Its Whole Network Of Factory Service Centers example essay topic

The secret life of factory service centers For a lucrative new source of revenues, profits, and market information, manufacturers need look no further than their own repair shops. A few miles off Interstate 696, outside Detroit, the factory service center of a consumer goods company blends easily into the commercial landscape. The seven people who work at the customer support site sell parts, refurbished products, and accessories; repair products; and answer service and maintenance inquiries. Until recently, the manufacturer paid scant attention to this place or to its whole network of factory service centers, which were seen merely as a cost of doing business-the price a company pays to support products that eventually wear out or break.

Then a new division manager discovered that despite years of neglect, the centers were earning margins upward of 20 percent, more than twice those of the core business. Now the company is planning to open centers in ten new locations across the United States and expects network-related revenue to double by mid-2003, thereby providing a full 10 percent of the revenue of the division and 15 to 20 percent of its profits. A handful of US companies have achieved similar results; with small capital investments, so could many others. 1 Factory service centers can not only generate cash but also provide a gateway to the lucrative world of services. Trucks, for example, can produce after-sales revenue equivalent to four times their purchase price through financing, insurance policies, service contracts, and the sale of parts and accessories. 2 At present, though, these high-margin items tend to be sold through third parties-dealers, retailers, and independently owned authorized service centers-which take a cut of the revenues from parts and all of the revenues from service contracts and extended warranties.

Manufacturers can capture a larger share by enlarging their own service networks. Service centers also provide a valuable laboratory for developing new products and services, for providing information about customers' needs, and for showing where products have failed to meet them. One midsize industrial-products manufacturer, for example, is deciding whether to rent products, start a mobile repair service, and offer service contracts and extended warranties-all as a result of insights gleaned from the company's service network. So far, about 35 companies in the United States have created service networks (Exhibit 1), but most have yet to exploit them fully. Almost all of the businesses we looked at had fewer service centers than they should given their market size and penetration and thus were failing to maximize their revenues. Today, most service networks receive little management support.

If they had more locations, a more profitable mix of services, and better management, we estimate that they could produce revenues equivalent to 20 percent of a company's core product sales. Although a few top-performing networks are on track to meet that goal, most of those in our study manage just 5 to 10 percent. To put our point another way, we estimate that service networks in only four US industries-consumer electronics, personal computers, power tools, and vacuum cleaners-could generate revenues of $6 billion to $8 billion a year from after-sales service, parts, and ancillary products. Today, we believe, only a fraction of this potential is being realized. Running these networks effectively certainly poses a management challenge: manufacturers must develop new skills and confront channel conflicts with dealers, distributors, and independent operators (see sidebar, 'Managing channel conflict').

But well-managed service centers would more than justify the risks. The economics of service networks Consumer products selling for as little as $100 (the price point at which many dealers begin offering extended warranties) can support profitable services. Our research indicates that consumers will pay up to half the original price of a product for a given repair-enough to make most repair jobs profitable for well-managed shops. The real money, however, lies not in carrying out repairs but in selling parts and services: the margin on replacement parts is about 50 percent, and on service contracts and extended warranties it often exceeds 70 percent. Margins of this kind readily justify the costs of running a network. How high are they?

In general, if a company aims for revenues equivalent to 20 percent of the sales of its core products, it would need to invest approximately 15 percent of that target, or about 3 percent of product sales. Assuming a small staff and a small inventory of parts, a typical retail site in a modest location costs $300,000 to $1 million a year to operate and generates returns on capital that can be higher than 40 percent (Exhibit 2). A somewhat larger, more complex site, serving industrial users or dealers, can cost from $20 million to $50 million a year to operate and can generate returns on capital of up to 30 percent. Most such networks need to have at least 10 locations to benefit from scale in logistics, distribution, and centralized support functions, but the optimal size of a network is often a good deal larger because local markets (retail and industrial alike) tend to be under served. Most of the US companies we studied could actually support 40 service centers spread across as many as 25 or 30 of the country's metropolitan areas. With operating expenses as the main cost, it is possible to make the venture essentially self-funding: facilities can be rented on short-term leases, for example, and surrendered if the location isn't successful within a year or two.

