It was in 1999 that an article in the Harvard Business Review (HBR) drew attention to the fact that industrial revenue and profit pools had shifted, and that “smart manufacturers are moving downstream” towards services. It observed that annual industrial product sales growth in the US had declined from 5.2% in the 1960s to 2.0% in the 1990s due mainly to market saturation.
Combined with the apparent increase in operational lifetimes due to improved operating conditions, quality standards and maintenance practices, this had resulted in the unit installed base in many industrial markets growing to orders of magnitude larger than annual unit sales. For example, the ratio of automobiles in service to annual sales was 13:1, of locomotives 22:1 and civil aircraft 150:1. Later studies confirmed this: In 2004, ratios of installed base to annual sales for paper machines (units) were 101:1, metallurgy equipment (‘000 tons): 59:1, power equipment (GW): 38:1 and manufacturing automation (€ bill.): 19:1. In 2010 equivalent ratios for electro-mechanical plant were estimated at 50:1.
Faced with limits to growth for new industrial products and plants, at least in the industrial economies, managements began to appreciate the importance of the installed base and the potential of revenue streams over the product lifetime. It was recognized that actual product sales constitute only a fraction of the total revenue opportunity – the rest being services such as customer support, spare parts, maintenance, upgrades or, in fact, product disposal. Estimates showed that total revenue streams associated with an industrial product over its lifetime could amount to between five and 20 times the value of the product. The recognition of these opportunities created substantial enthusiasm about the potential of services to improve (mainly western) manufacturers’ fortunes which were being impacted by low cost competition from China and other emerging markets, rapid product commoditization and buyer price pressures.
In addition, research seemed to indicate that services were much more profitable than first time product sales. A studyby Accenture of General Motors in 2003, showed that US$9 billion in after-sales revenue produced $2 billion in profits, more than profits from new car sales which exceeded $120 billion. Another study by Deloitte in 2007 placed the average profitability of service and parts operations at more than 75% higher than overall company or business unit profitability with the most profitable service businesses benchmarked – the top 25% – three times more profitable than the average. The Accenture study concluded that “service is the new frontier of competitive differentiation and profit enhancement”. The installed base should be viewed as an annuity-like revenue stream and companies [may] regard initial product sales as positioning opportunities (possibly even loss leading) for pull-through sales and services.
We are now slightly more than a decade later and of course not all has been smooth sailing. But it is clear, that the messaging proved at least timely, persuasive and motivating. Hardly any major company today neglects to mention service as a driver of strategic opportunity, to make a service pitch to its customers or to advertise its service capabilities on its website. Service has moved from the fringes to the center of strategic action. Service is now “where the music plays”.
In the meantime, the business of service itself and the markets have been changing. For one thing, competition from what used to be emerging markets (China, India, South Korea…) is intensifying. The success of Rolls Royce in “servitizing” its offering, the “power-by-the-hour” business model, inspired and attracted many who tried to emulate it and it showed the competitive power of long-term customer-supplier relationships based on value and outcomes rather than short-termist “fee-for-service” transactions. However, as many found out the hard way, servitization is no trivial matter. It requires careful design of offerings (Design Thinking), different processes and often a different organization and culture. It also usually requires upfront investments and strong management and is seldom successful if it is approached as a remedy for strategic weakness. Many case studies have shown that servitization should be an “aggressive” strategy for market leadership, not a “defensive” strategy to hide lack of competitive capability.
Servitization has steadily blurred the boundaries between “product” and “service” businesses. Gradually, but evermore rapidly, everything is becoming service, the realization of Theodore Levitt’s insight that “people don’t want to buy a quarter-inch drill. They want a quarter-inch hole”.
And now technology is playing a defining role in creating service markets everywhere. Major industries are being disrupted in unprecedented ways. For example, the quintessential product, the car, is being absorbed into mobility services platforms pioneered by Uber, which, despite its recent management problems, barely six years after its founding is worth more than General Motors in terms of notional market capitalization.
Advancements in sensing, connectivity and computing capacity in the Cloud combined with imploding costs are driving the juggernaut known as the Internet of Things, producing a deluge of (Big) data. And fast progress in analytics and machine learning (in all its guises) are for the first time allowing the data to be put to effective use -enabling much better control over industrial processes, value and supply chains: removing cost, improving productivity and reducing uncertainty and risk. But crucially, they are also ushering in new competitors and new business models, even completely different ways of doing things. Many models and applications that started off as B2C, particularly in the world of “sharing” (Uber, Airbnb) have made successful transitions into the B2B world. So today, we have Apps that allow farmers to share tractors, construction companies to share earthmoving equipment and cranes and waste collecting companies to share garbage trucks. Intriguingly, we also have Apps that allow customers and vendors to find and share production and repair workshop capacities, resources and, yes, field service personnel. And it is vital to understand that in these environments market power shifts from the traditional vendor to the platform provider.
