by DOUG MORSE, Services Transformation and Innovation Group LLC
Key points
• The world economy is driven by services, so you need to have the right skills, process and technology to survive.
• The value of any product is only in its intended use — service creates additional value.
• Everything in the enterprise changes when the enterprise moves towards a service orientation.
Ask any company what they do and they will tell you about what they make or what they sell. Very few will tell you about the value or outcomes that they create for their customers. Creating, or co-creating, value is what the transition to services is all about. “Servitization” is not a word that I like very much, but it has become a popular term in service literature to describe the transition of companies from a manufacturing, or goods-dominate, company to one that is more services-dominate.
Servitization is about adding services to a product base. The service-oriented enterprise is the next step in the service maturity curve and occurs when producers stop focusing on adding value to the products and start to think about how they add value to their customer’s outcomes by creating products that act like service systems. More importantly, they adopt a model where financial rewards are tied to the value created for the customer.
To illustrate by using a simple example, let’s relate this new service-based business model to a manufacturer of jet engines. In the old world, the jet engine manufacturer focused on the efficient manufacturing of jet engines and sold them to airlines. The emphasis was to build a product that was bigger, faster and cheaper than the one before it. As they moved through a model of servitization, they added product-related services to reduce the total cost of ownership for the customer. Offerings like maintenance outsourcing, specialized leasing arrangements, parts and logistics support, training and technical support are typical. At this point, the jet engine company enjoyed greater revenues and profits over the life of the engine and was able to differentiate themselves in the marketplace for short time. They added value to the base product, and the customers could reduce their cost of ownership and focus resources on the business of moving passengers and freight.
Power by the hour
The “aha” moment came when the engine manufacturer realized that, at the end of the day, what airlines really wanted was reliable thrust to move airplanes as needed and in a safe and economical way. Owning a capital good like an engine meant that the airline had to maximize the value of the asset that it now owned. Since the value of the jet engine (or any other product, for that matter) is in its intended use, what would be the benefit to the airline if it only had to pay for the value that the jet engine provided to the airline’s business? The jet engine manufacturers re-thought the business model in which they operated. They have now created a next generation of the engines that are fully instrumented. Sensors and controllers on the engine are connected through telematics to an operations center that collects real-time telemetry and prognostic information. The engine manufacturer is also connected into the airline’s operations systems so that it can automatically help manage schedules related to maximizing the safe use of the engines. They sell the whole package as “power by the hour”. The jet engine manufacturer has gone from being an efficient maker of capital goods to a safe and reliable provider of thrust in the mode of a complex service system. The airline no longer needs to purchase or lease a jet engine; they just purchase the use of thrust. This is what the service-oriented enterprise is all about, and it changes everything that we thought we knew about business models.
Implications of operating as a service system
The implications of operating a business as a service system in a service-based economy change everything in the enterprise.
The organizational structure of the enterprise needs to adapt so that front office and back office functions become more seamless, and financial metrics and governance become the new frontier.
A goods manufacturer sees product sales as a single transaction. A service provider sees and deals with a valued long-term relationship. Product revenues are counted as the products leave the warehouse or factory, while service revenues are earned, over time; and cyclical revenue streams tied to product releases become more consistent annuity revenue streams with services.
In other words, the enterprises of tomorrow will need to become a large complex service system, interconnected across the enterprise and aligned to maximizing customer outcomes. It is not good enough to just leverage post-sale service infrastructure and knowledge. Companies will need to leverage the entire enterprise to co-create value with their customers in the new service-based economy.
Once a company can start to focus on value co-creation, there is a natural shift from an internal silo-based organization interconnected only at the top by vague business goals to one that is collaboratively driven on mutually beneficial external targets. The lines between front office and back office fade and the goals of design and engineering become aligned to the same goals as sales and support. The traditional models of organizations from the concepts of industrial specialization taught by Adam Smith and others dramatically changes. This change affects how we manage and how we govern in ways not really taught in business schools today.
