Intermediate Services—the Start of Your Servitization Journey
In my September post, the ironically titled "Are British factories an Endangered Species" (and for the record the answer is an emphatic NO!) I proposed that servitization was a route through which business could grow and simultaneously deepen the relationships they have with their customers. While the biggest benefits of the servitization transformation are realised when the business starts to offer advanced services (outcome focused on capability)—providing intermediate services (outcomes based on product condition) is probably a good place for most business to start their servitization journey.
It is likely that these intermediate services are already being offered, e.g. helpdesk, periodic maintenance, repair and overhaul today. However, is the business getting a fair share of the value they represent to the customer? In other words, are they priced right? With pricing pressure coming from increased competition from lost-cost providers and customers negotiating power, as noted by Simon Kucher & Partners in their 2016 Global Pricing Study, it is more important than ever to get the price right. With that in mind, I had a discussion with Dr. Peter Colman from Simon-Kucher about the work they do with B2B technology and industrial companies to improve their profits.
Following that discussion, here are a few things I believe you should think about when pricing these services:
Start with the end in mind. In providing this service, what is the end goal for the business? Is the end goal the service itself or is the service to be used as a steppingstone from which the business can expand?
What is the value to the customer? When starting to think about what the price of a service should be, understanding the customers’ perception of the monetary value provided by taking up the service. For example, the customer might take the view that a repair service avoids a critical piece of equipment being suddenly offline. Sure, they can manage scheduled downtime, however, un-scheduled downtime is costly and disruptive to the business. They may also see the repair service as providing a way of extending the operating life of the equipment.
What is a fair share of the value? It is reasonable for the business offering the service to keep a share of the value, i.e. the price of the service to the customer. Too small a share—the business is leaving money on the table. Too large a share—customers won’t take up the service. The size of that share may well vary depending on the type of customer, their willingness or ability to pay and the different drivers within their organisation.
Same service, different market sectors, same value? Probably not. Recognise that the same service may have very different value propositions to customers in different parts of the market. What might be considered a premium service in one market may be an over-engineered offering for another segment.
Offering different levels of service? We’re all familiar with the bronze, silver or gold levels that many services typically come in, but what is the take up of the premium-level offers? If the service is going to be available in different levels, then it is important that there is very clear delineation between these, i.e. each level is tightly fenced with no bleed-in from one to the next. Equally important is that there is a clear value differentiation between the levels, with the bronze offer being good enough with clear additional value being provided by the silver and gold offers. Otherwise what is the incentive for the customer to move up to the silver or gold levels?
Capture cost and value drivers in your data. If a business is of a size that warrant’s an ERP (enterprise resource planning) system, then it is a reasonable assumption that the costs associated with the major business activities are captured. But what about the value customers attribute to these activities? Let’s say a business manufactures widgets, which are available in different finishes—silver, gold, stealth black or high-gloss white. The cost of producing the widget is the same. The cost of applying the different finishes to the widgets is the same. However, the price the customer is prepared to pay, i.e. their perception of the value, is different so you will need to be able to segment your pricing based on these criteria.
Both cost and value drivers need to be captured within the ERP system so that a business can clearly understand the costs associated with the elements that go towards providing a service. The business also needs to understand the value that the customer attributes to that service by measuring the prices paid for it.
And finally to the price. Unsurprisingly, there is no magic formula for pricing a service. To set prices an understanding of customer’s willingness to pay is important, a fact often overlooked with the typical cost plus margin approach which often results in leaving money on the table. In determining the price of a service the costs need to be clearly understood. Businesses can do this by building a model based on the elements that go towards providing that service. For less sophisticated services the model is made up of elements that have more variable costs and as the service gets more sophisticated these will give way to more fixed costs. Collecting the cost, and value data, of these elements will then help to inform the business what the margins are for each of the services provided.
Due to difficulties in measuring cost-to-serve, initially the model may need to be pragmatic and based on some assumptions. By applying the same iterative improvement processes that exist within most manufacturing processes to this commercial aspect, that model can be improved over time.
Is this your experience? Does your business offer services where outcomes based on product condition? How do you go about understanding the value your customers attribute to these services? How do you price those services?
Posted by Charles Clayton, Global Customer Advocate, Epicor Software