] purchased the retail location in an area that was too up-market, and we tried to do too much.’12 To compound matters, the Spanish economy went into a severe recession in 1993 and, in the midst of these difficulties, Kiluva’s warehouse was flooded and two workers miraculously escaped being drowned. The company lost all its inventories, and had to battle hard to minimize the impact on its already fragile competitive position. These were very difficult times for Kiluva, and Revuelta was forced to lay off 25 employees. But, believing the future prospects for the existing wholesale business were poor, Revuelta was determined to continue experimenting with captive retail outlets. One factor that fuelled his persistence was the low cost (relative to the size of the company) involved in carrying out these experiments. Against all odds, the second Naturhouse shop opened eighteen months later in 1993 in Las Palmas in the Canary Islands, but the approach differed from the first e the new shop was rented and in a middle income area, and its offering was much more focused. Two more company-owned retail outlets were set up - in Barcelona in 1994 and Bilbao (1995) - and through a constant process of fine-tuning, in which his managers’ feedback was key, a clear-cut business model started to take shape. From 1997 on, the Naturhouse chain experienced explosive growth, as recorded in Tables 1 and 2.

The process of Naturhouse’s business model metamorphosis This section describes the process by which Naturehouse’s business model was reconfigured over five years (1992e1996) until Revuelta and his team decided that it was franchizable, and therefore scalable (post 1997). On a broader level, this development can be classified into a first business model ‘exploration phase’ and a subsequent business model ‘exploitation phase’. Figure 1 depicts this complete process. Stage 1: Exploration e Initial business model design and testing The literature on entrepreneurship and organizational learning finds that much of the learning that takes place in an entrepreneurial context is experiential in nature. The prior knowledge of the 388

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Long Range Planning, vol 43

Table 1. Annual revenues of Naturhouse and its competitors (in million V)

2010

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

Naturhouse

5.5

5.2

5.0

4.8

4.5

4.8

5.6

7.3

10.3

17.8

25.2

35.4

53.0

75.0

106.0

140.0

Soria natural

N/A

N/A

N/A

N/A

6.60

8.54

10.94

12.95

16.50

19.41

21.02

21.46

N/A

24.90

24.80

N/A

Dietisa

N/A

N/A

N/A

N/A

N/A

N/A

N/A

13.16

14.31

15.77

16.35

16.65

16.93

16.43

15.89

N/A

Santiveri

N/A

N/A

N/A

N/A

25.37

26.39

29.58

32.71

37.60

41.42

46.43

51.27

53.28

N/A

56.49

57.07

Source: Authors’ compilation and SABI.

Table 2. Store evolution

Number of outlets Outlets added

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

1

2

3

4

4

44

53

89

143

209

436

516

721

943

1,210

1,508

+1

+1

+1

+0

+40

+9

+36

+54

+149

+144

+80

+205

+222

+267

+298

Source: Internal Kiluva Group documents.

389

Figure 1. Learning and Business Model Innovation Process

entrepreneur and his team, obtained from their past experiences and manifested in their cognitive maps, influences both their strategic choices when starting the venture and its initial business model design. In the Naturhouse case, Revuelta and his managers had inherited knowledge from their experiences at Dietisa, which meant they knew the firm’s market environment and its processes it had to implement to succeed in their new business enterprise.13 Many interviewees reported that, when Revuelta started his venture in 1986, he believed the level of professionalism in the highly fragmented retail dietary products segment was very low. He recalled how Dietisa had marketed some 2,000 different lines: not only did its have difficulty producing, stocking and supplying such a variety, but its retail outlets (with their poor inventory management practices), frequently found themselves with out-of-date stocks. Debating these ideas with his managers, he believed Kiluva could be as - if not more - effective with a fraction of this number. But the changes in the environment and heightened competitive intensity that followed domestic market liberalization led to Kiluva developing its own captive ‘Naturhouse’ retail outlets. This move took Revuelta beyond his previous frame of reference to experiment with novel routines, targets and ideas, but, although this was ‘foreign territory’, he did start the trial-and-error process with a ‘theory’ based on what he had seen in his prior experience. When a severe recession hit the Spanish economy (1993) less than a year after the first Naturhouse store opened, the increased pressure this put on Kiluva’s existing (wholesale) business model pushed Revuelta to continue to experiment with its own retail outlets. Indeed, it is noteworthy that, although he had recognized the inefficiencies in the dietary products value chain much earlier, it was the twin shocks of the 1991 market liberalization and the 1993 economic recession that convinced him that he had to test, re-test and try to perfect his new captive retail concept. This ‘reactive’ nature of Naturhouse’s business 390

