Before digitalization became a thing, the industry was divided into two types of businesses: those that sell products and those that provide services. Those that sell products have a transactional relationship with their customers, mostly consisting of selling one of their products. The service businesses tend to have a more continuous relationship with their customers as services are provided on a continuous basis.
With digitalization, however, we’ve seen an interesting shift driven by a few technical enablers and business drivers. First, the increasing adoption of continuous software deployment has brought about the situation that even product companies have a continuous relationship with their customers. Expectations these days are that the products that we use get better every day we use them.
Second, with data being the new oil, many companies are concerned with collecting as much of it from their products and systems in the field. As many are successful in monetizing the data coming from their primary customer base with a second customer base or have found ways to improve internal efficiency using the data, there’s a significant business incentive to agree with your primary customers on the use of the data from your systems.
Third, because of software, connectivity and the ability to continuously collect data, use-based business models are becoming feasible. Some companies now provide their products to customers for free or against a low installation fee and then monetize based on the use of the product. This also allows for all kinds of (preventive) maintenance services and other value-adding services that aren’t directly connected to the system’s day-to-day use.
Fourth, many industries are shifting from capex to opex. Companies don’t want to own the buildings they inhabit, nor the manufacturing equipment, nor the computers their people work on. All equipment, tools and other capital-intensive items are now being acquired as a service. The providers of these services inhabit a position of power in that they negotiate with product companies and typically the sole driver in the selection process is the total cost of ownership. This makes it very difficult for product companies to differentiate in a world where service-providing companies make the selection. As a consequence, many product companies have added a services arm to their business to offer their own products as a service.
Fifth, with digitalization, product complexity has gone up significantly. Software allows for a much more complicated configuration of product functionality and user interfaces have a level of complexity far beyond what a purely mechanical system would show. Using data, machine learning algorithms embedded in the system can cause it to exhibit complex and difficult-to-explain functionality and the cloud connection available for most systems offers new opportunities, as well as security risks. All these complexity-driving factors create a situation where the customer has to make a conscious decision concerning the competency required to operate the systems. The choice is, of course, to train your own people to become proficient or to hire staff from the system provider for some or all of the operational tasks.
The result is a situation where the traditional dichotomy between product and service companies no longer holds. Instead, most companies are moving towards a product + service offering and work out a business model with the customer that works for both parties. Sometimes this means higher-priced products and some free services and sometimes the product is offered for free and the services are monetized instead.
The traditional view was that product companies have high margins but are susceptible to economic conditions, while services companies have low margins but are less sensitive to economic downturns. This is no longer the case and companies need to overcome their traditional biases and create an optimal mix of products and services, as well as a good mix of business models to satisfy the entire customer base.