Solution business models: Transformation along four continua

Industrial Marketing Management 42 (2013) 705–716

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Industrial Marketing Management

Solution business models: Transformation along four continua☆ Kaj Storbacka a,⁎, Charlotta Windahl a, 1, Suvi Nenonen b, 2, Anna Salonen c, 3 a b c

University of Auckland Business School, Department of Marketing, Private Bag 92019, Auckland, New Zealand Hanken School of Economics, Department of Marketing, University of Auckland Business School, Graduate School of Management, P.O. Box 479, FIN-00101 Helsinki, Finland Aalto University School of Business, Department of Information and Service Economy, P.O. Box 21210, FI-00076 Aalto, Finland

a r t i c l e

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Article history: Received 31 January 2012 Received in revised form 26 January 2013 Accepted 23 April 2013 Available online 2 June 2013 Keywords: Business model Solution business Transformation

a b s t r a c t Using a business model perspective, we identify four continua that are of specific relevance for industrial firms transforming toward solution business models: customer embeddedness, offering integratedness, operational adaptiveness, and organizational networkedness. Using these continua, we explore the opportunities and challenges related to solution business model development in two different business logics that are of particular importance in an industrial context: ‘installed-base’ (IB) and ‘input-to-process’ (I2P). The paper draws on eight independent research projects, spanning an eleven-year period, involving a total of 52 multinational enterprises. The findings show that the nature and importance of the continua differ between the I2P and IB business logics. IB firms can almost naturally transition toward solutions, usually through increasing customer embeddedness and offering integratedness, and then by addressing issues around the other continua. For I2P firms, the changes needed are less transitional. Rather, they have to completely change their mental models and address the development needs on all continua simultaneously. © 2013 Elsevier Inc. All rights reserved.

1. Introduction Servitize, move forward in the value chain, and transform your product business model into a solution business model! Industrial firms are urged to consider that “the product is dead” (Phillips, Ochs, & Schrock, 1999, p. 51) and they need to “manage the transition from products to services” (Oliva & Kallenberg, 2003, p.160), and “make solutions the answer” (Foote, Galbraith, Hope, & Miller, 2001, p.1), because “however difficult the transition, manufacturers can't afford to ignore the opportunities that lie downstream” (Wise & Baumgartner, 1999, p.141). When companies take so called ‘servitization’ (Vandermerwe & Rada, 1988) steps toward solutions, they concurrently change their earning logic, move their position in the value network, and need to use and develop capabilities in a different way — inherently making fundamental business model changes. Nevertheless, though many scholars implicitly encourage a change of business models, few explicitly address challenges in developing and implementing solution business models (Baines, Lightfoot, Benedettini, & Kay, 2009).

☆ 4th and Final Submission to Industrial Marketing Management Special Issue: Business models — exploring value drivers and the role of marketing. ⁎ Corresponding author. Tel.: +64 99237213. E-mail addresses: [email protected] (K. Storbacka), [email protected] (C. Windahl), suvi.nenonen@hanken.fi (S. Nenonen), anna.salonen@aalto.fi (A. Salonen). 1 Tel.: +64 99236301. 2 Tel.: +358 505626028. 3 Tel.: +358 403538338. 0019-8501/$ – see front matter © 2013 Elsevier Inc. All rights reserved. http://dx.doi.org/10.1016/j.indmarman.2013.05.008