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model regeneration is supported by prior findings in the literature, where change processes have been the result of owner-managers responses to critical incidents or crises threatening their firms’ long-term survival.14 Faced with failure and a highly unfavorable or uncertain environment, an individual or team can either decide to stop searching for opportunities and put an end to the experimentation process, or continue with it. Here, the psychological factors that make up the entrepreneur’s character definitely play a major role in deciding which path is followed. But resilience - the ability to look at the failure in a nuanced way and to persist with the initiative, but with adaptations - is also required: and modest levels of failure can encourage entrepreneurs to take further risks, and foster the resilience to go on experimenting. Luthar et al. define resilience as ‘‘.a dynamic process encompassing positive adaptation within the context of significant adversity. Implicit within this notion are two critical conditions: (1) exposure to significant threat or severe adversity; and (2) the achievement of positive adaptation despite major assaults on the developmental process.15

Faced with failure, an entrepreneur can either stop searching and end the experiment, or continue. Here, his character and resilience play a major role. In 1993, with Kiluva facing not only the general environment of domestic economic recession, but the specific problems of losing all its stock in the flood, its inability to supply its customers threatened it with losing market share. This was an enormously stressful period for Revuelta and his team, although (as one sales manager noted) the fact that they still had a V5.5 million wholesale business was a saving grace, keeping them too busy to have much time to brood about the difficulties of making their first captive store viable. One Naturhouse manager said that Revuelta’s determination was central to keeping the business going: ‘He’s extremely hard working and resolute. . when one of his own shops is not performing well, he persists with it until it is profitable’. Revuelta himself remembered this period: Of course you have doubts, you’ve flung yourself into a business and you’re committed to it . you have to adapt the idea of the service you’re going to offer to the idea of what is good business. It may be a very good service, but just not good business. Or good business, but not the right service . You’ve got to strike the right balance. And that’s what’s so difficult. However, this test doesn’t require great investments, [so] you can say, ‘‘Let’s just keep at it until we get there!’’ Two important points are worth noting from this pattern of business model change: first, that established firms typically initiate the process of experimentation as a reaction to difficulties; and second, that the resources required for experiments should be small relative to the ongoing business for internal and external stakeholders to approve the initiative. We also underline the importance of the OM’s previous cognitive schemata, as well as his emotional and psychological nature, in influencing both the trial-and-error learning process and how new information and situations are interpreted and understood, accepted or blocked. See Stage 1 of Figure 1 for a depiction of the key elements of this initial experiment. Stage 2: Exploration e Business model development Revuelta understood that in order to deal with Kiluva’s competitors and adapt to the environmental circumstances it faced, it had to open new retail stores of its own. But it could only expand once it had fine-tuned its business model. Before getting bigger, experiments to test the market acceptability of new products and services, to understand what their targeted customers valued, and evaluate and reflect on the effectiveness of bundling, delivery, etc. were required. Getting one store to achieve profitability as soon as possible became the main objective: costs had to be controlled, processes analyzed Long Range Planning, vol 43

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and the business scope (broad or narrow) defined. This behavior is aligned with Argyris’ emphasis that: ‘the leader must be skilled in eliciting double-loop learning. Every significant [double-loop] action is evaluated in terms of the degree it helps the participants to generate valid and useful information’. Processing feedback from this novel frame of reference implied a collective learning process - new insights for Revuelta and his team - which led to more complex cognitive maps.16 With their first store, they found out that their product and service offering was too broad, that they should have rented, rather than invested their resources in acquiring the shop, and that the outlet was too large and in too up-market an area. They realized too that competition from herbal stores in Vitoria (and in the Basque Country in general) was very high. (The one decision that they did get right was their choice of store manager, who was still with the company at the time of writing). As Baden-Fuller and Stopford note: ‘Organizations that are quick learners can, with time, overcome any deficiency of starting position and lack of initial resources. The organization needs to be smart: it has to be able to experiment and learn . Not surprisingly, experiments and learning are more effective when undertaken in teams.’ When analyzing this case, it is interesting to note that the entrepreneur’s and team’s experience can originate not only from success, but also from failures, as McGrath has pointed out.17 Indeed, failures can stimulate individuals or groups to pursue an explorative search for new possibilities, intensifying their search for variance to reduce uncertainties. Nonetheless, not all failures are equally usefully for facilitating learning: the most effective at fostering learning d ‘intelligent failures’ d are those of modest outcome (small scale) and uncertain results, but which provide new information to learn from, without completely negating the worth of the initiative. Uncertain results from failed initiatives give the experimenter a basis for retaining some features and discarding others. Referring to Thomke’s work, Smith describes an important distinction between failure and mistakes: ‘A failure is an experiment whose outcome is unexpected, which teaches you something. On the other hand, a mistake is a badly planned or conducted experiment whose outcome you cannot interpret, which thus teaches you nothing.18 In the Naturhouse instance, we can consider the first experiment with the Vitoria store to be an ‘intelligent failure’, in that it was small relative to the size of the ongoing business, and provided novel information about the venture that was beyond Revuelta and his team’s previous frames of reference. Their original idea was to implement routines, targets and ideas from US and Europe previously untested in the Spanish market; consequently, outcomes were uncertain, and intelligent failure provided the basis for altering Naturhouse’s future behavior by varying the business model to look for higher returns. Analyzing what happened, why it happened, and whether it was ‘good’ or not was part of the evaluation procedure Revuelta and his team followed with this first retail outlet. Adapting plans and implementing innovations triggered step-by-step advancement, enhancing both learning and unlearning procedures during the trial-and-error practice. In 1993 (nearly 18 months after the first store) the second Naturhouse store was opened in Las Palmas in the Canary Islands. It was rented, and big enough to include warehouse space (the islands were a long way from Spain). Learning from their previous experience, the offering this time was much more focused. In addition, they were able to find a very competent dietician and the external environment proved to be more favorable e the Las Palmas market offered the potential of more customers than the Basque Country, and competition from other herbal stores was lower.

