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OrganizationScience informs® Vol.18,No.2,March–April2007,pp.181–199 doi10.1287/orsc.1060.0232 issn1047-7039eissn1526-54550718020181 ©2007INFORMS BusinessModelDesignandthePerformanceof EntrepreneurialFirms ChristophZott INSEAD,BoulevarddeConstance,77305FontainebleauCedex,France, christoph.zott@insead.edu RaphaelAmit TheWhartonSchool,UniversityofPennsylvania,3620LocustWalk, Philadelphia,Pennsylvania19104-6370,amit@wharton.upenn.edu efocusonthedesignofanorganization’ssetofboundary-spanningtransactions—businessmodeldesign—andaskWhowbusinessmodeldesignaffectstheperformanceofentrepreneurialfirms.Byextendingandintegratingtheoretical perspectivesthatinformthestudyofboundary-spanningorganizationdesign,weproposehypothesesabouttheimpactof efficiency-centeredandnovelty-centeredbusinessmodeldesignontheperformanceofentrepreneurialfirms.Totestthese hypotheses, we developed and analyzed a unique data set of 190 entrepreneurial firms that were publicly listed on U.S. and European stock exchanges. The empirical results show that novelty-centered business model design matters to the performance of entrepreneurial firms. Our analysis also shows that this positive relationship is remarkably stable across time, even under varying environmental regimes. Additionally, we find indications of potential diseconomies of scope in design; that is, entrepreneurs’ attempts to incorporate both efficiency- and novelty-centered design elements into their businessmodelsmaybecounterproductive.
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OrganizationScienceVol. 18, No. 2, March–April 2007, pp. 181–199issn1047-7039eissn1526-54550718020181
informs®doi10.1287/orsc.1060.0232© 2007 INFORMS
Business Model Design and the Performance ofEntrepreneurial FirmsChristoph ZottINSEAD, Boulevard de Constance, 77305 Fontainebleau Cedex, France,christoph.zott@insead.eduRaphael AmitThe Wharton School, University of Pennsylvania, 3620 Locust Walk,Philadelphia, Pennsylvania 19104-6370, amit@wharton.upenn.eduWheofwocbuussionnestshemdoedseilgndeosifgannafofregcatnsitzhaetiopnersfosremtaonfcbeooufnednatrrye-psrpeannenuirniagltrarnmssa.ctBioynesxtebnudsiinngesasndmiondteelgrdaetisinggntheaonrdetiacsaklperspectives that inform the study of boundary-spanning organization design, we propose hypotheses about the impact ofefficiency-centered and novelty-centered business model design on the performance of entrepreneurial firms. To test thesehypotheses, we developed and analyzed a unique data set of 190 entrepreneurial firms that were publicly listed on U.S.and European stock exchanges. The empirical results show that novelty-centered business model design matters to theperformance of entrepreneurial firms. Our analysis also shows that this positive relationship is remarkably stable acrosstime, even under varying environmental regimes. Additionally, we find indications of potential diseconomies of scopein design; that is, entrepreneurs’ attempts to incorporate both efficiency- and novelty-centered design elements into theirbusiness models may be counterproductive.Key words: organization design; new organizational forms; business model; design themes; organization performance;environmental munificence
Substantial research on organization design has fo- fundamentally change the way they organize and engagecused on internal design issues such as centralization, in economic exchanges, both within and across firmspan of control, personnel ratios, and lines of authority and industry boundaries (Mendelson 2000). According(e.g., Nystrom and Starbuck 1981). Some scholars, how- to Brynjolfsson and Hitt (2004), this includes the waysever, have observed that organizations are increasingly in which firms interact with suppliers as well as with“experimenting with their governance of transactions, customers. An emerging stream of work on boundary-that is, adopting new ways of structuring their bound- spanning designs complements a large body of literaturearies” (Foss 2002, p. 1). A growing body of work on that points to the links between internal organizationorganizational forms has gradually shifted attention frominternaldesigntowardmodesoforganizingandman-sdtersuicgtnuriessoufesi,ncseuncthivaess,thaenddetghreeeimofpldiceacteinotnrsalioznatiporno,dtuhce-aging transactions with the firm’s environment (e.g., tivity for investment in information technologies (e.g.,Ilinitch et al. 1996, Lewin and Volbverda 1999, Milesand Snow 1986, Romanelli 1991). While this body of see Bresnahan et al. 2002 or Ichniowski et al. 1996).-research has enhanced our understanding of how man- This paper builds on the shift in perspective from viewagersandentrepreneurssetorganizationalboundaries,itnogwaorrdgavniiezawtiinognfIToramsaasnaecnoamblpelremofenbtotuonIdTariyn-vsepsatnmneinntgsimportant questions remain. For example, how can the organizational design.design of an organization’s set of boundary-spanningtransactions be described and measured? And what do In this paper we refer to the design of an organiza-we know about the performance implications of different tion’s boundary-spanning transactions as business modeldesigns? design, and we ask how business model design can beRecent advances in communication and information measured, and how it affects firm performance. We for-technologies,suchastheemergenceandtheswiftexpan-tmenatl,lystrduectnueret,haenbdugsionveesrsnamnocedeolfatsradnespaiccttiionngsdtehseigcnoend-sion of the Internet, and the rapid decline in com-puting and communication costs, have accentuated the so as to create value through the exploitation of busi-possibilities for the design of new boundary-spanning ness opportunities” (Amit and Zott 2001, p. 511). A busi-organizational forms (Daft and Lewin 1993, Dunbar ness model elucidates how an organization is linked toand Starbuck 2006, Foss 2002, Ilinitch et al. 1996). external stakeholders, and how it engages in economicIndeed, these developments have opened new horizons exchanges with them to create value for all exchangefor the design of business models by enabling firms to partners.181
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Zott and Amit:Business Model Design and the Performance of Entrepreneurial FirmsOrganization Science 18(2), pp. 181–199, © 2007 INFORMS