In this paper, we argue that using a business model lens when analyzing solution business is important for two reasons. First, it highlights the challenges associated with the transformation toward solution business model (c.f. Demil & Lecocq, 2010). Few firms actually make a complete transformation from a product business to a solution business — they have part of their activities focused on solution business, whilst building on their existing product business. Many of them will end up having parallel business models (Markides & Charitou, 2004). This implies that solution business models are not static and that the transformation needs to be seen in terms of degrees of change. Even though previous research highlights the importance of developing new solution business models (c.f., Storbacka, 2011), there is lack of research related to the transformational needs in various business model dimensions (Kapletia & Probert, 2010). Second, a business model approach facilitates a comparison across different business contexts. This is relevant as solution business is predisposed by particular industry conditions (Pisano, 2006; Storbacka, 2011), commonly accepted dominant designs (Baldwin & Clark, 2006; Srinivasan, Lilien, & Rangaswamy, 2006), or industry recipes (Spender, 1989). There are, however, few specific guidelines and tools for developing solution business in different industrial or business contexts (Baines et al., 2009). Rather, existing research tends to treat solution providers as a homogenous group, which has led to calls for further research that go beyond recommending broad reaching solution strategies and capabilities for solution suppliers (Kapletia & Probert, 2010). This paper addresses the above identified gaps by focusing on the following two research questions: (1) how do business models need to change when firms transform toward solution business, and (2) how do the opportunities and challenges for implementing

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solution business models differ between industrial contexts? More specifically, the paper focuses on the two generic business logics (Nenonen & Storbacka, 2010) of particular importance in a business-to-business, industrial context: ‘installed-base’ (IB) and ‘input-to-process’ (I2P). Firms operating with IB logic provide investment goods, thus creating an installed base at the customers. IB logic is common among firms representing machinery and equipment industries. The I2P logic is relevant for firms that provide goods that are utilized as inputs in the customers' process. The good is transformed during the customer's process in such a way that it ceases to exist as a separate entity. I2P firms are found in industries such as metal, pulp and paper, and utilities. We address the two research questions with an abductive research process, drawing simultaneously on the emerging body of business model research, on literature in the solution business area, as well as on empirical research. 2. A synthetizing research process This paper draws on data collected from eight independent research projects spanning an eleven-year period (2001–2011) and involving a total of 52 multinational enterprises from various industries. Most of the firms are headquartered in Finland, the Netherlands, or Sweden. The industries represented include adhesion and surfacing solutions, cargo handling systems, chemicals, construction, compressors, construction materials, copper tubes, elevator and escalators, energy, digital printing, electronic manufacturing services, fluid handling and separation, forklift trucks, industrial machinery, information technology services, metals, mining and construction equipment, mobile software solutions, network infrastructure, oil refining, pumps, pulp and paper, real estate, shipbuilding, and telecommunications. Six of the research projects were consortium-based, i.e., they involved groups of seven to twelve firms in a six to nine month process, where the focus was on investigating various aspects of solution business models: e.g., business model innovation, solution sales, industrialization of solutions, and growth through solution business. Two of the research projects focused on a limited number of firms and on longitudinal aspects of solution transformation. Altogether, the projects included 216 in-depth interviews, and 15 one-day workshops within the consortia groups. The workshops involved a total of 151 managers with an extensive experience of, and interest in solution business. Synthesizing the findings from these projects provides opportunities to better understand the complex phenomenon of solution business model development as applied across different empirical contexts. Detailed methodologies of the individual research projects have been reported in nine previously published studies (Salonen, 2011; Salonen, Gabrielsson, & Al-Obaidi, 2006; Storbacka, 2011; Storbacka & Nenonen, 2009; Storbacka, Polsa, & Sääksjärvi, 2011; Storbacka, Ryals, Davies, & Nenonen, 2009; Windahl, 2007; Windahl & Lakemond, 2006, 2010). Thus, we do not discuss them in detail in this paper, but rather provide an overview of how the empirical data was synthetized in the process leading to this paper. The synthesizing research process focused on interpretation and reflection rather than on the collection and processing of data (Alvesson & Skoldberg, 2005). The nature of the research process was abductive, combining induction and deduction (Locke, 2010). Thus, it can be characterized as a non-linear, non-sequential, iterative process of systematic and constant movement between the empirical data, the model and the literature, during which the analytical frameworks were reoriented as directed by empirical findings (Dubois & Gadde, 2002). In a reflective process such as this, the aim is to combine elements in order to establish emergent patterns, and refine the constructs used to portray reality (Eisenhardt, 1989). The process of synthetizing was governed by a set of principles that the researchers adhered to using criteria from interpretive research and

