Okay, so today we're going to be talking about costs and how we use the business model canvas to bring out a lot of the costs in the business. And I asked this question, this morning to a customer, I said, What are the most important costs in your business? And he said, I'm not really sure what that is. And that's quite understandable in one way, because when we're starting out a new enterprise or creating a start up, we may have some idea of what the costs are. But without thinking it through and understanding what are the biggest cost drivers in the business, we don't have full control over their business model. So the best way to start start this off is to ask two additional questions.

This, these rely on all the work that we've done before this as we go back on we have With the key activities, we go back, we haven't built the key resources. And we say, what are the most expensive? key resources? Yeah. How much do our key resources cost? equally?

What is the cost of our key activities, which are the most expensive key activities? And at this stage, you may only be able to surrogate a qualitative indication. Okay, so I know that marketing is going to be my most expensive activity. Okay, that's great. And that, that just then allows you just to come up with a prioritization list. So Mark, there's got to be really expensive.

It's got to be really cheap as chips to make the widget in China. So that's not going to be too expensive. Shipping is going to be more expensive than the manufacturing. And I also have a little bit left over for customer service, and you get a reasonable picture of what Variable Costs are going to look like. And if you have a look at your your fixture, your resources, your key resources, these could also act as a as a proxy for your fixed costs. This is what you have invested into the business.

And what is going to is going to cost you every month, whether you're making the sales or not the final area that we need to look at, but because it's the cost of our partnerships, how much do our partnerships cost us Do we have to pay our partners in order for them to deliver products or services to us, especially if they are suppliers, we are going to have to pay them. If it's a joint venture, it's less obvious, we may need to pay them in goods or in kind, rather than in cash and other types of partnership, we will need to pay in cash. So it's important to bring these into the equation as Well, so there are normally two types of business model. There are cost driven business models and value driven business models. So an example of the cost driven business model is when you've got a business that is focused on delivering value at the lowest possible cost to the customer.

And in many cases, they will go through the whole of the business model and say, right, how do we acquire our customers at the lowest cost? yet? How can we minimize the the cost of our relationship with customers? How can we automate it? How can we find a way of delivering value without having to spend a great deal of money on production or producing How can we reduce the cost? Can we do that through economies of scale?

Scale, can we do it through outsourcing getting somebody else to cover the cost? Uber is a great example of this because they shift a lot of the cost of owning and maintaining a car on to drivers who aren't able to realistically price the cost of running the car. And there are lots of other ways of driving the cost down. The overall picture, though, is of a a company that is aiming to deliver a low cost market, low cost product to a mass market. At the other end of the scale, there are value driven companies who are aiming at delivering or maximizing the value that they deliver to customers. For example, if you go to Tiffany's and you buy a 30,030 thousand dollar gym or diamond to go to go in the ring de on a cost driven basis, that would be 35,000 $6,000.

Once you enter the diamond plus the cost of the labor and the services on an annual driven basis that could well we sold at $100,000. Because of the value that the expensive ring has to a customer, Gucci, I'd love to have LVMH and a lot of their luxury brands. These are all value driven businesses where you getting a lot more and price is not the primary consideration. Yes, it is a factor, but it's not the most important one. And so we can separate business models out into these two groups. There's always a risk of what happens if you're in the middle, you know the lowest cost you're not providing the most value.

That makes it easy to get squeezed by people that drive the rains. And it's not a comfortable place to be So, safe, safe rule of thumb, deliver value in high cost or high prices, or deliver low cost value and keep the prices very, very low. So if we run through the cost driven business models, there are four principal things. Yeah, so it's a low cost. value proposition is extensive automation, you're minimizing the costs and you will generally see a great deal of outsourcing for the value driven companies, the value driven business models, what you will tend to see is a premium value proposition with a great deal of personalized service and that can range from anything from personalized people by service. This to personalize online services in all their forms.

And we have generally four types of costs. We have the fixed costs, the variable costs, the economies of scope, and the economies of scale. So I'll just run through each of those quickly. So the fixed costs, these are the costs that you will be paying every month, regardless of whether you're making any sales or not. So for someone like Google, these will be the server farms that consume two or three megawatts of electricity each every month, he's got to pay the electricity bill, and he's got to pay the financing on those server farms to rent on the land, etc. Things have got to be paid, whether people are buying us AdWords services or not.