After opening the fourth store, they decided the business model was ready to be scaled up. Their resilience and adaptation were bearing rewards . they had a clear consensus on the new business model. Revuelta and his management team agreed that more experiments were needed to fine-tune the Naturhouse business model before it could be scaled up. Thus they conducted a third and fourth ‘test’ with different variations of the first store model at new stores in Barcelona (1994) and Bilbao 392

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(1995). While this five-year experiment continued, the revenues from their mainstream wholesale business actually went down, but this only spurred them on to learn more and explore new ways of doing things, augmenting their knowledge of the business and of the industry. In effect, being confronted with new or changing environments gave the entrepreneur and the top management team the chance to increase their repositories of knowledge: such threats or crises allow for ‘phases of unlearning’, which can prompt managers to re-conceive situations beyond their previous cognitive structures, and this increased knowledge leads them to develop more complex cognitive schema to deal with their future decision-making.19 That was exactly what happened to Revuelta and his top management team. After opening the fourth store in 1995, they decided the business model was ready to be franchised and it was time to scale it up. The resilience and adaptation that had characterized the process up to this point were bearing rewards, in that they had a very clear understanding and consensus on the new business model. .[We] kept changing our approach until, in 1997, we hit on [it]. [Today] Naturhouse [has] three broad characteristics: first, it’s a highly specialized business, requiring little investment; second, it’s highly profitable; and, third, markets like Spain can provide us with all we need, in terms of human resources and premises, to set up numerous shops. The five year trial-and-error experimentation period had seen them gradually redefine their business model from a product only diet food wholesaler to a product + service model focused on nutritional reeducation. Now, they saw their mission as helping their customers lead healthier lives by making small adjustments to their eating habits. The presence of a professional dietician in each store allowed them to provide customers with the psychological reinforcement to stick to their dietary changes in initial and follow-up meetings, during which the dietician recommended safe and rigorously designed diets and dietary supplements. This exploration process is depicted in Stage 2 of Figure 1 and outlined in detail in Table 3, which describes the trial-and-error experimentation process of Naturhouse’s business model exploration phase from 1992 to 1997 along the transaction content, structure and governance dimensions noted by Amit and Zott. (The second appendix provides greater detail on the 1997 business model just before the process of scaling began.) Stage 3: Exploitation e Scaling up the refined business model Once a viable business model has emerged, the individual and group knowledge accumulated during the trial-and-error process must be integrated into the whole organization. This phase sees knowledge acquired at the individual (entrepreneur) and group (top management team) level translated into organizational knowledge: new, ‘shared’ understandings and interpretations are developed and these collective understandings become crucial in formulating and implementing strategic choices based on more complex cognitive structures. An institutionalization process then begins: routines, processes, systems, decision-making structures, etc. are standardized and embedded in the cultural patterns of the firm. The knowledge acquired by the parent firm d i.e. from the Naturhouse stores already in place - is transferred to and capitalized on in new stores (both owned and franchised), even before their birth, becoming a source of competitive advantage for them from the word go. These knowledge spillovers (transfers of know-how from the parent firm to progeny/subsidiaries) constitute a vital component of what Huber has called the organization’s congenital knowledgee‘combination of the knowledge inherited at its conception and the additional knowledge acquired prior to its birth’. This initial stock of knowledge affects the subsidiaries’ future learning and knowledge capabilities, as well as their business outcomes.20 In 1997, Naturhouse transferred the knowledge learned from its earlier experiments to 40 new captive stores within a single year. The transfer was carefully organized and planned, starting with a new organizational design which divided the Spanish market into two regions, each headed by a Regional Sales Director, and later six sales delegates for each region. The environmental forces and threats (i.e. legislation, human capital availability, market characteristics, etc.) that could directly or indirectly affect the new outlets’ outcomes and development were thoroughly analyzed, and homogeneous procedures established to replicate stores’ settings and surroundings. This Long Range Planning, vol 43

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Table 3. Naturhouse’s business model exploration phase