grounded theory (see also Flint, Woodruff, & Fisher Gardial, 2002). Drawing on Lincoln and Guba (1985), Miles and Huberman (1994), Spiggle (1994), Strauss and Corbin (1990), and Wallendorf and Belk (1989), conformability, integrity, pre-understanding and dependability were defined as the main governing principles. In order to reduce researcher bias (conformability or objectivity) and ensure that the results are acceptable representation of the data (integrity or authenticity), the research process was based on a three-stage series of interactions between the researchers. The first stage focused on articulating the researchers' preunderstanding (Normann, 1977) built on the previous research reports and the fact that all researchers have had a long term (5–15 years) research interest in the solution business area. Additionally, two of the researchers also have 10+ years of experience from consulting in this area. This confirmed that there are differences between diverse business logics, and identified that the business model transformations, which firms moving into solutions were engaging in, could be analyzed using four continua. During the second stage the researchers substantiated and described business model transformations using the four continua as a lens. In order to secure dependability, reliability, or auditability, the research process utilized triangulation (Creswell & Miller, 2000; Denzin, 1978; Stake, 1995). Triangulation was a natural starting point as none of the researchers had participated in all the nine research projects. Furthermore, the four researchers had not worked in a joint research process before. Three forms of triangulation were used: (1) data triangulation (the empirical data in the underlying studies was collected through several sampling strategies, data was collected at different times and social situations, as well as on a variety of firms and contexts), (2) methodological triangulation (more than one method was used for gathering data: interviews, interactive workshops with practitioners, and observations), and (3) investigator triangulation (more than one researcher interpreted the data). As a result the process produced consistency of explanations between researchers and research contexts. During the third stage the focus was on synthetizing and validating the findings, a process that continued throughout the writing of the paper. This was done by a continued interaction between the empirical data and literature. In doing so it was noted that more literature support could be found for the business model continua, whereas the business logics characteristics pre-dominantly emerged from the empirical material. During the entire process all researchers were active participants and knowledge was constructed collaboratively as interpretations were altered, expanded and refined. Due to the unusually large amount of data and the explicit aim to synthesize, we do not report findings for individual case firms, nor do we report intermediary results or direct quotes by the firm representatives. Instead, our narrative focuses on important similarities within and differences across the empirical contexts. 3. Transforming toward solution business models along four continua In this section we propose that a deeper understanding of the preconditions to success in solution business can be gained by using a business model lens. We address our first research question (“how do business models need to change when firms transform toward solution business”), by identifying four generic business model continua that can be used to describe the transformation toward solution business models. 3.1. Applying a business model lens on solution business Given the wide range of solution literature streams (Baines et al., 2009; Fisher, Gebauer, & Fleish, 2012; Lay, Schroeter, & Biege, 2009; Windahl & Lakemond, 2010), it becomes difficult to arrive at a fixed definition for the term solution (Evanschitzky, von Wangenheim, & Woisetschläger, 2011). The definitions that do exist vary depending

