What is Asset Light Business Model, Its Advantages and Disadvantages

It is common knowledge that the world’s largest cab service Uber does not own any vehicles. Similarly, one of the world’s largest boarding and lodging solution providers, Airbnb does not own any hotels either!

The largest and the most profitable companies of the world such as Microsoft, Google, etc. do not own any tangible assets.

It is important to note that this did not happen by coincidence. All this has happened because of a concerted effort of entrepreneurs to focus more on asset-light business models.

Asset-light business models have become a buzzword today. It is almost impossible for any new enterprise to get funded unless it classifies itself as an asset-light business model.

In this article, we will closely examine what an asset-light business model means and will also look at some of its salient features.

What is an Asset Light Business Model?

An asset-light business model, as the name suggests, is a business model where the company focuses on reducing the amount of capital that is invested in assets.

In financial terms, this would mean that the size of revenue generated by the company would be very high as compared to the amount of capital tied up in assets.

Finance enthusiasts will say that these companies have a very high asset turnover ratio.

Entrepreneurs carefully study the value chain of a business in order to identify the key functions which need to be kept in the house. Any other functions which are not mission-critical are outsourced to vendors in order to increase efficiencies.

For instance, in the case of Nike, manufacturing is generally outsourced. The company decides to focus on marketing.

On the other hand, in companies like Uber, the tech function is given a very high priority. Asset light business models are a smart way to deploy business capital to build a competitive advantage and then use that competitive advantage to run all non-critical functions efficiently.

Salient Features of the Model

Asset light business models are not really new. They have been in existence for many years. However, with the resurgence of tech-based businesses, asset-light business models have come to the forefront once again.

Here are some of the salient features of asset-light business models which have been mentioned below:

1. Focus on Intangible Assets: The whole focus of companies using asset-light business models is to gain a competitive advantage over the competition using intangible assets.

   For some companies, this intangible asset is in the form of a brand name. On the other hand, for some other companies, this intangible asset is in the form of patents, algorithms, software, or such other intellectual property rights.

   Instead of spending money on constructing factories and warehouses, the money is often spent on building intellectual property which provides a very specific value proposition that is difficult for the competition to replicate.

2. Focus on Customer Facing Side of the Business: It is also important to note that most of these asset-light companies focus on the customer-facing side of the business.

   Their business models are created in such a way that they solve a specific need for a business and acquire customers. The execution part of the business is then passed on to other service providers.

   It is the ability to acquire and pass on customers to service providers which allow these companies to earn a return on investment that is higher than the competition.

3. Creating a Lean Enterprise: The entire asset-light business model is based on the concept of lean enterprise. This means that these businesses conduct every activity in a manner that is not wasteful.

   Asset light business models are meant to redesign the entire process and eliminate any wasteful activity.

4. Fixed Costs to Variable Costs: Another important feature of the asset-light business model is the relentless focus on de-risking the business model by reducing operating leverage. Asset light businesses are famous for turning every fixed cost into a variable cost.

   For instance, companies can turn fixed salary costs into variable costs by hiring contractors and gig economy workers instead of full-time employees.

   Similarly, asset-light companies use cloud-based solutions to lower their costs instead of investing upfront in buying servers and other data center related expenses. The more any company can convert fixed costs into variable costs, the closer it is to having an asset-light business model.

5. Faster Response Times: Another important characteristic feature of asset-light business models is the ability to quickly respond to customer requests.

   Even though the requests are serviced by third-party services, the customer-facing business has to take ownership of the service delivery.

   This means that they have to create a system wherein they can quickly pass on the message to a nearby service provider and can also track their performance and service delivery process. The entire supply chain has to be linked by well-designed information systems that quickly and accurately transfer the required information to all stakeholders.

Asset light business models have transformed the way businesses function. These businesses are now present everywhere from grocery shopping to real estate brokers.

Asset light business models are able to utilize the existing setup that small and medium businesses already have in order to provide the last mile reach to the customers.

These companies are highly focused on their competitive advantage which is what makes them highly successful.

Advantages of Asset Light Business Model

1. Lower Upfront Investment: Asset-light business models can be started with significantly less capital. Most of the application-based business models only require the cost of application development and some customer acquisition costs, to begin with. This ability to generate higher revenues with lower investments allows the entrepreneurs and investors to begin small and hence dilute less equity at the founding stage.

2. Scalable: Asset-light business models are driven by intangible assets such as patents, brands, and other intellectual properties. Hence, when the business is expanded, the amount of money, as well as the time required, is very less.

   Asset light business models do not require the construction of factories or warehouses. Instead, they utilize the existing physical infrastructure by adding them to their service delivery network as and when required. This feature is very beneficial to investors. This is because venture capitalists generally provide a small amount of capital to a company.

   Once the company succeeds or shows signs of growing, more capital is pumped in. Venture capitalists are willing to pump in more capital to scale up the business of asset-light companies since the past records show that venture capitalists have gained greatly from this strategy.

3. Agility: The fact that asset-light business models can be scaled up quickly is also a testament to the fact that asset-light business models can be scaled down equally quickly as well. Hence, if a recession strikes and the revenue of the asset-light company starts to dwindle, the company can cut costs in order to stay competitive.

   The asset-light business model provides the entrepreneur as well as the investor with a lot of options to change the scale of the business and the resultant expenses at very short notice.