The cost of goods and labor can be managed as volume grows. Companies should remember that a manufacturer's original warranty work usually accounts for about half of the labor expenses and for as much as 20 percent of the total value of services rendered, but these costs are typically charged back to the business unit rather than borne by the service center. As the volume and variety of network services increase, the proportion of warranty work shrinks. The keys to good performance Using stand-alone profitability as the yardstick, companies must judge their service centers as rigorously as they do core activities. Without profit-and-loss accountability at every location, managers might be inclined to overlook performance shortfalls that wouldn't be tolerated in a more disciplined business. Good performance depends on three basics: the choice of location and services, management and marketing, and the balance between centralized support and local autonomy.

Location and services The locations a company chooses and the types of services it provides should depend on its customers. When service networks get into trouble, it is usually because they have failed to understand their primary customer or to organize each site appropriately. In markets poorly served by local dealers or distributors, for instance, a center should gear itself to end users or consumers by choosing a high-traffic retail site. Profits at these locations are generated largely through the sale of accessories and optional services to walk-in or mail-order customers; outlets thus need appealing product displays or sales presentations.

In markets where dealer and distributor networks are strong, the role of the service center should be to help them serve their customers, by providing more complex service equipment and extensive parts inventories and by offering benefits such as expedited delivery. Centers of this type are likely to be located at more remote industrial parks. Sony operates 24 branded US service centers aimed exclusively at broadcast, recording, and technical professionals. Located in industrial parks, the centers provide parts and services for expensive cameras, monitors, mixers, and other equipment.

In addition, Sony operates a separate network of about ten 3 factory-controlled US centers, in retail or light-industrial locations, to service its consumer products. Although these facilities also handle complex repairs for Sony dealers and authorized service centers, walk-in and mail-order consumer business provides much of their sales. Power-tool companies, too, differentiate their centers by offering full-service locations to support dealers and distributors as well as smaller satellites to focus on retail sales and service. The similar economics of service centers vary only according to which customer segment is best served at a particular location Different kinds of service centers pursue different economic models. Although gross margins on sales to end users are higher, orders tend to be smaller. Locations that focus on distributors can achieve scale faster and be just as profitable.

The largely similar economics of service centers vary only according to which customer segment is best served at each location. Management and marketing techniques Running a profitable service network can involve a difficult adjustment for manufacturers, accustomed as they are to serving wholesalers or retailers rather than dealing directly with customers. The centers of one retail-focused service network, for example, kept no lists of customers, and each merchandised products in its own way-symptoms of a cost-center mentality that makes for a haphazard or nonexistent approach to marketing. Many of these facilities left products strewn around the floor, a laxness that spells trouble for any customer-facing business. Service centers focused on end users must become expert at managing the front end by learning how to attract customers and understand their needs, to price retail products and services, 4 and to merchandise products (using point-of-purchase displays, for example) -all standard practice for retail businesses. In addition, because customers already use the products of the companies behind these service centers, they are well placed to sell attachments and accessories.

An experienced retail manager is therefore a boon. Locations focusing on distributors, by contrast, must excel at managing the back end: forecasting and maintaining appropriate inventory levels, providing fast and low-cost shipping, and offering some services-same-day shipping of vital parts, for example-that go beyond those normally provided by a manufacturer's distribution network. Moreover, marketing remains important: though manufacturers might find it easier to concentrate on distributors than on end users, these centers still need to market their services so that each distributor knows exactly what is on offer. Balance central support and local autonomy Some companies encourage independent ownership of their service centers while maintaining an equity stake. Other companies run their own centers and tie management bonuses to profit and growth goals at each site.

Either way, some support functions, such as marketing, human resources, and information and financial systems, are best managed at the corporate level. (This approach is common in retail businesses, whose corporate offices often, for example, design marketing programs that are then adapted and executed locally.) Logistical support-including parts-distribution networks-should also be centralized. Financial goals and performance metrics should be set at the corporate level but take into account each location's customer base. Operational-effectiveness metrics, such as repairs per labor hour, can be combined with customer-focused metrics, such as average turnaround times and customer satisfaction scores. Likewise, standard retail metrics, such as sales per square foot, can be paired with the number of new customers identified each week. Because some branches or regions, if held to rigorous metrics, won't make the grade, companies should swiftly close or relocate poorly performing centers.