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on the scope of the offering, the type of elements integrated, or the type of industries studied. In this paper, we apply a process-oriented view whereby solutions are defined as longitudinal, relational processes that comprise the joint identification and definition of value creation opportunities, the integration and customization of solution elements, the deployment of these elements into the customer's process, and various forms of customer support during the delivery of the solution (Storbacka, 2011; Tuli, Kohli, & Bharadwaj, 2007). This process-oriented definition implies that firms can develop a range of different types of solutions, and that firms selling and delivering solutions will need to change many aspects of their business model simultaneously. Consequently, this definition has links to business model literature. First, it suggests that a transformational and dynamic view on solution business models is needed (c.f. Demil & Lecocq, 2010; Winter & Szulanski, 2001). We argue that it is less important to identify the static elements of a business model — focus should be on the dynamics of how firms develop their business models. Second, it emphasizes the value creation taking place for the customer and the supplier. Nenonen and Storbacka (2010) found that ‘value creation to customers’ and ‘value capture for the firm’ are the two most common elements in existing business model definitions. Furthermore, the business model concept is argued to be externally oriented and depicts the relationships that firms have with a variety of actors in their value networks, thus capturing the change toward networked value creation (Teece, 2010; Zott & Amit, 2008). Drawing on Mason and Spring (2011), Storbacka, Frow, Nenonen, and Payne (2012), and Zott and Amit (2010), we use customers, offerings, operations, and organization as generic continua along which business model transformation materializes. Reconciling literature proposing that business models are systemic configurations by nature (Teece, 2010; Tikkanen, Lamberg, Parvinen, & Kallunki, 2005) and literature emphasizing the transformational and dynamic nature of business models (Demil & Lecocq, 2010; Winter & Szulanski, 2001), we propose that firms that engage in solution business over time need to change their business models in all these four continua, by taking various forms of development steps that are likely to be interdependent. First, firms aim at customer embeddedness: they target selected customers and become embedded in their situations and processes in order to support the customers in their value creating process (Payne, Storbacka, & Frow, 2008). Second, firms increase their offering integratedness: they integrate technical, business, and system elements, and as a result, aim at changing their earning logic to increase value capture. Third, firms focus on operational adaptiveness: in order to flexibly and cost-effectively adapt to the customers' processes, firms need to apply modular thinking in their operational processes. Finally, firms aim at organizational networkedness: firms orchestrate a network of actors that provide solution elements to selected customers, thereby influencing value creating opportunities in the larger network. In the following sections we discuss the solution business model transformation along the identified continua. The identified solution business model transformation continua are illustrated in Fig. 1. 3.2. Customer embeddedness The customer embeddedness continuum refers to a key result of providing solutions, i.e., that the relationships with customers become relational and long term (Spring & Araujo, 2009; Vargo & Lusch, 2008). The solution is developed, sold and delivered through a long-term process with the customer rather than to the customers, i.e., value creation has to be understood through the eyes of the customers (Brady, Davies, & Gann, 2005; Davies, 2004). Increasing degrees of embeddedness has profound impacts on the capabilities required, in terms of engagement processes, the ability to deliver the agreed performance longitudinally, and measurements used to measure success (Brady et al., 2005; Day, 2011; Storbacka, 2011).

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Fig. 1. Solution business model continua.

It has, however, been shown that not all customers are willing to accept this transformation toward increased embeddedness and a different view on value creation (Kowalkowski, 2011), and focusing efforts on such customers may not be efficient. Hence, the firm has to define focus markets, segments, and customers for the solution business, and develop segment specific strategies, including business goals (Cornet et al., 2000; Foote et al., 2001; Miller, Hope, Eisenstat, Foote, & Galbraith, 2002). To achieve increased embeddedness, firms need to be able to make segment and customer specific value propositions (Anderson & Narus, 1991), which are unique and linked to critical business concerns of the customers. Some authors argue that it is important to target the customers' non-core activities as this will facilitate their focus on more promising business activities (Ehret & Wirtz, 2010). In contrast, getting paid for the new value created may be difficult if the solution does not target customers' core activities, as the value of non-core activities is likely to be less appreciated. Ideally, a solution provider needs to create new capabilities to cover a more strategically focused agenda, e.g., by applying a strategic account management program. It becomes important to both identify business issues of concern to the customer's top management that are too complex for the customer firm to address, and show tangible business results (Lay, Hewlin, & Moore, 2009; Shepherd & Ahmed, 2000). 3.3. Offering integratedness The offering integratedness continuum refers to the integration of offering components, i.e., that a customer cannot unbundle the solution and buy the elements separately (Johansson, Krishnamurthy, & Schlissberg, 2003). Solutions are often discussed as integrated systems of several inter-dependent goods, service, systems, and knowledge elements creating value beyond the sum of its parts (Johansson et al., 2003; Roegner, Seifert, & Swinford, 2001). When a firm increases the level of integration and customization, it ultimately assumes the role of a performance provider whereby it manages the customer's technical operations and long-term system optimization (Helander & Möller, 2007). This position requires deep knowledge of the customer's industrial processes and typically involves creating new value propositions and pricing mechanisms based on performance improvement (Stremersch, Wuyts, & Frambach, 2001). The earning logic changes from discrete cash flows (from selling products and/or services on a transactional basis) toward continuous cash flows (toward selling longitudinal, relational solutions). The offering dimension is the most (implicitly) discussed business model dimension in the solution literature. Different authors and research streams emphasize different integration and transition paths (Baines et al., 2009; Matthyssens & Vandenbempt, 2008; Tukker & Tischner, 2006). For example, authors focused on system integration often emphasize turnkey solutions (e.g., Davies, 2004; Davies, Brady, & Hobday, 2006); whereas authors discussing so called service