Designing the business model is a salient issue forentrepreneurial firms who are less constrained by pathdependencies and inertia than more established firms(Stinchcombe 1965). Following Bhide (2000), we defineentrepreneurial firms as relatively young organizationsthat have the potential of attaining significant sizeand profitability. These firms must solve coordinationproblems in a world of novelty and systemic change(Langlois 2005). Their performance is therefore oftencritically dependent on boundary-spanning organiza-tional arrangements (Hite and Hesterly 2001). One ofthe central design tasks of entrepreneurs is to delin-eate the ways in which their new businesses trans-act with suppliers, customers, and partners. As Irelandet al. (2001, p. 53) note, entrepreneurs often “try to findfundamentally new ways of doing business that will dis-rupt an industry’s existing competitive rules, leading tothe development of new business models.” For example,Christensen (2001) highlighted the shift in the locus ofprofitability in the computer industry as companies likeDell pioneered nonintegrated and flexible business mod-els in which production and distribution were organizedin novel ways. Even when entrepreneurial firms replicatethe business models of existing organizations (Aldrich1999), they may have to adapt these designs to their ownparticular market niche (McGrath and MacMillan 2000).Although recent work in entrepreneurship and organi-zation theory has begun to address the important role ofdesign in the entrepreneurship process (Hargadorn andDouglas 2001, Romme 2003, Van de Ven et al. 1984),relatively little is known about the specific trade-offsand performance implications of business model design,which can be far-reaching. For example, Hargadorn andDouglas (2001, p. 494) attribute the failure of Prodigy,an online service in which investors had invested $600million, to the mismatch between the design of its busi-ness model and customer needs.In this paper we identify two critical themes ofbusiness model design—efficiency centered and noveltycentered—and offer hypotheses about the impact ofbusiness model design themes on the performance ofthe focal entrepreneurial firm, taking into considera-tion the potentially moderating role of the environment.Efficiency-centered business model design refers to themeasures that firms may take to achieve transaction effi-ciency through their business models. It aims at reduc-ing transaction costs foralltransaction participants.Novelty-centered business model design refers to newways of conducting economic exchanges among vari-ous participants. It can be achieved, for example, byconnecting previously unconnected parties, by linkingtransaction participants in new ways, or by designingnew transaction mechanisms. Efficiency- and novelty-centered designs are neither orthogonal (for instance,novel design elements may engender lower transactioncosts), nor are they mutually exclusive: Both may be
present in any given business model. They are notexhaustive, either. Business models may be characterizedby other value-creation themes. These could include“lock-in” designs, which attempt to retain stakeholders,and “complementarities” designs, which emphasize thebundling of goods, activities, resources, or technolo-gies (Amit and Zott 2001). However, here we focus onefficiency- and novelty-centered designs in the interestof building and testing a parsimonious theory.To test our hypotheses, we have developed a uniquedata set that contains detailed information about thebusiness models of 190 entrepreneurial firms that werelisted on U.S. or European public exchanges between1996 and 2000. We measure each business model designtheme as a variable at a particular point in time, andwe regress these variables on a range of performancemeasures. Overall, we find that business model designmatters to the performance of entrepreneurial firms.Our most robust finding relates to the positive associ-ation between novelty-centered business model designand firm performance. Our analysis shows that thispositive relationship is remarkably stable across time,even under varying environmental regimes. Our resultsalso indicate that entrepreneurs’ attempts to design bothefficiency- and novelty-centered business models may becounterproductive.This paper builds on and extends earlier work thathas considered business models in the context of or-ganizational performance. Focusing primarily on the im-pact of network effects on the stock market value ofe-commerce firms, Rajgopal et al. (2003) examine hownetwork effects interact with the firm’s business model,measured as a categorical variable (i.e., content provider,portal, financial services, e-tailer, or auction site). Inour analysis, we focus primarily on the design of thebusiness model (rather than on network effects), and onits direct impact on firm performance, theoretically aswell as empirically. Our proposed measures of businessmodel design are continuous and apply to a broad rangeof firms. Filson (2004) studies the impact of the com-petitive strategies of Amazon.com, Barnesandnoble.com,CDNow, and N2K on firm value. We, too, focus on firmsthat derive at least some of their revenue through trans-actions that are executed on the Internet. However, weexamine in detail the impact on firm value of businessmodel design, distinct from the competitive strategy ofa firm (Zott and Amit 2006). Our sample size is alsolarge.Our study attempts to make several contributions tothe organization design literature. First, we refine con-cepts and measures for examining the design of a firm’sbusiness model. The importance of research on transac-tion designs as new organizational forms has been rec-ognized in earlier studies, (e.g., Foss 2002, Rindova andKotha 2001). We contribute to this literature through the
Zott and Amit:Business Model Design and the Performance of Entrepreneurial FirmsOrganization Science 18(2), pp. 181–199, © 2007 INFORMS
development of fine-grained concepts for operational-izing and measuring business model designs. Second,we provide a theoretical extension of the transactioncosts perspective and Schumpeter’s theory of innovation.By integrating these theories with bargaining theory, wedevelop the performance implications of business modeldesign, specifically for entrepreneurial firms whosetransactions are enabled by information and communica-tion technologies. To date, little about this has been pub-lished. Third, drawing on a large and a unique data setabout business model design themes, which we have col-lected ourselves, we test the links between these designthemes and focal firm performance. Although we buildon earlier studies that examine how business models arelinked to firm performance (e.g, Rajgopal et al. 2003),we believe that this is the first study to operationalize,measure, and test the performance consequences of busi-ness model design themes. Our study also contributesto the literature on entrepreneurship, by highlighting thepivotal role that business model design plays in the per-formance of entrepreneurial firms.To summarize, in this paper we argue theoreticallyand show empirically that the business model is a usefulunit of analysis for research on boundary-spanning orga-nization design, as well as a locus of innovation thathas so far been largely overlooked by entrepreneur-ship research. Rindova and Kotha (2001, p. 1277) havepointed out the need for “a broader and more dynamicunderstanding of [organizational] form, in which it isviewed as a flexible arrangement of resources and struc-tures configured to generate a stream of value-creatingproducts and services.” The concept of the businessmodel fulfills these requirements, and can potentiallyhelp advance the emerging body of research on new or-ganizational forms.The next section presents our theory and hypothesesand is followed by sections describing our data, meth-ods, and our results. We conclude with a discussion ofour findings and the implications of our study for futureresearch.Theory and Hypotheses DevelopmentBusiness Model Design ThemesConfiguration theory provides a useful starting point fordeveloping measures of business model design, becauseit considers holistic configurations, or gestalts, of designelements (Miles and Snow 1978). Configurations areconstellations of design elements that commonly occurtogether because their interdependence makes them fallinto patterns (Meyer et al. 1993). The design elementsof a business model are the content, structure, andgovernance of transactions. In this paper, we followMiller’s (1996) suggestion to view configuration as avariable rather than as a deviation from an ideal type.Miller states that, “Configuration  can be defined as