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carefully planned business model replication strategy contributed to the explosive growth in the number of Naturhouse stores from 1997 onwards (see Table 2 above). Revuelta explains: It’s essential to do your research and plan everything properly, that’s the secret. By 2004 we had opened 721 outlets. If you do things well, there can be a franchising business in just about any specialized field.The sales delegates do the recruiting; choose the staff help negotiate rental contracts and set up the shop, they teach the franchisee everything. The delegate is a key player [and there] is a chain from top to bottom, so they have the most support we can give them. . we are trying to ensure franchisees are better trained, so now we have a zone-based model. We set up a classroom in our own shops, and each week franchisees from the zone gather there to continue training. Although this period of institutionalization focuses on transferring congenital knowledge to other outlets and standardizing processes and procedures across the organization e thus centering primarily on exploitation - there are tangential opportunities for the creation of unique knowledge in each subsidiary, developing valuable in-situ experiential learning that can later be shared with other subsidiaries and transferred back to the parent organization. (Stage 3 of Figure 1 gives the key elements of this rapid scaling, and Table 4 a fuller outline of Naturhouse’s business model evolution 1997e2007). Stage 4: Exploitation and further exploration e Sustaining growth through organizationwide learning While the focus in these latter two stages (stages 3 and 4) is on exploitation through scaling up the existing business model, further trial-and-error learning is also vital. Naturhouse realized it could replicate its business model relatively easily in Spain and in other similar foreign countries, and decided to enter ‘familiar’ countries first. It recognizing that expanding into significantly different, less well understood, foreign markets required business model adaptations along some major dimensions. But the changes required could still mainly be classified as based on single-loop learning: the core logic of the firm did not need to change (as it had during its exploration phase). Besides replication and adaptation, the firm also had to acquire completely new knowledge in order to execute and manage such rapid national and international growth successfully. .We’ve already opened one pilot store in the German market and plan another 15 in 2005. [and one] in Athens in March, with the same idea. We’re also planning one in Bologna; and a second in France to exert a bit of pressure on that market; and we’re also opening up in Utrecht. [So] we have to find appropriate shop spaces. In England the retailing norms are quite different . Latin people live more outdoors, while Anglo-Saxons have extensive houses with a high population yet small shopping districts, [without] much range and variety or at shopping centres . renting a shop is very expensive. People earn very high salaries, so you say: to what extent does this salary affect [my] free offer? We are just starting on the English model, we don’t know yet. the important thing is that the business be profitable - if it’s not we’re doomed. Even after a firm’s established business model has been in use for some time, new external (or internal) triggers can still challenge its future viability. Integrating novel knowledge acquired through each subsidiary into the organizational knowledge repository is important e once valuable new features have been digested and deployed they can stimulate further business model refinements, allowing the firm to build on its initial competitive advantage to sustain its competitive position and improve its returns. During this stage of growth and stability, individual, team and organizational processes are replicated at the macro level to produce organizational cognition or organization-wide learning, based on congenital learning (from the previous experience of founders, management team and initial outlets), vicarious learning (real time learning from the experiences of other firms in the same business), and own learning, which is unique to each outlet.21 Integrating these different kinds of knowledge via a two-way transfer process (from their own retail outlets to the franchises and vice versa, as well as to and from the central Naturhouse management) has allowed the company to push forward its cycle of continuous improvement and business model 396

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adaptation based on its experiences in different countries and its own deep understanding of its business model. Naturhouse seems to be getting better every year. We continue investigating and every year we’re providing higher value-addition. You can’t stand still - you’ve got to be constantly driving forward. It’s not a question of changing your decoration, for example. That’s not important. What is important is the idea behind the product, its spirit. So we say, ‘‘We’re going to improve it this way or that.’’ It’s what’s important in all businesses. We can see that Kiluva’s internationalization efforts had gathered momentum ever since they began in 1999. While it approaches international expansion from the basis of its established strengths (high levels of knowledge in dietary products and in operating retail outlets), continuous adjustments to its business model are needed. Consumer behaviors and the availability and cost of retail space - and of human capital (the in-store professional nutritionists, biologists or pharmacist who provide free weight-loss advice to clients) - are quite different in many international markets from those in Spain. Extremely rapid scaling itself poses significant challenges for the firm, which are beyond its previous frame of experiment and learning. Managing an international network of many hundreds of franchisees (and over 1,700 by 2009) is quite a leap from running four ‘own’ stores in your domestic market. Responses to the challenge of internationalization range from minor adaptations (single loop learning) to a full scale re-engineering of major business model dimensions (double loop learning), so new knowledge acquisition and integration is always necessary. And Naturhouse always has to try to strike the right balance between offering value to its customers, and to its franchisees, and capturing value for itself. Thus further exploration continues to run alongside sustained exploitation as Naturhouse continues its stable growth (see Stage 4 of Figure 1 and Table 4).