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transition strategies (Fang, Palmatier, & Steenkamp, 2008) often emphasize increasingly advanced support services (e.g., Oliva & Kallenberg, 2003). However, as stated in the introduction, with some exceptions (see e.g., Matthyssens & Vandenbempt, 2008), few authors discuss how the opportunities and challenges of integration differ across contexts or business logics. In addition, as many firms make a slow transition toward having only a certain part of their activities focus on solution business, the question of what level of integratedness to aim for becomes crucial. 3.4. Operational adaptiveness The operational adaptiveness continuum refers to the need to adapt solutions (from development throughout delivery) to the customer's situation and processes. The ability to create customer specific solutions requires an approach based on modular thinking (Baldwin & Clark, 2000; Yigit & Allahverdi, 2003), which influences both market facing and operational processes (Meier, Roy, & Seliger, 2010). Firms need to be able to respond to changing requirements rapidly, and at the same time secure scalability and repeatability of solutions (Salonen, 2011; Storbacka, 2011). To support modularity, it becomes necessary to develop effective information and knowledge management practices (Arnett & Badrinarayanan, 2005; Johnstone, Dainty, & Wilkinson, 2009; Leigh & Marshall, 2001; Pawar, Beltagui, & Riedel, 2009). For instance, standardized solution modules can be digitalized into the firm's enterprise resource planning (ERP), or product data management (PDM) system (Storbacka, 2011). To link customer specific value propositions to efficient delivery, firms usually have configuration tools (Meier et al., 2010) that help them to configure relevant customer specific solutions. These tools can be used by customer facing units in order to mix and match solution modules into combinations suitable for the customers' situations (Davies et al., 2006). Solution configurators are a key for the economies of repetition (Davies & Brady, 2000) as they enable flexible configuration of customer solutions and simultaneously secure efficient delivery. In order to excel in solution business and achieve economic viability, it becomes important to balance the activity of integrating components and tailoring solutions to specific customers with the need to create repeatable solutions (Foote et al., 2001; Shepherd & Ahmed, 2000), which requires investments into new organizational capabilities (Storbacka, 2011). 3.5. Organizational networkedness Progress along the organizational networkedness continuum implies that actors within the solution business network become increasingly dependent on each other's processes and activities, which requires process harmonization across and within organizational boundaries (Brady et al., 2005; Oliva & Kallenberg, 2003). When it comes to managing internal challenges, the literature suggests different approaches. Some authors emphasize the need for separation, others the need for interaction and integration. In order to develop new capabilities and enable experimentation with solution activities, organizational separation might be needed; for example through separating the service department (Oliva & Kallenberg, 2003), or through managing project-based solution initiatives in a separate unit (Davies & Brady, 2000). However, in order to sustain and create repeatable solutions, there is a need to create mechanisms for interaction and integration between different organizational parts of the company (Gann & Salter, 2000; Storbacka, 2011). Solution business needs input across departmental units, such as research and development, service and operations. The front-end's pull for customization needs to be balanced with the back-end's push for standardization (Davies et al., 2006; Galbraith, 2002a).