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the degree to which an organization’s elements areorchestrated and connected by a single theme” (Miller1996, p. 509).So what are the common design themes that orches-trate and connect the elements ofa business model?Miller (1996) identifies innovation and efficiency. Hischoice is particularly appropriate for the study of busi-ness models adopted by entrepreneurial firms becauseinnovation and efficiency reflect fundamental alterna-tives for entrepreneurs to create value under uncertainty.Entrepreneurs can create new designs and/or reproduceand copy existing ones (Aldrich 1999). Imitation-basedapproaches toward business creation are often associ-ated with an emphasis on lower costs, i.e., increasedefficiency (Zott 2003). Because these themes are notmutually exclusive, any given business model design canbe novelty centered and efficiency centered at the sametime.Business Model Design, Firm Performance, andthe Moderating Role of the EnvironmentWe hypothesize that the design of an entrepreneurialfirm’s business model, which is centered specifically onthe themes of novelty and/or efficiency, is associatedwith the firm’s performance. This association can be bro-ken down into two effects: One relies on the total value-creation potential of the business model design, and theother considers the impact of business model design onthe firm’s ability to appropriate the value that its busi-ness model creates.Business models can create value either by enhanc-ing the customers’ willingness to pay or by decreasingsuppliers’ and partners’ opportunity costs—for exam-ple, through improved transaction efficiency. The totalvalue created by a business model is also a function ofthe competitive alternatives, in other words, the marketpower of the focal firm’s business model vis-à-vis rivalbusiness models. The total value created is the valuecreated for all business model stakeholders (focal firm,customers, suppliers, and other exchange partners). It isthe upper limit for the value that can be captured by thefocal firm (Brandenburger and Stuart 1996).How does business model design influence the com-peting claims to total value created by different stakehold-ers in the business model? Drawing on Brandenburger andNalebuff(1995)andBrandenburger and Stuart (1996), wereason that there is a positive association between thedesign of the business model and the performance ofthe focal firm—if, for a given level of competition, thefocal firm’s business model design creates value,anditdoesnot decreaseits bargaining power relative to otherbusiness model stakeholders.Environmental conditions seem important as modera-tors of the hypothesized relationship between businessmodel design and the performance of an entrepreneurialfirm (McArthur and Nystrom 1991). Munificence, dy-namism, and complexity are all important dimensions
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Zott and Amit:Business Model Design and the Performance of Entrepreneurial FirmsOrganization Science 18(2), pp. 181–199, © 2007 INFORMS
of the environment (Dess and Beard 1984). We fo-cus on munificence, which captures the availability ofresources, and which—according to Randolph and Dess(1984) and McArthur and Nystrom (1991)—influencesthe survival and growth of existing companies as wellas the ability of new firms to enter the market. The useof munificence as a focal dimension of environmentaluncertainty derives from a resource-dependence view oforganizations, which treats environments as arenas inwhich all compete for resources (Pfeffer and Salancik1978, Aldrich 1979). This perspective seems particu-larly relevant for entrepreneurial firms, which depend onexternal resources, and on the receptivity of capital andproduct markets to innovative activity.Building on the work of Aldrich (1979), Dess andBeard (1984), and Tushman and Anderson (1986), wedefine munificence as the extent to which the envi-ronment supports growth. In this paper, munificencerefers to the scarcity or abundance of critical resourcesrequired to create and implement business model de-signs. The performance prospects of ventures withnovelty- and/or efficiency-centered business model de-signs may vary with the availability and costs of re-sources that entrepreneurs can access.Novelty-Centered Business ModelDesign and PerformanceThe essence of novelty-centered business model designis the conceptualization and adoption of new ways ofconducting economic exchanges, which can be achieved,for example, by connecting previously unconnected par-ties, by linking transaction participants in new ways,or by designing new transaction mechanisms. Businessmodel innovation may complement innovation in prod-ucts and services, methods of production, distributionor marketing, and markets (Schumpeter 1934). A novelbusiness model either creates a new market (like eBay)or innovates transactions in existing markets (like Price-line.com). Dell, for example, implemented a customer-driven build-to-order business model that replaced thetraditional build-to-stock model of selling computersthrough retail stores (Brynjolfsson and Hitt 2004).Not only can the business model exploit an oppor-tunity for wealth creation, but its design may in itselfbe part of the opportunity development process. Theentrepreneur-as-designer can cocreate opportunities, forexample, by drawing on new information and communi-cation technologies to bridge factor and product marketsin new ways.Business model innovation may give rise to entre-preneurial rents (Rumelt 1987). These monopoly-typerents may accrue to business model stakeholdersbetween the introduction of an innovation and its dif-fusion. Although we expect novelty-centered businessmodel design to have a positive primary effect on theperformance of entrepreneurial firms, entrepreneurial
rents may accrue toallstakeholders in the businessmodel. To predict the overall effect of novelty-centeredbusiness model design on the performance of the focalentrepreneurial firm, we must also consider its effect onthe firm’s ability to appropriate the value that its businessmodel generates. This ability depends on factors like(i) the switching costs of other business model stake-holders, (ii) the focal firm’s ability to control informa-tion, (iii) the ability of other stakeholders to take unifiedaction vis-à-vis the focal firm, and (iv) the replacementcosts of other stakeholders (see Coff 1999, p. 122). Forexample, the higher the switching costs of other businessmodel stakeholders, the greater the focal firm’s bargain-ing power vis-à-vis these stakeholders, and the greaterits ability to appropriate rent.We suggest that, on average, an increase in businessmodel novelty will not decrease the focal entrepreneurialfirm’s ex post bargaining power relative to other busi-ness model stakeholders. The focal firm is the innovator,and its business model is the locus of innovation. Thehigher the degree of business model novelty, the higherthe switching costs for the focal firm’s customers, sup-pliers, and partners, as there may not be readily avail-able alternatives to doing business with the focal firm.The other