Managing an international network of more than 1,700 franchisees is quite a leap from running four ‘own’ stores in your domestic market. Discussion Several authors (including some in this issue) have highlighted the barriers to business model experimentation, e.g. conflicts with traditional configurations of firm assets, resistance of managers who fear negative consequences for their own business area from a newly proposed business model, tensions with established business models that still are more profitable than innovative new ones, etc.22 Our case shows that a severe crisis can provide a strong impetus to overcome such barriers, and in fact may even be necessary in order to initiate deep enough reflection on the currently prevailing dominant logic and status quo of the business model design. Reorientations such as the one Naturhouse went through between 1992 and 1996, which occur after periods of crisis or poor performance, can lead to a greater search for new solutions. Survival can mark the start of the adaptation process: indeed, organizations that survive the immediate threat of a change event often face lower risks of failure. Adaptive learning models can be used to explain the responses to occasional, radical reorientations in an organization’s strategy and structure, which are generally associated with double loop or second-order learning. In fact, second-order learning results from understanding that some experiences or situations cannot be framed, interpreted and comprehended within the current organizational paradigm. This process of experimentation can lead to the awareness that there are new ways and means of connecting matters that could be integrated into the existing cognitive structures leading to reorientation.23 Analyzing the Naturhouse case we can see an evolution through time of learning processes at all levels - individual, group and organizational - which both modify the original business model, but also sow the seeds of further adaptation to fit the model for both exploitation and further Long Range Planning, vol 43

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Table 4. Naturhouse’s business model exploitation phase

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exploration. It took Revuelta and his team five years to develop their highly specialized, low investment model to the point where it was replicable. Based on his capacity to question the predominant logic in the industry (dietary product companies selling through independent retail outlets), Revuelta was able to increase his knowledge of the industry by using trial-and-error to explore new paths on his way to developing a value added business model. His continued experimentation, and the involvement of his top management team in strategic issues, enabled them to capitalize on the individual and group knowledge they had accumulated by integrating it into the routines, systems, procedures and decision making frameworks of the Naturhouse business model.

In the early 1990s Naturhouse had the lowest revenues in its sector and [faced] going out of business - but it has outperformed all its competitors (by a wide margin) over the last decade. The Naturhouse case contributes some significant insights into the literature on business models and change by providing a strong example of beneficial and sustaining business model innovations. It also highlights the importance of CEOs and managers maintaining a dynamic perspective on their business models, with a focus on continuous fine-tuning and adaptation to ensure sustainable value creation, robustness and scalability. In the early 1990s Naturhouse had the lowest revenues of the main competitors in its sector and was under grave threat of going out of business - but it has been able to outperform them all (by a wide margin) over the last decade. By changing its core logic through trial-and-error business model development, Naturhouse not only differentiated its products and services through specialization - by 1997 it was only offering dietary supplements bundled together with free weight-loss advisory services provided by professionally qualified counselors - but also achieved high profitability, with continuously improving key performance indicators (e.g. total revenues; average revenue per shop, etc.) and growth (in 2007 it opened one new shop per working day) to a position of dominance in some markets: The quicker the growth, the better. With each step we take, the competition gets scared and says ‘‘there’s no way we can beat them now’’. In Spain it’s difficult, they’ll appear, but it’s already going to be very hard for them now because of the advertising, the brand and the structure. Not to mention the results. We’ve been at it for ten years and we haven’t had a single negative incident, nothing has happenedewhich is positive. At any rate, we’re constantly on the lookout. We have seen that the ‘who’ was as important as the ‘how’ in Naturhouse’s business model development process. The level of resilience and commitment to change of the OM and topmanagement team were absolutely critical to the success of the business model experiments. In this context, the role of centralized decision power can be seen as a two-edged sword: if a leader with significant (or complete) decision power is committed to business model experimentation, the chances for success are significantly increased. But if they are obstructive to business model re-designs or innovations, it will be nearly impossible for other managers to run any experiments, set up learning processes, or implement a new business model effectively. Distributed centers of power within a firm can also impede new initiatives, if the interests of one center are perceived to be endangered or negatively impacted by others’ activities. Thus, when business model innovation successes and failures are analyzed and evaluated, due account should be taken of the power structures existing within firms. Since the initial exploration was successful, we can disaggregate the Naturhouse trial-and-error learning process into four stages (see again Figure 1). We suggest that the content and rate of learning, as well as the learners themselves, vary during the process. We see this framework as a first step in understanding business model innovation as a trial-and-error learning process. We have highlighted how the business model innovation process required specific learning mechanisms and 400

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outcomes at different stages, specifically second order learning at the exploration stage, followed by first order learning at the rapid scaling stage. (It seems likely that, as the firm starts to reach the limits of scaling through replication, greater levels of exploratory behavior and more second order learning will ensue.) We hope that the Business Model Innovation Process can be further developed and made more generalizable as similar studies are carried out in other contexts. Our discussion of business model innovation at Naturhouse also begs the question of what the similarities and differences are between business model change and organizational change. While the organizational change literature has long considered radical change to include business model change, it has not always focused on business model change as the central issue. Naturhouse’s business model innovation process can be seen as starting with micro-level changes and proceeding to transform the core logic of the entire organization. Analyzing specific business model changes themselves as the central issue is needed to differentiate what is required to drive business model change as opposed to the many other kinds of organizational change.