When it comes to external challenges, firms need to recognize the importance of cooperation with partners and suppliers. A firm that develops its solution business based on a genuinely customer oriented viewpoint will end up redefining itself from a producer to a provider; i.e., a provider does not produce everything that it provides. A solution delivery should not be seen only as a dyadic exchange between provider and customer, but rather as a collaborative effort among several actors in a value network (Davies, 2004; Davies, Brady, & Hobday, 2007; Ivens, Pardo, Salle, & Cova, 2009; Ulaga & Eggert, 2006; Windahl & Lakemond, 2006). This external network contributes to the range of capabilities and good elements that can be integrated to create value for customers (Galbraith, 2002b). 3.6. Creating configurational fit between the continua The above discussion draws attention to a number of considerations for firms moving toward solution business. It illustrates that solution business models are not static, nor is the transformation complete. It is more a question of degrees of change taking place along the four interrelated continua. This fits well with the transformational approach to business models (Demil & Lecocq, 2010) which suggests that the business model concept can be especially useful in addressing change. Building on this, we propose that the identified continua represent the overriding change directions that firms move along when they develop their solution business. There are various degrees of change that firms can choose to take, and by combining different degrees of change on the different continua, firms will end up with different solution business models. Even though different firms make diverse decisions on how far to progress on each solution business model continua, the continua are interrelated and interdependent (as illustrated in Fig. 2). Therefore, the development steps taken along one continuum may necessitate a change in the other continua as well. For example, the level of offering integratedness will affect the possibilities for co-creation of value with the customers (i.e., customer embeddedness), the need for partnering with actors in the business network (i.e., organizational networkedness), and the opportunities for customization, modularity and repeatability (i.e., operational adaptiveness). This fits well with the argument that business models are systemic configurations by nature (Teece, 2010; Tikkanen et al., 2005) and with Miller's (1996, p. 509) argument that configurations “can be defined as the degree to which an organization's elements are orchestrated and connected by a single theme” (such as solution business). A key objective of configurations is to create harmony, consonance, or fit between the elements (Meyer, Tsui, & Hinings, 1993; Miller, 1996; Normann, 2001). Thus, it can be said that effective solution business

Fig. 2. Solution business model continua are interrelated and interconnected.

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models are characterized by configurational fit between elements on the continua, which implies a need for several iterations until a sufficient degree of fit has been achieved. Configurations are characterized by equifinality (Doty, Glick, & Huber, 1993), indicating that several configurations may be equally effective, as long as there is a high degree of configurational fit. This implies that several solution business model designs can create equally good end results (in terms of value creation) — as long as the business model fits the actor and its context. Consequently, we argue that it is especially important for firms to understand the context in which the solution business model is to be implemented. 4. Solution business models in different business logics In this section we address our second research question: how the opportunities and challenges for implementing solution business models differ between industrial contexts. During the research process, as the empirical data was revisited and interpretations were altered and refined, it became evident that firms operating in certain industries shared common challenges. As a result, we adopted Nenonen and Storbacka's (2010) suggestion that business-to-business firms apply generic business logics (c.f., Hagel & Singer, 1999; Johnson, 2010). They identify five business logics: installed-base (investment goods creating an installed base), input-to-process (goods that are utilized as input in the customers' process), continuous relationships (services characterized by long-term contracts); consumer-brands (products for the consumer market that are sold through a channel); and situational services (project-based services, which fulfill customers' situation-driven needs). In this paper we chose to focus on comparing firms that operate with an installed-base (IB) or an input-to-process (I2P) business logic. This choice was guided by three considerations. First, based on an initial grouping of the case firms, we concluded that the empirical material was over-represented in the first two logics. As the samples of firms were not originally collected in order to enable comparisons across business logics, this over-representation may be a result of a number of issues: industry structures in the countries covered, issues related to the researchers' access to case firms, various firms' interest levels in the issues discussed in the research processes (business model innovation, solution sales, industrialization of solutions, and growth through solution business), and the pre-dominance of these business logics in an industrial manufacturing business-to-business context. Second, as our aim was to illustrate differences between