determinants of the focal firm’s bargainingpower, identified by Coff (1999), are unlikely to be sys-tematically affected in one direction or the other. Thefocal firm’s bargaining power vis-à-vis these parties isunlikely to be diminished through novelty-centered busi-ness model design. Therefore, considering the positiveeffect of novelty-centered business model design, bothon total value created and on the ability of the focalfirm to capture that value, we expect a positive effect ofnovelty-centered business model design on the perfor-mance of an entrepreneurial firm.Hypothesis 1.The more novelty centered an entre-preneurial firm’s business model design, the higher thefirm’s performance.Novelty-centered business model design will mattermore to performance in periods of high resourceavailability, when entrepreneurs’ dynamic governancecosts (e.g., persuasion costs) are lower (Langlois 1992,Langlois and Robertson 1995), than in periods of re-source scarcity. They can persuade, negotiate, and coor-dinate with resource holders more easily, and teachthem about the merits of their innovative business modeldesigns. They have easier access to the resources neededto support and implement their business model inno-vations, such as investments in complementary assets.Entrepreneurial firms with novelty-centered businessmodel designs are poised to take advantage of the greaterwillingness of customers to spend, and they will notsuffer a decrease in their aggregate bargaining powervis-à-vis other business model stakeholders. Thus, novelbusiness model design is more distinctly associated with
Zott and Amit:Business Model Design and the Performance of Entrepreneurial FirmsOrganization Science 18(2), pp. 181–199, © 2007 INFORMS
higher firm performance when resources are abundantthan when they are scarce.Hypothesis 2.In environments characterized by highresource munificence, the positive association betweennovelty-centered design and the performance of theentrepreneurial firm will be stronger than in environ-ments with low resource munificence.Efficiency-Centered Business ModelDesign and PerformanceAn alternative way for entrepreneurs to create wealth isto imitate rather than innovate—to do things similar toestablished organizations, but in a more efficient way(Aldrich 1999, Zott 2003). To examine the performanceimplications of efficiency-centered business models, webuild on the transaction cost perspective (Milgrom andRoberts 1992; Williamson 1975, 1983), which refersto the design of economic transactions. According toWilliamson (1983), exchange attributes, including infor-mation asymmetry and complexity, determine that trans-actions will be organized into markets or hierarchies inways that minimize transaction costs and maximize per-formance. Researchers generally assume that economicactors whose transactions are unaligned with appropriategovernance structures are “more likely to display poorfinancial performance  than those whose transactionsare properly aligned” (Silverman 2001, p. 484). Poppoand Zenger (1998) have explicitly modeled the perfor-mance implications of the transaction cost perspective,and Milgrom and Roberts (1992) have elaborated on theeffect that transaction costs, in the form of coordina-tion, and motivation costs have on firm performance.These studies suggest that there is an important directrelationship between the design of transactions and firmperformance.Efficiency-centered design refers to the measures thatfirms may take to achieve transaction efficiency throughtheir business models. The construct focuses on busi-ness model design and is not intended to capture allmeans by which a firm can strive for efficiency (e.g.,through a reduction of production costs). The essence ofan efficiency-centered business model is the reductionof transaction costs. This reduction can derive from theattenuation of uncertainty, complexity, or informationasymmetry (Williamson 1975), as well as from reducedcoordination costs and transaction risk (Clemons andRow 1992, Langlois 1992, Milgrom and Roberts 1992).The order-tracking feature in Amazon’s business model,for example, is aimed at enhancing transaction trans-parency and therefore constitutes an efficiency-centereddesign element. It reduces the cost of providing infor-mation to the logistics company, and induces more cus-tomers to check on their packages (Brynjolfsson andHitt 2004). Other efficiency-centered design elementsare intended to increase the reliability and simplicity
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of transactions, reduce the asymmetry of informationamong transaction participants, speed up transactions,enable demand aggregation, reduce inventory, providefor transaction scalability, or reduce the direct and in-direct costs of transactions. Consider Baxter ASAP,which lets hospitals order supplies electronically directfrom wholesalers. By reallocating its saved resources(the costs of data entry), the company was able tooffer additional value-adding services to its customers(Brynjolfsson and Hitt 2004). Consequently, we expect apositive primary effect on firm performance of adoptingan efficiency-centered business model design.As with the novelty-centered business model design,to predict the overall effect of an efficiency-centereddesign on firm performance, we must consider its effecton the firm’s ability to appropriate the value that it gen-erates. Efficiency-centered business model design aimsat reducing transaction costs, for example, through sim-plified transactions, reduced transaction complexity, ordeep linkages among business model stakeholders thatoften do not require transaction-specific investments(web services, for example). These characteristics ofefficiency-centered business model design are likely toaffect the switching costs forallbusiness model stake-holders in the same direction so that, in the aggregate,the balance of power among these parties will not shift.Importantly, the focal firm’s bargaining power is unlikelyto decrease.Another central aspect of efficiency-centered designis that it enables better information flow among stake-holders and reduces information asymmetries amongthe parties, limiting the control over information thatany stakeholder can have. In general, this aspect doesnot negatively affect the focal firm’s bargaining power.Moreover, the third determinant of the focal firm’s bar-gaining power identified by Coff (1999, see above)—the ability of other business model stakeholders to takeunified action against the focal firm—is unlikely to besystematically affected in one direction or the other bydesign efficiency. Last, it should be noted that reducingdirect transaction costs (e.g., search, transportation, andcoordination costs) increases the pool of potential cus-tomers, as well as partners and suppliers, and implies areduction in the cost to the focal firm of replacing suchstakeholders, increasing the firm’s bargaining power.These arguments suggest that, on balance, a more pro-nounced efficiency-centered business model design doesnot decrease the focal firm’s bargaining power relative toother business model stakeholders. We therefore expecta positive main effect of efficiency-centered businessmodel design on the performance of an entrepreneurialfirm.Hypothesis 3.The more efficiency centered an entre-preneurial firm’s business model design, the higher thefirm’s performance.