Arguably, the “platform”, in its current technological incarnation, is one of the most potent innovations in business, perhaps comparable to Ford’s assembly line or the Toyota production system in their day. As researchers noted in a 2016 HBR article, while in 2007, the five major mobile-phone manufacturers of the time -Nokia, Samsung, Motorola, Sony Ericsson and LG- collectively accounted for 90% of the industry’s global profits, by 2015 Apple through the iPhone singlehandedly generated 92% of industry profits. By Q3 2016 that figure had risen to 103%. In the same period Samsung generated less than 1% of industry profits while both LG and HTC posted losses. Other competitors such as Nokia, Motorola and Research in Motion, the purveyor of the Blackberry, had been crushed. What is more, Apple produced these results on the back of only 14% market share. Apple had recognized the importance and succeeded in positioning the iPhone as a platform, with a surrounding ecosystem of services and App suppliers, rather than as a product. Purchase of an iPhone meant access to the services and as the number of customers increased, the demand for services ensured an ever-increasing supply. This gave Apple enormous pricing power and the ability to shape its industry and orchestrate its resources. In addition, platforms are characterized by network effects (the value of the platform becomes greater to its users the more users join), increasing economies of scale and “winner-takes-all” outcomes, where the dominant player enjoys near monopolistic positioning. And platform companies have a different focus: While conventional companies focus on maximizing the lifetime value of individual customers, platforms seek to “maximize the total value of the ecosystem in a circular, iterative, feedback-driven process. Sometimes this requires subsidizing one type of customer in order to attract another type”.
We do not yet know how a platform world will look like in the framework of the industrial markets, but we do know it will be different from what we experience now and we do know that a number of industrial companies are investing huge sums in trying to get there first. GE’s investments in digitization and its Industrial Internet of Things Predix platform have been game changing for the company. Others are following suit with platforms of their own, including Siemens, Bosch, Caterpillar, ABB, Emerson Electric, Honeywell and others. All are relying on strong positions in market segments, domain expertise, large installed bases (therefore access to data) and affinity to technology. Whether this all will be enough is something we will find out over the next few years -and, interestingly, digital native companies, including behemoths like Google, Amazon and Microsoft are entering the space as well.
But other technologies are also rapidly gaining traction: 3D printing and augmented and virtual reality, a new type of robotics are all promising to achieve deep market penetration, upend how we do business and radically change long held assumptions in management, from the way we work to the way we calculate costs and prices, understand production and logistics or train, retain and deploy resources. Mastering these and adapting the business will not be easy, not just in a technological, but in a profound management sense: Yes, technology will bring down costs and improve productivity, but it may bring down prices customers are willing to accept even more. How, for example, will we price spare parts, if the costs associated with inventories, logistics and distribution have been largely eliminated through 3D printing and production costs have been minimized as well. How will we maintain pricing integrity and discipline or even price for value if parts can be reverse engineered or redesigned for purpose by third parties or the customers? How will we develop business models to trade in intellectual property rather than linear value chains? Service businesses that make most of their profits through spare parts sales will have to drastically rethink their business and fast. And this is just an example of what is to come.
So this year’s After:Market Business Platform will have plenty to go on. The conference promises to be highly interesting, as many speakers from blue-chip companies will describe what they are doing to come to grips with how technology is reshaping their business – addressing fascinating topics like “crowdsourcing field service” and “how to “price for value” as well as case studies, like how SKF, the bearings manufacturer, became a key enabler of industrial operating performance using digital services or how Caterpillar is developing a new disruptive digital business model. Both Day 1 and Day 2 provide then the opportunity to dig deeper into the practical issues: How to use digital technology to leverage data to help customers improve performance, improve pricing decisions or enhance the customer journey and experience. Finally, Day 3 will include a panel discussion that looks specifically at the big picture: The disruptive power of the new technologies and how they will transform the service business in the years to come. Food for both thought and action!
 Richard Wise and Peter Baumgartner: Go Downstream: The New Profit Imperative in Manufacturing, HBR Sep-Oct 1999
 C.B. Henkel and O.B. Bendig: Industrial Service Strategies: The Quest for Faster Growth and Higher Margins, Monitor Group 2004
 Michael J. Dennis and Anjit Kambil: Service Management: Building Profits after the Sale, Accenture 2003
 Peter Koudal: The Service Revolution in Global Manufacturing Industries, Deloitte Research Global Manufacturing Study, 2007
 Marshall W. Van Alstyne, Geoffrey G. Parker and Sangeet Paul Choudary: Pipelines, platforms and the new rules of strategy. HBR, April 2016
Titos Anastassacos is Managing Partner at Si2 Partners, a consultancy helping clients leverage services to win in industrial markets. His consulting focus is on business modeling and strategy, business development, outcome based services and service performance management. He also specializes in technology for service oriented businesses, with particular emphasis on integrated digitization and servitization initiatives, Industrial Internet of Things platforms and sharing economy applications.
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