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industrial contexts, using the four identified continua as a lens, we concluded that using the depth of data that we had accumulated for the IB and I2P business logics was more important than a more shallow analysis of all the business logics. Finally, as we cross-checked our data it seems reasonable to assume that the identified continua are relevant also in other business logics, which highlights an important avenue for further research. For an overview of the generic characteristics of, and the differences between the IB and I2P business logics, please refer to Appendix 1. Building on these characteristics we were able to better compare and contrast issues related to the development of solution business and identify how the logics both support and impede the transformation toward solution business models. There are two major observations that arise from our research with regards to differences in solution business models between IB and I2P business logics respectively: IB firms can make a gradual transition toward solutions; whereas for I2P firms, the transformations are less transitional and the firms need to address challenges connected to taking major steps toward solutions. These observations are discussed sequentially in Sections 4.1 and 4.2. The findings are based on the synthesis from the extensive data collected as described above and are, within each section, reported separately for each of the four identified continua. Table 1 below summarizes some of the main points in the following discussion. 4.1. IB firms can make gradual transitions toward solutions Firms operating with an IB logic provide investment goods and related services, creating an installed base at the customers. IB businesses are often characterized by project sales and many IB firms are faced with long sale cycles. Additionally, the markets for investment goods such as large-scale engines, paper mills, or IT systems are often truly global. At present many IB firms experience competitive challenges related to growing industry maturity and intensified competition, resulting in slow growth and declining margins. On the other hand, information technologies offer new opportunities in terms of remote monitoring and control of equipment. Therefore, motivated by achieving higher margins and continuous cash flows, many IB firms are taking steps toward solution business models and building after-sale activities based on their installed base, aiming at exploiting product lifecycles. The more advanced solution business models are often designed around performance contracts, e.g. when the IB firm assumes responsibility for

Table 1 Overview of the solution business model transformation for IB and I2P firms. Installed-base (IB) “Gradual transition toward solutions is possible”

Input-to-process (I2P) “Transformation to solution business requires a major conscious step”

Customer embeddedness

Increasing embeddedness by combining the capex side's innate strategic importance at the customer with the opex side's natural longitudinal cooperation.

Main way to increase embeddedness is to leverage technical expertise and in-depth process understanding.

Offering integratedness

Various opportunities to increase integratedness starting by adding opex services to capex projects, and ending up in providing performance contracts that integrate capex and opex businesses.

Two distinct alternatives to increase integratedness: (1) optimizing the use of the supplier's goods in the customer's process, and (2) optimizing the customer's entire process.

Operational adaptiveness

Increasing adaptiveness through modular offering structure in order to ensure repeatability and to overcome organizational distance of sales and production.

The asset heavy production and the need for economies of scale limit the technically nearly limitless adaptation possibilities; price increases used to make the adaptiveness economically feasible for the provider.

Organizational networkedness

Internal organizational networkedness often increased by setting up separate smaller ‘solution units’, external organizational networkedness improved through harmonized processes with the suppliers.

Internal organizational networkedness limited by regional decentralized organizational structures, the level of required external networkedness depends on chosen level of offering integratedness (optimizing the use of supplier's goods requires little close cooperation with other business partners, whereas optimizing the customer's process may necessitate closer business partnerships).