Other other cases, so it's the rent on machinery, estate stuff. costs. In a lot of cases, if you've got people on payroll, etc, etc, these are the key fixed costs, then the variable costs are the costs that you have to pay with each additional unit that you ship. Now, traditionally, so if you were selling widgets, these would be okay, so you've got the fixed costs to the factory, then you've got the widget costs, which are the materials that go into the the widget, and then any particular labor or machinery time that needs to be accounted for. And these are your variable costs. One of the huge advantages of the internet is that variable costs can become very, very low.

As you start to get scale. Essentially, the variable cost starts to come down to zero, because what you're doing is you're producing something once and then selling 100 times, and then it doesn't actually cost any more to sell it 1000 times, or a million times, or 10 million times. So the marginal cost of selling one more item is very, very small. And this is bought allows a lot of the internet business models to work and for Internet companies to be incredibly profitable. Then we have economies of scale. This is more of the physical world, but we also say, online and within with the internet, in that they the larger your operation, the cheaper, you're able to get something out of it.

The clearest example of this is when you go to the supermarket, if you buy a small pack of dishwashing pounder, it's fairly expensive. The larger packs that you buy, especially if you go to a wholesale retailer, means that you buy 10 to 20 kilos The price is a lot lower, and this applies in your production and sales processes as well. So if you've got a a mind somewhere in Australia, and you're mining 100 tons a day, you still need a lorry, but it's not going to be utilized a great deal is not going to carry that much to cost. The trick with the law is going to be quite high. If you're a mining 20,000 tonnes a day you can invest in a much, much larger lorry actor much greater capital expense, but the cost of transport putana law as you drive out to the quarry is vastly lower and this for us other all the other economies of scale that you're able to start identify then means that the cost that you're able to sell the iron ore and is a lot lower than other competitors.

This is one of the advantages of Saudi Arabia, for example, they have so much oil, that they're able to get it out of the ground and about $16 a barrel, whereas in the American Midwest in fracking, that paying about $50 per barrel to get it out of the ground, so the economies of scale aren't at the same level for them. And this also applies to your your marketing. If you're marketing a premium good and longer the time, the sales process will require you to be selling to one person than to another person then to another person. And the only way that you can scale this is adding more expensive salespeople. However, if you're going on to a low cost value proposition, like many internet services, we think about tinda tumbler sky Strava My rug or these have got economies of scale in their marketing and sales in that if they keep on just putting the money in, this is going to reach an edible loss and a larger group of people and you start to get benefits there.

And the cost per user starts going down once they've got over that initial adoption hump. Finally, economies of scope. And this is, again, quite often related to the manufacturing, but it applies to other areas of your business as well in if you're making one type of widget, then it's relatively easy to make another type of widget in the same production plants. So if we look at say, a company like Nestle, essentially, their production lines are a multi multi capable, so from the same factory You will be able to have a have some milk products coming out, and then lots of different milk product products coming out. And that allows them to do a lot more with a factory than just produce a single line item. Then you also get economies of scope as they as you start to make more things.

So if you look at a company like three n is their skill set is very much about industrial innovation, and specifically in buildings and making things sticky. So you see, from a consumers point of view, you see a lot of different very, very products coming in. But underlying it, you've got the same core core skill set, or material science, which is driving all these different product production lines. And that gives you economies of scope as you're able to do a lot more with your existing domain knowledge how Do this How can you Well, how do you look at the cost in your business model? Well, first of all, as I said at the beginning, you go back, you have a look at your key activities, your key resources, and your key partnerships and look and see which are going to be the most expensive, where the costs are coming from.

And then it's quite useful to then say, okay, which of these fixed costs which are the variable costs? If it's a fixed cost, you then say, Okay, how much is it going to be costing me a month to buy rent or lease this up this fixed is this key resource is fixed cost or what is the monthly cost? This then helps to go down into your financial projections. And then you look at one of which, which of your activities or resources are going to be variable which your partnerships are going to be variable, and then how much is that going to be cost you for each sale? That you're making or each delivery of product or service that you're making. And then this gives you a fairly good overview of your of your finances, even before you start putting together your, your financial analysis and getting that to work for you.

So, that's an overview of the costs. Any questions? Give us in the comments below or send me a question by by email and we'll sort you out