The business model perspective requires the focal firm to create value for all stakeholder groups and capture value for itself. The business model perspective is unique in one crucial respect: it embraces system wide changes that include both value creation and value exploitation, so requiring that the focal firm create value for all stakeholder groups - customers, suppliers, employees, and partners (such as franchisees in our case) e and capture value for itself. A firm that is able to come up with new transaction content, structure and governance configurations that can fulfill these requirements simultaneously can be said to have a sustainable new business model: neither creating stakeholder value nor capturing value for itself are sufficient by themselves to ensure viability and robustness. As Zott and Amit point out in this issue, ‘the overall objective of a focal firm’s business model is to exploit a business opportunity by creating value for the parties involved, i.e., to fulfill customers’ needs and create customer surplus while generating a profit for the focal firm and its partners’. In this sense, new business models must be externally validated, as well as being consistent with the internal facets of the organization.24 Other organizational change initiatives (such as the introduction of ERP systems or cultural change initiatives) may be limited to internal organizational facets, and thus lack this simultaneous value creation-value capture requirement. Additionally, while some scholars have focused their efforts on the analysis of ‘meta-(business) models’ (even including performance evaluations and comparisons between them25) our case clearly shows to what extent incremental changes to a business model can make a significant difference to its success. So we will find a wide spread of performance levels and characteristics among different business models that could be summarized under the same meta-model. While Naturhouse’s new business model could be categorized as a franchise-(meta-) model, the decisions regarding the provision of free as opposed to fee-based nutrition counseling services could be decisive for its success or otherwise in practice. We conclude that business model research should complement meta-level studies by offering analysis at lower (individual firm or even product category) levels. However, we agree that certain meta-models are in general more scalable than others, which should be taken into consideration in growth strategy decisions. In summary, we can say that this case is an example of a business model innovation, developed through trial-and-error learning, which has changed the focal firm’s core logic and allowed it to boast impressive growth rates, the more remarkable as its success has been achieved in a mature market and with undifferentiated products. While ‘business model’ has become a famous and widely used term most obviously since the arrival of the Internet and e-commerce, our case proves the power of business model innovation in a low-technology market, confirming the immense potential and relevance of the concept for scholars and practitioners alike. Long Range Planning, vol 43

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Business models are famous in e-commerce, [but] the concept can also have powerful potential and relevance in a low-technology market Conclusion and implications We began asking: How does an organization innovate its business model, which is currently still contributing revenues and profits, but whose future effectiveness is threatened by changes in the external environment? Our longitudinal in-depth case study has shed light on this question in a number of ways. First, the value of our insights lies in the application of the learning perspective to business model innovation. While there is a vast and rich literature on individual and organizational learning, this is the first study, to our knowledge, to ground business model development in this literature. The value of our framework is that it considers not only how externalities and environmental contingencies can affect business model creation, development and replication over time, but also how the entrepreneur’s (in this case, the owner manager’s) psychological and emotional character, and previous repositories of learning, influence business model innovation and learning at different levels (individual, group, organizational). We hope our work will lead to more theory driven research in an area universally recognized as important for business. Second, our study provides a longitudinal ‘real world’ perspective on how trial-and-error learning can be leveraged to innovate business models within an uncertain environmental context. Only a few studies have analyzed trial-and-error learning/experiential learning in real life situations, with most being limited to laboratory or simulation studies.26 We believe this ‘real world’ perspective will appeal to practitioners, offering them deeper insights as to how they can innovate their own business models. Third, our study has highlighted that an organization’s response to early failure can be critical to how the trial-and-error process subsequently unfolds. Naturhouse had only one center of power and decision making, so the organization’s response was totally contingent on how the OM made sense of the early failure and responded to it. This suggests that, to a large extent, the entrepreneur’s traits determined how the organization behaved and what subsequent choices it made. There is clearly a stochastic element in this part of the process - not all individuals, teams and organizations will respond similarly to failure. Nonetheless, there is a clear prescriptive message for entrepreneurs and managers: a nuanced reaction to failure - the ability to learn from failed experiments and the resilience to continue experimenting e constitute very important individual and organizational capabilities. Fourth, this article contributes to the embryonic work focusing on a dynamic perspective that sees business model development as an initial experiment followed by constant fine tuning based on trial-and-error, and thus sheds light on the difference between business model conceptualization and business model implementation, which has been identified as an important but under-researched area. As a related point, we have mapped out a two part development: the first that of the new business model at the micro level (where it was fine tuned over five years in the first four stores), and second that of the business model that rolled out the changes on a macro level (where it was rapidly scaled to over 1,500 stores by 2007) to fully exploit its value potential and increase entry barriers for existing (and potential) competitors. Finally, we studied a company that had an ongoing business (the wholesale business) that was bringing in revenues and profits at the time it started to experiment with a new business model. The existence of this business was what allowed this entrepreneur and his team to absorb the financial and psychological costs of five long years of the experimentation process: other organizations (such as start-ups) are unlikely to have the luxury of being able to experiment for such long periods.