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Zott and Amit:Business Model Design and the Performance of Entrepreneurial FirmsOrganization Science 18(2), pp. 181–199, © 2007 INFORMS
When resources are scarce, efficiency-centered busi-ness model design assumes greater importance as a dif-ferentiating factor than in periods of resource munificence.In tough economic environments, consumers and busi-nesses spend and invest less, and cost savings be-come more important as a driver of value creation.Entrepreneurial firms are more volatile than establishedorganizations (Stinchcombe 1965), so are sensitive tosuch changes. Conversely, during times of high envi-ronmental munificence, total value can be enhanced, forexample, by tapping additional revenue streams. In otherwords, in environments characterized by low resourcemunificence, the advantages derived from reduced trans-action costs are accentuated, while our arguments aboutthe bargaining power of firms with efficient businessmodels continue to hold. Thus, efficient business modeldesign will be more distinctly associated with higherperformance of an entrepreneurial firm when resourcesare scarce than when they are abundant.Hypothesis 4.In environments characterized by lowresource munificence, the positive association betweenefficiency-centered design and the performance of theentrepreneurial firm will be stronger than in environ-ments with high resource munificence.Interaction Between Novelty- andEfficiency-Centered Business Model Designand PerformanceDo these arguments imply that entrepreneurs shouldembrace both efficiency-centered and novelty-centeredbusiness model designs? The need to balance designelements has been recognized by researchers who high-light the benefits to entrepreneurs of reconciling distinctaspects of design, such as the familiar and the unfamiliar(Hargadorn and Douglas 2001), conformity and differ-entiation (Deephouse 1999), and reliability and distinc-tiveness (Lounsbury and Glynn 2001). Achieving thisbalance can help entrepreneurs build much-needed legit-imacy (Zott and Huy 2006), a prerequisite for venturegrowth and performance (Zimmerman and Zeitz 2002).This suggests that novelty and efficiency can be com-plementary, and that their interaction could have a pos-itive effect on performance. First, increasing the degreeof novelty of a business model may enhance the returnon efficiency-centered design. Novelty-centered businessmodel design makes a business model more distinctive,and this may result in increased switching costs for otherbusiness model stakeholders because of fewer compara-ble alternatives. By emphasizing business model novelty,the focal firm may be better positioned to appropriatesome of the value it creates through increased efficiency.Second, increasing the emphasis on efficiency-centereddesign may enhance the return on design novelty. Novelbusiness models that are also designed for efficiencymay appeal to a wider range of customers (i.e., not onlyto those who are intrigued by its novel elements, but
also to those who appreciate lower transaction and coor-dination costs). Thus, by simultaneously emphasizingefficiency and novelty as design themes, the entrepreneurmay be able to create even more value than througheither novelty-centered or efficiency-centered businessmodel design alone.Hypothesis 5.The more novelty centered and effi-ciency centered the business model design, the higherthe performance of the entrepreneurial firm.However, another line of reasoning suggests that at-tempts by entrepreneurs to design their business modelsfor both higher efficiency and greater novelty may insteadadversely affect their firm’s performance. Embracing twomajor design themes concurrently could lead to subop-timal resource allocation. Given the limited resourcesavailable to entrepreneurial firms, entrepreneurs who tryto achieve too much at once may find that they are notobtaining adequate returns on their design efforts andinvestments. This is because a lack of focus may con-fuse market participants, undermine the venture’s legiti-macy, create technological and organizational problems,and lead to higher costs. Furthermore, a firm that getsstuck between innovation and imitation—or, analogously,between novelty and efficiency design themes—may per-form poorly because it misses out on the opportunity tolearn to become an even more skillful innovator or imita-tor (Zott 2003). In summary, there might be diseconomiesof scope in design resulting from bundling novel and effi-cient design elements.Hypothesis 6.The more novelty centered and effi-ciency centered the business model design, the lower theperformance of the entrepreneurial firm.Data and MethodsSampleTo test our hypotheses, we studied the business mod-els of firms that derived all or part of their revenuesfrom transactions conducted over the Internet, as thesefirms are likely to experiment with, and take advantageof, the possibilities that advanced information and com-munication technologies offer for the design of busi-ness models. We examined the business models of firmsthat went public in Europe or the United States betweenApril 1996 and May 2000. Our sample selection strat-egy enabled us to create a data set of 362 relativelyyoung entrepreneurial firms and their business models,from which we randomly sampled 201. Limited dataavailability forced us to drop 11 firms from the sample,which left us with a final sample size of 190. We consid-ered public companies, both to ensure the availability ofdata and because data collection from initial public offer-ing documents is an acknowledged method for study-ing entrepreneurial firms (e.g., Dowling and McGee1994). Concerns about survival bias are mitigated by the
Zott and Amit:Business Model Design and the Performance of Entrepreneurial FirmsOrganization Science 18(2), pp. 181–199, © 2007 INFORMS
fact that during the sampling period, the threshold forbecoming a public company was relatively low, whichresulted in listing very young and immature companies.As a result, many of the firms in our sample still facedhighly uncertain prospects at the time they went public(Lieberman 2005). Indeed, when we investigated the fateof these firms in June 2004, we found that 107 of our190 sample firms (56%) had been delisted: 20 had gonebankrupt, 68 had been acquired, 8 had been merged, and11 had been taken private.1Data CollectionFor each business model design theme, we built com-posite scales and identified and measured relevant itemsin a survey instrument (see Appendix A). The survey-ing process proceeded in five stages: (1) development ofthe survey instrument, (2) development of measurementscales, (3) pretesting of the survey, (4) development ofan online Web interface and of a central database, and(5) data collection.Following the increasing use of panelists in manage-ment research (e.g., Iansiti and Clark 1994, Lee et al.2003, MacCormack et al. 2001), we hired 11 part- orfull-time research assistants (primarily MBA students),and trained them as raters to fill in the survey instrumentfor assigned sample companies. We carefully selectedour raters from a larger pool of applicants by inter-viewing them and asking them to submit an abbreviatedtest survey on a randomly chosen sample company todisplay their understanding of Internet-based businessmodels. After choosing the most qualified candidates,we trained them in data collection and data analysis.In addition, raters were provided with written guide-lines on the proper way to address survey items. Eachrater was assigned to one of two project managers, whoreviewed completed surveys for internal consistency andcompleteness, but not for the accuracy of each indi-vidual measurement. On average, it took a rater abouttwo and a half days to collect data on a given busi-ness model, to analyze the model, and to complete thesurvey. Data sources included IPO prospectuses, annualreports, investment analysts’ reports, and websites. Thedata were collected from May 2000 to June 2001. Dur-ing that time period, we took one measurement of thedesign themes for each of the 190 business models inour sample, collecting cross-sectional data on our inde-pendent variables.We validated interrater reliability by assigning a ran-domly chosen business model to two different raters(each of whom was assigned to a different projectmanager), and by conducting a pairwise comparison ofresponses, yielding a Cronbach alpha of 0.81 and aPearson correlation coefficient of 0.72. Raters were inbroad agreement with each other for 82% of the individ-ual items. We repeated the test periodically for differentraters and different business models and found that allindicators of reliability had further improved.