4. More Stable Profits: Investors are very inclined towards investing in businesses that can provide a stable cash flow. As we have mentioned above that the startup following the asset-light business model can change its expense structure at very short notice. Since most of the costs in the profit and loss statement of such startups are variable, the chances of loss are less.

   Startups lose a large amount of money if their business has a lot of overheads in the expense structure. In such cases, the revenues dwindle but the overhead expenses remain stable. This is unlikely to be the case with asset-light startup companies which is what makes them the darling of investors.

5. Higher Return on Investment: The asset-light business model focuses on controlling the business by having minimum ownership. Only the assets which are critical to the survival of the business are owned by the company. Lower ownership also means lower capital investment.

   Asset-light companies have a pay-as-you-go business structure. Hence, they are able to generate almost the same amount of revenue as companies with regular business models. However, since their ability to generate revenue is almost the same, these companies have a very high return on assets as well as return on investments.

   Asset light business models provide the company a form of leverage that they can use in order to maximize their profits. Investors and entrepreneurs are attracted to businesses with higher profit potential. Hence, they are keen on making investments in asset-light business models.

6. Avoids Diseconomies of Scale: When companies grow beyond a certain scale, management becomes quite difficult. For instance, when a company expands its last-mile connectivity, it is subject to a lot of issues.

   It is not easy to manage a network of hundreds or even thousands of points of sale. The management of these tasks can eat up a significant amount of resources of the company. However, asset-light business models can completely avoid this by delegating the task to the vendors. Managing vendors can also be difficult. However, the time and expense required are considerably less.

7. Transfer of Risks: The asset-light business model is based on the transfer of tasks from the business to external vendors. Companies tend to outsource their last-mile delivery, their computing requirements, and so on.

   It is important to note that whenever an activity is being transferred, the vendor is required to maintain a certain service level. Hence, the risk related to the activities is also transferred to the vendors. This is advantageous for the business since they are protected from many issues such as stockouts.

Disadvantages of Asset Light Business Models

1. Over-Reliance on Vendors: The biggest problem with asset-light business models is that companies that follow such models face an overreliance on vendors. Vendors are independent entities who are seeking profit and oftentimes their philosophy does not match the philosophy of the startup.

   Vendors are the face of the company to the end consumer and provide the final service. Hence, if they are not aligned with the values of customer service, they might resort to profiteering and other unethical means.

   As a startup company grows larger, it has high bargaining power with the vendors. This is because it redirects several customers to the same vendors. However, a smaller company does not have much leverage over its vendors. Hence, it is important for startup companies to be very careful when they select the final vendors who will actually provide the good or service to the customer.

2. Less Standardization of Services: The problem with having several vendors is that maintaining a certain standard of quality is often very difficult. This may not be because of wrong intent on part of the vendors. Instead, it may simply be due to the lack of availability of resources.

   For instance, different vendors providing different types of car repair services may have mechanics of different levels of expertise. In such cases, standardization of services is very difficult and it is quite possible that different customers might have very different experiences with the company which leads to dilution of brand image.

3. Low Barriers to Entry: Before the advent of asset-light business models, a significant amount of capital was required in order to begin any business. This high capital requirement used to act as a barrier to entry. Since a high amount of capital was required, very few people could actually enter into the market. Hence, there was lower competition and higher profits for the existing players.

   However, the possibility of using asset-light models has changed the game completely. It is now possible for small entrepreneurs to use bootstrapping techniques and enter the market. Once they do enter the market, they start using discounts as well as predatory pricing in order to gain market share. This creates a pricing war which ultimately negatively impacts the entire market.

4. Higher Cost of Operation: The entire asset-light business model is based on the concept of converting fixed costs into variable costs. Now, there is no doubt about the fact that this conversion provides the organization with a lot of flexibility. However, it must also be understood that this conversion can lead to more expensive products.

   The scalability is achieved by outsourcing to third-party vendors. These third-party vendors provide flexibility at a cost. For example, if a company has a high scale of operations, cloud-based computing services can prove to be much more expensive as compared to a fixed-price data center. Hence, if a company has a stable business with relatively stable sales, they are better off having a fixed cost-based cost structure instead of relying extensively on variable costs.

5. Lower Quality Human Resources: Most asset-light business models try to lower the cost of human resources. Companies like Uber and Airbnb are notorious for having very few employees. Most of the people working for them are not classified as employees. Instead, they are classified as contractors. Hence, they are not in the purview of employment laws.

   Startup companies are not required to provide benefits such as insurance or retirement funds to these contractors. This may seem like a great mechanism to cut costs in the short run. However, in the long run, high-quality human resources are unwilling to work under this model.

   Asset light business model-based companies generally have a hard time filling up positions across the various levels of the company. They generally face a high turnover of employees across all levels which ends up being more expensive.

6. Risk of Obsolescence: Finally, the entire asset-light business model is generally based on the superiority of some kind of intellectual property.

   Companies like Uber and Airbnb are at the top of their respective fields because they use the latest technology in their applications. Their success is predicated on the technological superiority of their mobile phone-based applications.

   However, it is quite possible that with the passage of time, a new startup may come up with another application that is more superior from a technological point of view. This is where the asset-light-based companies face the threat of obsolescence. They have to invest huge sums of money in research and development and have to constantly be ahead of the game at all costs.