How will outcome based contracts impact spare parts revenue?

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Ahead of the forthcoming inaugural Spare Parts Summit being held in Warwick, UK on April 12th, Field Service News Editor-in-Chief, Kris Oldland talks to Thomas Igou, Content Director, Copperberg about the impact the growing trend of servitization will have upon the spare parts sector…

In his role as Content Director with conference producer Copperberg, Thomas Igou has been at the heart of conversations in both the Field Service and Spare Parts sectors for many years now. So who better to assess how the continued trend of servitization is impacting on both sectors?

With Copperberg launching a new UK focused version of their highly respected European Spare Parts Forum I was keen to get his view of what the key issues facing those working in the Spare Parts sector were and if the introduction of outcome-based contracts would require a rethink of how manufacturers align there field service and spare parts operations.

“There are three main themes on the macro level looking at how digital transformation is impacting organisations and more importantly the service business,” explains Igou.

“Most manufacturers today are going through some form of servitization process moving from a purely transactional business to a more servitized model. That creates both great opportunities but also some sizeable challenges from a spare parts perspective and then to add to those challenges there are a number of other disruptive factors in the market at the moment as well.”

 

“eCommerce, AI, 3D printing and so on are all necessitating transformation in the spare parts sector, which has tended to be the cash cow within a service businesses because of the purely transactional nature of the business – the customer needs the spare part, he orders it, pays for it, gets it delivered.”

“Whereas on the flip side, when you look at field service it’s actually the opposite – field service directors are looking at how to move from being a cost centre to being a profit centre, and servitization plays a role in facilitating that shift. “

“However, the impact that is being seen in spare parts operations as companies move towards an outcome-based model, is that companies actually, start to cannibalise some of their spare parts revenue – because instead of being purely transactional, spare parts orders and deliveries start being included in SLAs, so actually, you will make less money from the sale of spare parts.”

“Essentially, it is something of a contradictory development because companies have to take away from one side to add value to the other.”

As Igou mentions for the spare parts executive there are additional external challenges to be contended with as well as the internal questions being raised by outcome-based contracts. Not least of these is eCommerce.

“eCommerce is another very significant topic of conversation at the moment, especially regarding competition from China where quality is getting better and better but as Chinese organisations have access to much cheaper raw materials they are able to be far more price competitive compared to European or North American organisations,” Igou explains.

“And that is before we even get to challenges centred around pirated parts – there are even growing fears around how companies like Amazon or Google could enter the sector and take a large share of the market revenue quite easily as they have done in other industries and sectors.”

Indeed, the Spare Parts sector is perhaps facing some of its most testing times ahead, but there remain plenty of opportunities also – many of which lie in tightening up efficiencies in two of the sectors mainstay topics – pricing and logistics.

“The main aim with the spare parts sector is tackling how to deliver the right part, at the right time and at the right price,” Igou explains.

 

“Most companies are now trying to move away from the cost plus model (i.e. how much does it cost to produce the part and then adding the profit on top) towards a more value-based approach, or if a company is entering a new market, they may prefer a market-based pricing strategy. Here, of course, eCommerce is again having an impact because prices are becoming more transparent – anyone can go on eBay or the internet and see on your website how much it costs to buy a part from China compared to say Egypt and then compared to the US or Europe.”

“If you have price differences it can be awfully bad for businesses so companies are facing a need to standardise prices across the board.” “In terms of logistics, the big discussion remains centred around whether companies should have a centralised warehouse management solution (where you have one big warehouse holding all of the stock and service all of Europe) or whether they opt for a decentralised strategy, operating multiple smaller warehouses which are closer to their customers, but which cannot stock as much inventory per warehouse.”

“In addition to that, there is a new consideration emerging,” Igou adds.

”We had a great session at this year’s European Spare Parts Forum from Schneider Electric about segmenting logistics depending on customer segments. Schneider found that customers in each of the differing sectors they service have different behaviours and expectations. For example, in one industry it may be that their customers need a very rapid solution and the key issue for that industry may be availability, so their logistics channel needs to be very good and very flexible and agile.”

“Whereas, another customer segment might be more demanding of uptime or more price sensitive etc, so segmenting your service supply chain based on your customer segment and the specific needs of that sector is another consideration that is beginning to enter the conversation.”

Of course, as Igou mentions, as companies move towards outcome-based solutions there is a danger of spare parts revenue being cannibalised as part of the wider service offering.

So where does he see the future of Spare Parts Management – will it ultimately become swallowed up as a subdivision of field service operations perhaps?

“It’s a great question and one I’ve been giving quite a bit of thought to,” replies Igou when I put this to him.

“With some of the larger organisations that were involved at our Aftermarket Conference at the end of October last year, we saw that even with companies such as SKF and GE Healthcare, i.e. major multi-national companies who have been working towards outcome-based services for some time now, still only about a third of their customers are on outcome based contracts and these are the organisations that are really at the forefront of this shift.”

 

“So whilst yes, servitization will mean some cannibalisation of the spare parts revenue, I don’t see that it’s going to destroy the spare parts business. There are always going to be some customers who won’t want these long term contracts and who will be happy to continue on a more transactional type of arrangement.”

“So I think the Spare Parts business will always have that transactional element and it will always be a profit centre. There will however, perhaps be a need for establishing some different internal relationships and some different processes may need to be considered moving forwards.”

The inaugural UK Spare Parts Summit will run on the 11th of April and will mirror the highly interactive peer-to-peer format of Copperberg’s UK focused field service event The Field Service Summit.

For more information on this event visit and last minute for registration opportunities visit: www.sparepartssummit.co.uk

Source: Field Service News