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Independent VariablesWe selected two independent variables of businessmodel design: design efficiency and design novelty. Weused 13 items as measures of design efficiency, and 13items as measures of design novelty. Given the diffi-culty of obtaining objective measures of business modeldesign, we deemed the use of perceptual measuresobtained from our raters appropriate (Dess and Robinson1984). The strength of each of these items in a givenbusiness model was measured using Likert-type scales(see Appendix A for details) and coded into a standard-ized score. After coding, we aggregated the item scoresfor each design theme into an overall score for the com-posite scale using equal weights (see Mendelson 2000).This process yielded distinct quantitative measures ofthe extent to which each business model in the sampleleveraged efficiency and novelty as design themes. (SeeTable 2 for summary statistics.)We validated the internal consistency and reliability ofour measures using standardized Cronbach alpha coeffi-cients, 0.69 for the design efficiency measure and 0.72for the design novelty measure. Our measures suffi-ciently satisfy Nunnally’s (1978) guidelines, which sug-gest 0.7 as a benchmark for internal consistency. Todemonstrate the convergent and discriminate validity ofour measures, we ran a confirmatory factor analysis(CFA). We also employed a partial least squares (PLS)approach to further strengthen our claim about discrim-inant validity. The methods and the results are detailedin Appendix B. Both empirical tests provide support forconstruct validity of our measures.Dependent VariablesA firm’s stock market value reflects the market’s expec-tations of future cash flows to shareholders, and can beviewed as a measure ofperceivedventure performance.This differs fromrealizedperformance, which is typi-cally embodied in historical measures of firm profitabil-ity (e.g., ROI, ROA). Given the level of uncertainty oftenassociated with the true prospects of entrepreneurialfirms, perceived performance as stock market value isa particularly suitable measure for an entrepreneurshipsetting (Stuart et al. 1999). Measures of realized perfor-mance such as ROI, ROA, or Tobin’sqare less appro-priate for young, high-growth entrepreneurial firms thatoften have negative earnings, few tangible assets, andlow (even negative) book values. For instance, 134 firmsin our sample (i.e., 86% of the sample firms for whichwe had the relevant accounting data) had negative earn-ings in the fourth quarter (Q4) of 1999. Five firms (i.e.,3% of the sample firms for which we had the relevantdata) even had a negative book value in the same period.These numbers did not change substantially in Q4 2000.There are limitations in using stock market valuationas a dependent variable. The nature of our sample andthe period in which we collected the data could prompt
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concerns about bias, due to an irrational bubble in thestock market. However, while the rationality of the mar-kets during 1999–2000 remains an open question (e.g.,Pastor and Veronesi 2004 offer a rational explanationfor investors’ behavior and provide empirical evidenceagainst the bubble hypothesis), our paper is not pred-icated on the efficiency of capital markets. It centerson the differential performance implications of alterna-tive business model designs, and our estimation methodexploits their differential valuation by capital markets.Even if the companies in our sample were systematicallyovervalued, this would not distort the qualitative resultsof our regression analysis. An additional support to ourmethodology is the fact that our dependent variable cap-tures market participants’ perceptions of the businesscycle, and the level of resource munificence in the envi-ronment. It reflects the factors that market participantsvalue (akin to Shleifer and Vishny’s 1991 analysis ofstock market valuations of conglomerates in the 1960sand 1980s). This was actually beneficial for our analysisbecause it allowed us to test our contingency hypothesesabout the moderating effect of resource munificence onthe relationship between business model design and firmperformance.Because most firms in our sample have relatively lowlevels of debt, the market value of a firm’s equity is agood approximation of the market value of the wholefirm. We measured the market value of equity at a givendate as the number of shares outstanding multiplied bythe firm’s stock price, taken from the combined CRSPand Datastream databases. We then calculated the log-arithm of the market value of the equity in order tocomply with the normality assumption of ordinary leastsquares (OLS) regression. Following this transformation,we found that the null hypothesis of normality couldnot be rejected at the 5% level of significance using aShapiro-Wilk test. To test our hypotheses, we used mea-surements of the dependent variable at various pointsin time (annual average, average during Q4, and thelast day of trading of Q4) and in various time peri-ods (1999, 2000) characterized by different levels ofresource munificence for entrepreneurial firms.Until now, most empirical research has employedindustry-type measures of munificence, such as meanannual industry sales growth (Tushman and Anderson1986), employment growth in the industry (Dess andBeard 1984), and other indicators of growth at the indus-try level (McArthur and Nystrom 1991). Because thebusiness model construct spans industry boundaries, andmany of the sample firms span multiple industries, wecould not define an industry-level variable that capturedresource munificence adequately. We therefore measuredthe dependent variables in time periods that were suf-ficiently distinct in terms of environmental resourcemunificence, yet close to the point in time when theindependent variables were measured.
Despite the short window, the change in the resourceavailability for entrepreneurial firms triggered by theworldwide crash of high-tech stocks in March 2000 wassevere. Park and Mezias (2005), for example, demon-strate the sharp and statistically significant reversal in anumber of munificence measures. Table 1 summarizesthe differences between the time periods we considered.The year 1999 (and Q4 1999 in particular) was a timeof relatively high munificence for entrepreneurial firmsin our sample, whereas the year 2000 (and Q4 2000 inparticular) was a time of relatively low munificence. Inaddition, other indicators of environmental uncertainty,such as complexity and dynamism (Dess and Beard1984), may have changed between the years, perhaps toa lesser extent.The use of multiple measures of the dependent vari-able provided a robustness check for our results. In ouranalysis, we contrast the average market value of firmsin Q4 1999 with that in Q4 2000, the market value offirms at the close of Q4 1999 with that at the close ofQ4 2000, and the average market value of firms in 1999with that in 2000.Control VariablesWe included further factors that might influence themarket value of a firm’s equity as control variables inthe analysis, because their omission might confoundit. Our industry controls were the level of competi-tive threat, and estimated market size. Our raters mea-sured competitive threat on a four-point Likert scalebased on information found in annual reports, prospec-tuses, competitors’ SEC documents and websites, For-rester benchmark studies, Hoover’s database (which listseach focal firm’s main competitors), and investmentanalysts’ reports. The information on market size wasobtained from Forrester research reports and from theU.S. Department of Commerce. Consistent with marketpower arguments (Porter 1980), and our own theory, thegreater the level of competition that a business modelis facing (in more competitive or smaller markets), thelower the chances that the business model will createmuch total value and the lower the performance of thefocal firm.Our firm-level controls included the age of the firm,size, country of origin, and expenditures on R&D, adver-tising, and capital. Size was measured as a logarithm ofthe number of employees. The variable can be viewedas a proxy for the focal firm’s bargaining power, rela-tive to rival firms and other business model stakehold-ers. All other things being equal, the larger the focalfirm, the greater its potential for value creation as wellas its bargaining power, and, hence, the better its per-formance. We controlled for country of origin using adummy (“1” for firms headquartered in North America,“0” for European firms).
