1

Measuring Performance of Emerging New Business Models through Product Servicization

Serguei Netessine

2

Is this servicization?

3

Servicization?

4

Servicization =

Providing functionality rather than the product

• Under servicization, payments should be tied to product

usage or peformance.

• Under servicization, various contingencies are included in

the price (e.g., repairs, obsolescence, theft, consumables).

Servicization ≠ leasing/renting/subsription

5

Key to servicization: performance contracting

Buyer

Material

Products

Supplier

Wants to

increase

Wants to

decrease

Time & material contract

– selling products

Conflicting Incentives

Value of Services

through Products

Service

Provider Buyer

Wants to

increase

Wants to

increase

Performance based

Aligned Incentives

TIME & MATERIAL CONTRACTS:Payment based on resources

consumed in the service

PERFORMANCE-BASED CONTRACTS:

Payment based on product usage (e.g., time or volume)

5Servicization performance-based contracting

6

Example: Evolution at Bombardier Transportation Services

Ad-hoc price per part

Guaranteed price per X years

Consignment stock

Including obsolescence

Price per km/All inclusive

Example: selling service at CAT logistics

• Pay per amount of earth moved from point A to point B.

A B

Payment = distance amount of earth rate

Example: Better Place

Cost of Battery raises

total cost of ownership

of Electric Vehicles

Limited travel range due

to limited battery

capacity

Cost reduced by leasing

batteries to customers

and charging per mile

usage

Install a network of

charging and battery

switching stations

Factors affecting mass adoption of Electrical Vehicles

What is Better Place doing differently?

The Business Model

Electricity

Customer

Charging Spots

Battery

-Leased by BP-Limited Range-Cost

-Inventory of batteries-Service Level

-Payment Plan-Miles for Fixed Charge-Overage Charge

-Paid by BP -Home or Work

Switching Station

All-inclusive price per

kilometer driven.

10

Is servicization really better: what do we know?

• Department of Defense directive 5000.1 (2003): all DoD service contracts must be performance-based.– Support: some anecdotal data from pilot programs.

• Government Accountability Office (2005): No evidence of performance improvement under PBC due to lack of data.

• A survey by SAP/Aviation Week: 329 executives in the A&D industry (2008). – Do you have evidence of higher performance on past or

current PBC programs? 33% - YES, 36% - NO, 32% - Too early to tell.

• Bottom-line: evidence is inconclusive… Why?

All customers are different and self-interested

• In many practical examples, performance-based contracts are offered alongside with traditional, non-performance contracts.

• Customers decide for themselves which contract they want.

• Performance-based contract is like a health insurance: you know exactly how much money you will spend when you get sick.

• And who buys insurance? Sick people…

12

Example: Rolls-Royce and Power-by-the-Hour

13

Rolls-Royce: the company overview

Rolls-Royce is a world-leading provider of power systems

and services with four business units (civil aerospace,

defense aerospace, marine and energy)

The company had revenues of £10.1 billion in 2009, of

which about half came from services revenues

It has a broad customer base comprising more than 600

airlines, 4,000 corporate and utility aircraft and helicopter

operators, 160 armed forces, more than 2,000 marine

customers and energy customers in nearly 120 countries

Employs over 38,000 skilled people in offices,

manufacturing and service facilities in 50 countries

Invested £864 million in research and development in

2009

59% of Rolls-Royce installed fleet (in value) covered

by PBC, 41% by T&MC (2009)

Rolls-Royce: the company overview

14

Research Design

• 5 years of data (2002-2007), 5 engine types, 3 airplane types, 62 customers (airline and non-airline) around the world.

• Data on engine removals (1076 total removals), some planned and some unplanned.

• 79% of engines covered by PBC contracts, 21% are covered by T&M contracts.

• Econometric (regression) analysis of engine reliability under PBC vs. T&M contracts.

14

Based on Guajardo et. al. “Impact of performance-based contracting on product availability: empirical analysis”,

available at http://www.netessine.com.

15

Results: are there benefits of servicization?

15

Attempt 1: compare reliability of engines under PBC and

under T&MC (while controlling for engine/airplane/customer

characteristics): no significant differences.

Attempt 2: realize that customers with low reliability of

engines are more likely to sign up for PBC contracts and

compare again.

If one accounts for customer self-selection, there is positive

and significant effect of Performance Based Contract on

engine reliability (35% increase on average).

Without accounting for this self-selection it might seem that

servicization does not work!

Summary

• Servicization is inseparable from performance-based contracting.

• Intuitively, servicization is a “good thing” but proving this is not easy: more studies are needed.

• The problem is that customers differ in their utilization of equipment, environment in which they operate etc. and select contracts accordingly.

• Performance measurement needs to take this into account!

Tell me about your experiences!