Servitization - The Next Big Business Model

When we think of manufacturing, the first thing that comes to mind is the final product. Although manufacturers provide other services such as customer support, periodic maintenance, repair, and overhaul, service delivery as a model is rarely considered. Servitization as a business model creates value for manufacturers by adding services into offerings or fully transforming a product-based transaction model into a service-based subscription model.

Rolls Royce is a well-known example of servitization, changing its operating model from the sale of jet engines to the sale of power on an hourly basis. By 2017, 49% of Rolls Royce’s revenues came from a fixed dollar per flying hour.

Benefits of Servitization

The servitization model keeps the ownership of the systems with the technology provider, who is responsible for all operating costs. Thus, it incentivizes the provider to think long-term when designing technologies.

Servitization also deters product switching. According to a report by McKinsey, typical margins on new product sales are 10%, while aftermarket service margins average 25%.

 The servitization model allows hi-tech and manufacturing companies to offer a connected operations solution. Since the seller is selling subscriptions rather than products, they take ownership of the product experience. They usually have remote access to products to do analytics, send updates, and perform remote diagnostics. With the derived insights, companies can improve efficiency and provide a customized connected modern experience for customers.

From a sustainability and environmental perspective, servitization can significantly contribute to the systemic efficiency approach to decarbonization. According to the International Energy Agency (IEA), end-use energy efficiency alone can deliver 35% of the CO2 savings needed under the Paris Climate Agreement by 2050. The servitization model represents an effective way to overcome barriers and invest in energy efficiency. 

Signify (formerly Philips Lighting) manufacturers energy-efficient lighting products and provides smart systems for the same. The company introduced “light-as-a-service” (LaaS) as an offering, allowing customers to pay for the light they use and leave equipment and maintenance costs to Signify.

Drivers of Servitization

Companies that undertake servitization are motivated by competition, demand, and profits.

Some of the key drivers of servitization include:

• Product differentiation – To create a stronger value proposition than rely only on the product’s advantages
• Cost savings – Allow customers to save money by taking ownership of the product experience
• Improved service quality – Create more connected customer operational processes by improving the service quality
• New revenue stream – Gain extra revenue in addition to earnings from the product
• Increased profitability – Improve profits with services and related activities
• New service business model – Explore a new business model based on services rather than products

Challenges

Change often comes with a challenge. A complete shift in the business model and organizational culture is essential to move toward a servitization model. This switch requires the support and time commitment of all stakeholders and may be difficult.

Manufacturers can face the following challenges:

• Change in mindset – The change in employee mindset to switch from a product-focused to a customer-focused business takes time, investment, and organization-level training
• Timescale - Companies need to manage multi-year partnerships, control long-term risk and exposure, and understand the cost and profitability implications of long-term partnerships
• Value Delivery - Designing and delivering value to customers through services will require developing new capabilities

Conclusion

Servitization shifts the focus from products to services. As customers appreciate the new trend, services will continue to grow and be a significant competitive differentiator. As a result of the pandemic, manufacturing businesses seek reliable ways to boost their bottom lines by shifting their business models to provide more services that create consistent revenue during critical economic times.