Zott and Amit:Business Model Design and the Performance of Entrepreneurial FirmsOrganization Science 18(2), pp. 181–199, © 2007 INFORMS
Table 1 Indicators of Resource Munificence 1999 and 2000Indicators of resource munificence1999 2000• Median quarterly sales growth of sample • Median sales growth of sample companies:companies: 30% (Q2 1999), 29% (Q3 1999), 18% (Q1 2000), 15% (Q2 2000), 8% (Q3 2000),33% (Q4 1999) 6% (Q4 2000)• Number of Internet-related IPOs in United States: • Number of Internet-related IPOs in United States:193 (Q4: 62) 122 (Q4: 0) (2)• Public market Internet IPO financings in % of total • Public market Internet IPO financings in % of totalIPO financings: 67% IPO financings: 36% (2)• VC funding for B2C e-commerce companies: • VC funding for e-commerce companies dropped$4.5 billion (+1000% from 1998) (1) from $843 million (Q1) to $69 million (Q4) (3)Sources. (1) PriceWaterhouseCoopers, http://www.ecommercetimes.com/perl/story/2505.html. (2) Morgan Stanley.2002.The Technology IPO Yearbook, 8th ed.22 Years of Tech Investing. http://www.morganstanley.com/institutional/techresearch/tech_ipo_yearbook.html?page=research. (3) PricewaterhouseCoopers/VentureOne, Money Tree SurveyQ4 2000.
The inclusion of these firm-level variables strength-ens the claim that our analysis captures the influenceof distinct business model design characteristics on firmperformance, as opposed to the effects of firm character-istics or strategy. For example, investment in R&D hasbeen used in prior research as a proxy for technologystrategy (Dowling and McGee 1994) and as a proxy forthe degree to which a firm pursues a product differen-tiation strategy (Mizik and Jacobson 2003). Advertisingexpenditures have been employed as a proxy for a firm’smarketing strategy (Mizik and Jacobson 2003).Finally, we considered alternative business model de-sign themes, such as complementarities and lock-in(Amit and Zott 2001), by constructing two latent con-trol variables, using 9 indicators for complementarities(Cronbach alpha=070), and 15 indicators for lock-in(Cronbach alpha=074).Econometric Modeling and Estimation ApproachWe analyzed the data using multivariate regression tech-niques. We tested the robustness and validity of ourmodel specification in several distinct ways. First, wetested for multicollinearity among independent variablesby calculating variance inflation factors (VIF) (seeKleinbaum et al. 1998). Second, we performed analysesusing different dependent variables. Third, we discardedinfluential observations based on established criteria foridentifying influential points (e.g., leverage, studentizedresidual, or change in the determinant of the covari-ance matrix) from our data set to see whether they dis-torted results. Fourth, we tested for overfitting of thedata.2Fifth, we considered the potential bias introducedby sampling on the dependent variable by running atruncated regression model (Maddala 1986).3Sixth, wetested for homoscedasticity using White’s test. Seventh,we tested for potential endogeneity (i.e., the concernthat business model design could be a choice variablethat is correlated with unobservables that are relegatedto the error term) by running a 2SLS regression with
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instrumental variables and by using the Hausmann test(see Greene 2003, p. 80ff).4Eighth, we performed mul-tiple partialF-tests (Cohen and Cohen 1983) to ensurethat adding the design novelty and design efficiency vari-ables, as well as their interaction, improved the fit of themodel significantly, compared to a baseline model thatcontained only control variables.None of these tests gave rise to concern, yet we ob-served multicollinearity in those regressions where theinteraction term between design novelty and design effi-ciency was included. We therefore mean-centered theinteraction variable, as well as the design novelty anddesign efficiency measures (see Aiken and West 1991).This significantly reduced the VIF to levels that atten-uated the concern about multicollinearity. In addition,we ensured that the mean-centering approach did notentail a lack of invariance of regression coefficients,which may arise in equations containing interactionseven under simple linear transformations of the data(Aiken and West 1991). Overall, therefore, we concludethat our model specification proved robust and valid.ResultsDescriptive StatisticsTable 2a, provides an overview of the data set we assem-bled. It reveals the entrepreneurial nature of our samplefirms as well as the enormous change that occurred inthe environment between Q4 1999 and Q4 2000. Specif-ically, in 1999 the median age of a sample companywas just over four years, while the mean company wasjust under seven years old. The few older firms in thesample are those that went through an extensive trans-formation, with entrepreneurial management leading thechange. The median sales of sample companies in 1999were just under $25 million, while the median bookvalue of equity in the same year was $57 million. Themedian sample company employed 269 people (mean1,067). With respect to the change in the environment
Zott and Amit:Business Model Design and the Performance of Entrepreneurial Firms190Organization Science 18(2), pp. 181–199, © 2007 INFORMSbetween 1999 and 2000, we note that the median com- scarcity and less uncertainty about the viability of busi-pany was worth $349 million at the end of December ness model designs, innovative business model designs1999, but only $49 million at the end of December 2000, were associated with higher levels of performance.representing a decline of 85.6% in market value over a Comparing Tables 3a and 3b (full sample) with Table12-month period. 