Again, a retail-operations model is helpful. While it is companies that provide the network infrastructure, they must also maintain an entrepreneurial environment in each branch so that managers are encouraged to develop new services, to attract customers, and to increase the quality of service. Develop service capabilities and market insights With the network in place, a company can start to identify and meet opportunities to offer new products and services. Using what we call a 'market-back' approach, its managers should evaluate the full slate of services that customers use and find ways to fill unmet needs. For example, the Cummins service center in De Pere, Wisconsin, realized that local business customers needed natural gas-powered generators as backup power sources for commercial and industrial properties. The center's employees, who had closer contact with end users than did the company's division-based salespeople, adapted a typical Cummins diesel-powered engine into a natural-gas one more quickly than employees of the corporate engineering or R&D units could have done.

Thus the center created what has become a small but profitable $10 million-plus business for the network, with Cummins supplying the base product and parts and the local centers adapting them. Without the market intelligence and initiative of the local service network, that opportunity would probably have passed undetected. Alternatively, managers can take what we call a 'capability-forward' approach, assessing the network's skills or assets and then scanning the market for ways to apply them. When appliance manufacturers began outsourcing their repair services to third parties, for example, General Electric took the opposite tack: the company's appliance unit used its vast service network to take on repairs of competitors' products. GE's Aircraft Engines Division adopted the same approach when it decided to undertake repairs of Allied Signal engines. Servicing competitors' products gave GE not only a profitable revenue stream but also a chance to observe the flaws and advantages of competing products.

The first steps Expanding a service network is akin to launching new ventures. A company must assign a senior executive to it, estimate the rise in revenue from ancillary products and services (aiming for at least a 50 percent increase over three years), and devise a plan for achieving this level of growth. Any activities, such as delivery and logistics, that are duplicated by existing business units should be allocated appropriately. Separation from the core business brings visibility, financial accountability, and management focus-but also resistance from certain quarters. Regional sales representatives who earn commissions on third-party distribution but not on service center sales, for example, are understandably wary of any expansion of the network, which could eat into product sales at existing outlets.

To win support for the centers in the field, especially among those who might otherwise foment opposition, companies can credit division-based sales representatives with the sales and profits generated by local service centers (albeit at lower commission levels, since such people generally play no active part in those sales). For purposes of internal performance management, a sale made at a service center can be credited back to a business unit regardless of who officially books the sale in financial reports. Service networks can afford to share the glory, since they open new markets and generate higher margins by selling directly to end users. Cooperation across units is also important. Expedients such as encouraging the sharing of customer complaints, scheduling regular calls between service center managers and product managers, and interviewing customers can all help to provide R&D and engineering groups with insights into the performance of a company's products. Many manufacturers are trying to move from the tight margins of their core product lines to the more attractive economics of service businesses.

Most of them face continual pressure to grow even when resources for doing so are limited. Factory service centers can contribute a great new stream of revenues and profits-and in the process capture valuable market insights. They are a ready-made source of growth if companies use them wisely. Managing channel conflict Conflicts with dealers and distributors can arise whenever a manufacturer sets up a direct channel to the market, but the risks are often overblown. 1 In regions where end users are well served by existing dealers, factory service centers can support rather than compete with them. The service network run by Cummins, for example, holds training classes for their mechanics, thereby helping them and opening another channel through which they can refer complex design and repair work to the manufacturer.

Centers can also supply products, parts, and accessories that a dealer might choose not to stock-and can usually deliver them more quickly than could a large centralized warehouse. Since the service center in effect acts as the warehouse for area distributors, it can charge a small premium for the service. Many dealers and distributors prefer such arrangements, which enable them to operate with low levels of inventory and to avoid tying up cash and floor space. In any region where third-party distributors do not perform well, manufacturers are certainly entitled to take matters into their own hands by focusing on end users directly. Even in this kind of competitive situation, however, a center can also serve local distributors and create benefits both for them and for itself. Each week, for example, the manager of one commercial-goods center faxes distributors a list of refurbished products that are available at a steep discount before making this information available to retail customers.

Such measures make it possible for the service center to thrive in a market that is quite under served by independent distributors. Offering new or differentiated services to under served customer segments or regions can also help company-owned centers expand. Mobile repair units, for instance, can go directly to customers-users of heavy equipment or commercial vehicles, say-who cannot easily visit a service center. And targeted low-cost services, such as blade sharpening for power tools, are capable of driving traffic and associated sales to the network.