IBM’s shift to provider of IT services
IBM, well regarded for having made a dramatic shift from being a manufacturer of data processing technology to being a provider of information technology services, can illustrate the difficulties that these shifts in business models can bring. I know, because I was a part of the process at the time. There were challenges both big and small during the transition. For instance, from a Wall Street perspective, IBM was classified as a manufacturer of goods. The principle metric for manufacturers was the return on assets (ROA). How much profit could be returned based on the assets that it held in pursuit of building “stuff”? They were compared with peer groups like GE, GM or other computer makers. When IBM started to leverage their own infrastructure and knowledge to create customer value by outsourcing the IT shops of their customers, it was a lousy ROA metric. However, it was a great ROI business, and one that kept IBM from going into bankruptcy. The definition of service as leveraging resources and “knowledge” to create economic value for the benefit of another was not understood in the traditional business models from manufacturing. An asset is no longer just a machine tool or building, it can also be specialized knowledge, process methodology and other non-tangible things. IBM had to change the way that they measured success and convince Wall Street that not only is service a good business model, but it requires new thinking in terms of economic impact.
The service evolution is far from complete. Most companies operate along the service evolution continuum from basic warranty support, to value-added services that reduce cost of ownership, to solution providers who bundle products and services together. A few companies have progressed beyond being just a solution provider and integrator of “stuff” to the service-oriented enterprise. Those companies that have shifted from pure product toward pure services orientation have done so in reaction to business cycles and not with a strategic plan on how to change those fundamental operational issues such as supply chain management, contract management, risk management and governance. Just look at risk management as an example. If knowledge is an asset of the enterprise, where does that knowledge reside? It might reside in technology, but for the most part knowledge is in the people. You can protect a hard asset like a computer from loss, but how do you do this with people? How do you capture the knowledge of those people so that it can be leveraged and managed as you might with other intellectual property?
The innovation required to make a jet engine into a service had more to do with business innovation than it did with technical innovation. Managing a global fleet of engines is no small feat. The agreements between suppliers, the airlines and the like have to line up and be based on the same objectives. If, for example, you depend on global communications to receive and process jet engine telemetry, the providers of that infrastructure had better have the same goals when it comes to passenger safety or passenger satisfaction. The supply chain is only as good as its weakest link.
Service development needs to be a company-wide effort
Perhaps the scariest thing today is that service offering development is too often done in the marketing department. The services are not developed with an engineering-type rigor. Service development typically is not done using product life-cycle management principles either. Bringing a product to market usually has a defined set of steps and reviews before launching. Does a service have the same rigor for release in your company? If you are creating a product as a service, like the jet engine example, do your product life-cycle methodologies include all the right checks and balances?
Everything changes when you become service oriented
As I said before, everything changes in the service world. Service requires good cross-domain knowledge. Those most successful at these transitions have ensured that they had cross-functional teams with the right incentives and alignment to ensure good customer outcomes. Companies had better learn scenario-based planning and know how to deal with complex, interconnected processes. In this world, the services need to be developed in unison with all players at the table, including the customers in many cases. Legal, finance and operations need to be with marketing and engineering as a part of the development process. All of these players need to understand that service is a value outcome, not just something that you add to the product.
Unfortunately, the only school graduating students of higher learning in these service subjects today is the school of hard knocks. Today’s practitioners need more than just core skills in contract management or traditional supply chain training. Cross-functional skill sets are required to operate in the services world. The services world will require understanding people, process and technology across the enterprise. Traditional supply chain management now has to extend to the customer if there is to be value co-creation. People who create the contracts now have to be forward thinking, as the relationships between the parties now last years, rather than ending with the completion of a sale. Firing a supplier has new implications, as the supply chain now has to be retained for the life of the contract.
Concluding remarks
My intent here was to get you thinking about new service models and the complexities they present to a traditional product company and traditional thinking. Becoming more service oriented is not an option, as customers demand that the relationships with suppliers must be tied more closely with their needs. A service-oriented enterprise has to be more holistic. While the world’s economy may be mostly driven by service today, companies have not yet effectively learned how not to manage their enterprise like a manufacturer. Will you be ready to lead in the new service economy?
About the author
Doug Morse is a service professional with over 30 years’ experience leading all aspects of global service for Fortune 500 companies. He spent 19 years with IBM and was deeply involved in their services transition. After leaving IBM he helped other global companies to build and lead new service strategies. From 2002 to 2008, Douglas was VP of Customer Experience for Oracle, heading up service operations and service strategy for a $ 7 billion global services business. Most recently, Douglas has founded a consulting partnership, Services Transformation and Innovation Group LLC, which focuses on transforming the services industry. He is currently writing a book as a practitioners’ guide to the “Services Oriented Enterprise” for operating in the new service economy.