3d (restricted sample), we note that the coefficient on theTable 2b, depicts the Pearson correlations among the design novelty variable is significant at the 1% level inright-hand side variables used in the regression analy- the restricted sample for all four models (see Table 3d),sis. We note that while some correlations among the while it is significant at the 10% level in the full sam-explanatory variables are significant, they do not pose ple for three of the four models we ran (see Tables 3aa multicollinearity problem, as their variance inflation and 3b). This might suggest a weakening of the noveltyfactors (VIF) are low. effect due to entry dynamics. We explored these appar-ent differences by running a separate set of regressionsHypotheses Testedusing only the 30 firms that entered our sample in 2000.Table 3 depicts the OLS regression results. Tables 3a (These regressions are available from the authors uponand 3b (full sample) show the results for regressions in request.) We observed that in most models the coeffi-which the dependent variable is the logarithm of mar- cients for novelty-centered business model design wereket value averaged over Q4 1999 (Table 3a), and Q4 not significant for this small set of 30 firms. That is,2000 (Table 3b). Table 3c summarizes the main regres- the novelty-centered business model design of the firmssion results for each of the three dependent variables that entered our sample in 2000 did not significantlywe considered. Table 3d (restricted sample) depicts the explain the variance in the dependent variable. Further-results of the same regressions reported in Tables 3a and more, according to thet-test suggested by Cohen and3b on a restricted sample of firms that were present in Cohen (1983, p. 111), the coefficient on design noveltyboth 1999 and 2000. In other words, in the regressions in the sample of the 30 entering firms was significantlyreported in Table 3d we control for entry and exit in our different from the respective coefficient in the sample insample between 1999 and 2000. 1999.Hypothesis 1 (regarding novelty-centered business This analysis highlights the potential role of entry dy-model design) is supported by the analysis. As depicted namics for the hypothesized contingent effect of munifi-by Table 3 (Tables 3a–3d), the coefficient on the design cence on the relationship between business model designnovelty variable is positive, and in most cases it is signif- and firm performance. Specifically, under conditions oficant both during a period of environmental munificence low resource munificence, capital markets may be lessand during a period of resource scarcity. The observed receptive to new public offerings from firms that centereffect was relatively robust to changes in the environ- their value proposition on novel business models. Over-ment. Our results suggest that even in times of resource all, however, Hypothesis 2 (about the changing strength
Table 2a Descriptive StatisticsStandardVariable name (acronym) Mean Median deviation Min Max No. observationsMarket value at close of Q4 1999 $1,506 $349 $3,184 $2 $25,942 159US$ million (MVQtr4Close_99)Market value at close of Q4 2000 $387 $49 $1,101 $07 $8,885 173US$ million (MVQtr4Close 00)_Design efficiency 0702 0712 0112 0404 092 190Design novelty 0366 0359 0133 0077 0795 190Complementarity 0617 0639 0174 0000 0972 190Lock-in 0454 0463 0140 0167 0763 190Age of firm 70 43 78 04 458 190Ln number of employees 5723 5593 1336 2833 10342 190Country (1=United States, 0=European country) 088 100 032 000 100 190R&D expense US$ 00 (million) $27 $05 $64 $00 $67.3 190Advertising expense US$ 00 (million) $47 $10 $93 $00 $52.8 190Capital expense US$ 00 (million) $427 $37 $4159 $00 $5,733.1 190Book value of equity 99 (million) $1637 $573 $4166$686 $4,601.2 188Book value of equity 00 (million) $2728 $712 $6852$9673 $5,752.2 160Sales net US$ 99 (million) $2633 $249 $1,575.4 $00 $20,111.8 177Sales net US$ 00 (million) $331.7 $529 $1,643.0 $00 $20,609 177Number of employees 1,067 269 3,557 17 31,000 190Market size US$ 00 (million) $20,477 $5,400 $65,640 $120 $744,000 190
Zott and Amit:Business Model Design and the Performance of Entrepreneurial FirmsOrganization Science 18(2), pp. 181–199, © 2007 INFORMSTable 2b Pearson Correlation
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Variable name(acronym)Independent variablesCentered design 1000efficiencyCentered design 01751000noveltyInteraction between00570041 1000centered designefficiency andcentered designnoveltyControl variablesComplementarity 0349∗∗0349∗∗0001 1000Lock-in 0316∗∗0413∗∗01730373∗∗1000Competition00060322∗∗0147012801211000Ln market size0039 0016 0022 01120062 0097 1000Age of firm011201310118 002601520048 0214∗∗1000Ln number of 00040038 0027 004000280076 0338∗∗0452∗∗1000employeesCountry0074 016801230107 01590097 0462∗∗0107 0110 1000R&D expense 00 0066 0220∗∗0049 0088 01400011 00220027 0281∗∗01231000Advertising0088 0020 0037 0042 0002 0027 0199∗∗0223∗∗0493∗∗01780434∗∗1000expense 00Capital expense 00 0004 00180004 01470075 0055 0066 0355∗∗0271∗∗0036 00010414∗∗1.000001p <005,∗∗p <001,005p <01.of the design novelty coefficient in different environ- test statistic we used wasPRSSCUSS/DF_PRments) receives little support from our data. Following DF_CU/CUSS/DF_CU, where PRSS was the sumGatignon (2003), we examined the moderating role of of squared residuals from the partially restricted model,environmental munificence by conducting a Chow test CUSS was the sum of squared residuals from the com-for the equality of the coefficients in the overall model pletely unrestricted model, DF_PR was the number ofbetween the 1999 and 2000 regressions. The test pro- degrees of freedom of the partially restricted model, andvided significant results (see Table 4). This led us to DF CU was the number of degrees of freedom of the_further examine whether the coefficient on design nov- completely unrestricted model. As a result of these tests,elty caused the observed structural break suggested by we could not reject the null.Table 3c. The table shows that the regression coeffi- Hypothesis 3 (about efficiency-centered business modelcients on the design novelty variable were highly signif- design) receives mixed support from our data. The resultsicant in 1999, but less so in 2000. To confirm whether in Table 3 indicate that Hypothesis 3 is supportedthis effect was statistically significant, we conducted a by the Q4 2000 results in the full sample (Table 3b:series of pooled regression runs (for all models and all Models 1–4). The results are robust across all depen-dependent variables): (a) on a completely unrestricted dent variables (see Table 3c). In our full sample, dur-model, in which we included a year dummy (zero for ing a period of resource scarcity, entrepreneurial firms1999, one for 2000) that we interacted with all vari- performed better if their business model design—andables; (b) on a partially restricted model, in which the hence value proposition to their customers, partners,only difference from the model in (a) was that the coef- and suppliers—included efficiency enhancements thatficient on novelty-centered business model design was reduced their transaction costs, simplified transactions,restricted to be the same for 1999 and 2000. Then, and sped up processes. However, Hypothesis 3 is notwe didF-tests to test the null hypothesis of homo- supported by the data pertaining to Q4 1999. Table 3a,geneity of the coefficient on design novelty in mod- which depicts the regression results during a period ofels (a) and (b). Following Gatignon (2003, p. 74) the environmental munificence (1999), shows that while the
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