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This suggests that business model innovation may proceed differently in start-ups compared to established organizations. Understanding more about these differences, and the related trade-offs between how much existing businesses (and their business models) may hinder new business model innovations by locking a firm in to its status quo, and the benefits of having a stable source of income from old business models that can cross-subsidize new business models, is a fruitful and relevant area for future research. The limitations to generalizability from a single case study are also well known, and further studies of other cases are clearly needed if our findings are to be generalizable to other settings. In particular, we would encourage studies of how knowledge transfer takes place from individual to organizational levels in firms with decentralized decision making and multiple centers of power, which could not be explored in this case. On a broader level, further research is needed along a number of dimensions - such as the motivations behind learning, especially when external pressure is not the driver of change or strategic renewal. If a business model might seem a rather conceptual construct, it is grounded in some day-to-day realities. Its successful design and continuous development is - to a large degree - fueled by using imagination and experimentation to find out what your current (or potential) customers want, and then organizing yourself to give it to them, while retaining a sufficient proportion of it for you to stay in business. Value must be created, delivered and appropriated as easily as possible for all concerned. The Naturhouse story also adds some rather reassuringly human specifics: be resilient in times of adversity, face down initial failure, keep your eyes open to the outside world, listen to and learn from customers and colleagues, and - when the time is right - be bold in pursuing opportunities. Naturhouse’s recent explosive growth seems far removed from its five long years of trying and learningebut, in reality, of course, the two are intimately linked.

Naturhouse’s recent explosive growth seems far removed from its five long years of trying and learningein reality they are intimately linked. Acknowledgements We thank the Editor in Chief Charles Baden-Fuller, the editors of the Special Issue Benoı´t Demil and Xavier Lecocq, and the journal’s anonymous reviewers for their helpful comments and encouragement during the preparation of this paper. All errors are our own.

Appendix Methods: data collection We conducted our first in-depth interview with Felix Revuelta in January 2004, and three more in the following three years. In 2004 we also conducted interviews with two sales managers (one in charge of the original wholesale business) as well as with administration, export, technical and marketing managers. We interviewed the replacement wholesale business manager in 2006 and repeated one of the sales director interviews in 2008. All the interviews were conducted in Spanish, and two of the Revuelta interviews were later translated into English. The other interviews were not taped, but detailed notes were taken on all occasions. We have also maintained close contact since 2004 with two investors responsible for seven Naturhouse franchises, to obtain their view of the business (see Table 5). Collected data was refined using company documents (annual data on revenues, store openings, closures, average revenue per store, copies of the company’s bi-monthly magazine etc.) and from 99 separate regional, national and international newspapers and news agencies stories about the dietary products business, published before the end of 2007, downloaded from Factiva. This wide variety of sources allowed for methodological triangulation of our data, and gave us a substantial confidence Long Range Planning, vol 43

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Table 5. Data Collection Overview

Date

Interviewee/Data source

2004

First in-depth interview with founder and CEO Felix Revuelta Interviews with 2 Sales Managers, Manager in charge of original wholesale business, Administration Manager, Export Manager, Technical Manager, Marketing Manager, and first interviews with two investors who have opened 7 Naturhouse franchises. 2005 Second in-depth interview with founder and CEO Felix Revuelta Second interviews with 2 investors who have opened 7 Naturhouse franchises 2006 Third in-depth interview with founder and CEO Felix Revuelta Interview with successor of the manager of the wholesale business Third interviews with 2 investors who have opened 7 Naturhouse franchises 2007 Fourth in-depth interview with founder and CEO Felix Revuelta Fourth interviews with 2 investors who have opened 7 Naturhouse franchises 2008 Second interview with Sales Director Fifth interviews with 2 investors who have opened 7 Naturhouse franchises 2007/08 Collection of additional information from company documents, i.e. annual data on revenues, store openings, closures, average revenue per store, copies of the bi-monthly magazine published by the company, etc., and 99 unique newspaper storiesdpublished by regional, national (Spanish) and international newspapers and news agenciesdon the company’s dietary products business until the end of 2007 (we downloaded the news articles from Factiva).

in its quality. All data were studied in depth by two researchers familiar with the relevant coding protocols, which mitigated validity problems and increasing inter-rater reliability: their interpretations were also discussed with the authors. Salient features of Naturhouse’s business model as of 1997 Each Naturhouse outlet has a staff of two: a professionally qualified nutritionist, biologist or pharmacist who provides free weight-loss advice to clients and a sales clerk. The annual franchise fee was only V600, which was Revuelta’s signal to the franchisees that their interests were aligned: Kiluva could only make money if the franchisees also succeeded. Retail outlets e which ranged between 50 and 100 square meters in size - were located in middle income areas. Rental costs were critical to the viability of the shops but the target monthly rental (on which the franchisees’ viability plan was based) was V1,000, so there was an abundance of suitable retail outlets in Spain, except in large cities such as Madrid and Barcelona, where rental costs were high in some districts. The outlets carried a very small inventory of approximately V5,000e about 17e20% of the value of a typical independent dietary product outlet’s inventory. This was enabled by several factors: order to delivery lead times were less than 48 hours; stores placed orders every week; and the total number of stock units was only 200, of which 40 lines accounted for over 80% of sales (Revuelta had been convinced since his days at Dietisa that retail outlets typically had too much capital tied up in stock). Products were sourced from two main production centers in Spain (in which Kiluva had minority stakes) and external suppliers in Switzerland, or delivered from distribution centers outside Barcelona and Madrid. The target clientele were defined as basically healthy people with weight problems - approximately 80% were women. Each client would spend 20 minutes with the outlet’s trained professional on their first visit, during which the professional would analyze their weight problem (based on analyses such as typical body mass index) and recommend one of 77 diets previously approved by the Naturhouse technical team. Weekly follow up sessions lasted 15 minutes, and the store’s target expenditure on dietary supplements was V25 per customer per visit. Over several years, Revuelta and his team succeeded in creating a distinct image for its Naturhouse stores, compared to typical dietary and herbal product outlets. Each store looked clean and uncluttered (because 404

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of the small number of products on the shelves) and the product display area was separated from the office where the professional (in a white laboratory coat) dispensed the nutrition advice. Great care was taken to ensure clients’ privacy e and since they only visited by appointment, stores never looked crowded. Naturhouse’s business model (developed over five years of trial-and-error) involved low investment, low risk and attractive returns for franchisees, and its growth was based on three key success factors: a) the decision to bundle the weight loss advice service with product sales. The advice was free: the outlets only gained revenue from product sales; b) the ready availability of low cost retail locations; and c) the abundant supply of young professionally qualified entrepreneurs willing to invest V30,000 in setting up a Naturhouse franchise. The franchisees’ initial investment covered the costs of conditioning and decorating the outlet, and V5,000 for its initial inventory. On signing up, they were given a viability plan showing that retail outlets should target revenues of V72,000 in the first year, V144,000 in the second and V216,000 in the third. Gross margins were 50% of sales - if they met the targets, franchisees would make operating profits of 20% from the third year onwards. The opportunity cost of investing in a Naturhouse store for these young professionals was low - even in 2007, monthly salaries for new Spanish graduates ranged between V800 and V1,200 - so Naturhouse’s value proposition was an attractive alternative to paid employment.

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Biographies Marc Sosna is a Research Fellow in the Entrepreneurship Department of IESE Business School in Barcelona and a Ph.D student at the Technische Universita¨t Berlin. He has also worked for the International Finance Corporation/The World Bank Group on entrepreneurship-related projects in Africa. His main research interest is the successful management of young innovative high-growth ventures, and he focuses specifically on business model innovation and how firms survive near-death crises. IESE Business School, Av. Pearson 21, 08034 Barcelona, Spain. Tel: +34-93-2534200; Fax: +34-93-2534343; E-mail: [email protected] Rosa Nelly Trevinyo-Rodrı´guez is the TEC de Monterrey Family Owned-Business Chair and Family Business Center Director at Instituto Tecnolo´gico y de Estudios Superiores de Monterrey (ITESM, Campus Monterrey). She received her Ph.D. from IESE Business School (Barcelona), specializing in family business management. She worked in the civil, administrative law and tax litigation department for the legal firm Cuatrecasas (Barcelona) writing family business constitutions. Her main research interests include intergenerational knowledge transfer and wealth management in family business contexts, as well as business families’ next generation members’ training. Instituto Tecnolo´gico y de Estudios Superiores de Monterrey (ITESM), Family Business Center, Campus Monterrey, Av. Eugenio Garza Sada #2501 Col. Tecnolo´gico, C.P. 64849, Monterrey, Nuevo Leo´n; Me´xico. Tel: +5281-83582000 ext. 4300; Fax: +52-81-83546655; E-mail: [email protected] S. Ramakrishna Velamuri is Associate Professor of Entrepreneurship at the China Europe International Business School (CEIBS), where he teaches Entrepreneurship and Negotiation. He is on a leave of absence from IESE Business School. His research focuses in two areas: how entrepreneurs’ ethical behaviors influence their ability to mobilize stakeholder support, and the relationship between entrepreneurial strategies and firm growth. China Europe International Business School (CEIBS), 699 Hongfeng Road, Pudong, Shanghai 201206, People’s Republic of China. Tel: +86-21-28905890; Fax: +86-21-2890-5678; E-mail: [email protected]

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