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the performance of certain operations related to a customer's business processes, and they are compensated based on system performance, using metrics such as return on investment, process efficiency, and consistency. Two different types of businesses characterize the activities within IB firms: the capex business (capital expenditure, as when customers invest in new plants, heavy machinery or information technology systems) and the opex business (operational expenditure, such as services, maintenance and repair related to the capex investments done). Consequently, this division of capex and opex activities influences the possibilities and opportunities for embeddedness, integratedness, adaptiveness, and networkedness. 4.1.1. Customer embeddedness in customers' core vs. non-core processes Many IB firms have (even before thinking about providing solutions) established long term relationships with customers. An increased focus on total cost of ownership and a lifecycle view of the equipment increase the opportunities for higher embeddedness in the opex side of the business. However, the transition toward solutions changes the relationships with the existing customers from reactive services (focused on repairs and maintenance) to more proactive service solution contracts (focused on optimization of customers' processes). Our research shows that most IB firms have, however, realized that all customers are not interested in solutions. Despite the possibilities to shift from reactive to proactive relationships, it does not necessarily imply a shift in how strategic the relationship is viewed to be by the customer — or even by the supplier itself. If the IB firm gets embedded in the customers' core processes, then the firm is almost certainly viewed as a strategic partner with access to high-level decision-makers of the customer. On the other hand, if the firm increases its embeddedness in customers' non-core processes, it is likely that the firm is not viewed as a strategic solution provider. Additionally, it seems that embeddedness in the opex business (non-core or core processes) does not necessarily ensure solution business opportunities in the capex side of the business. Consequently, a key issue for IB firms is to define focus segments and customers for the solution business, and develop segment and customer specific value propositions. According to our research, the capex offerings are often strategically important for the customers and therefore involve high-level decision makers from different functions. Consequently, the capex business is characterized by large separate transactions with limited natural opportunities for longitudinal cooperation between the IB firm and its customers. Thus, if the IB firm is seeking to initiate solution business from the capex side of the business, the embeddedness has to be ensured with a comprehensive strategic account management program or similar. The goal of such program is to secure long-term relationships and a move toward more continuous cash flows, e.g., by introducing the opex side business to complement the capex business, or to bundle capex and opex businesses into performance contracts. 4.1.2. Offering integratedness and the capex and opex conflict Our research identified two particularly interesting challenges related to offering integratedness in IB firms: unbundleability and the integration of capex and opex. Whereas IB firms want to create integrated solutions, customers have a tendency to want to unbundle them. The unbundleability of the offering components varies in capex and opex sides of the IB business. Even though it is technically possible to unbundle the core capex product, very few customers are interested in that, as this would require them to acquire the needed assembly capabilities and resources. However, it is quite possible to unbundle many of the opex services. In many cases other actors than the original equipment manufacturer can perform the repair and maintenance services. The offerings become better protected against customer-driven unbundling as the business

model moves toward performance contracts. In performance contracts the customer usually signs an agreement with a single provider. The integration of capex and opex businesses is not easy as both sides have different starting points. The installed based created by the capex projects is a natural place for the opex side to start providing repair and maintenance services. As IB firms gain more experience, they often expand their repair and maintenance services to also cover the equipment manufactured by other actors. A long track record in successful opex business, especially monitoring and control services, creates a natural platform for entering solutions. These ‘opex’ solutions typically relate to running the existing capital equipment more efficiently over their lifecycle, but do not necessary involve any new capex components. Selling fully-fledged performance contracts, however, usually requires a high level of integration between the capex and opex businesses. The capex business has contacts to important powerful decision makers at the customer side, whereas the opex side has long-term operational relationships. Together this embeddedness creates the platform for integrated solutions that can dramatically improve value creation both for the customer and the supplier firm. Even though most firms realize this, many firms tend to ‘get stuck’ on the opex side. It seems that creating the capex/opex integration is the key to successful transformation toward a solution business model. Among the investigated firms, those that do succeed in integrating the capex and opex sides usually take deliberate strategic decisions to move toward solutions. Rather than continuing the relatively natural transition from repairs to maintenance toward performance contracts, by ‘just’ adding on different services, these firms invest in creating integrated solutions and enable capex sales to focus on selling solutions that also cover the opex side.

4.1.3. Operational adaptiveness through modular configurations Increasing operational adaptiveness poses considerable demands for frictionless cooperation between the firm's sales, production, and service operations. On the capex side of the IB businesses, the innate adaptiveness to the customer situation varies considerably based on the nature of the core product. In more simple installed base equipment (e.g., elevators for low-rise residential buildings), the opportunities for product tailoring are relatively low and the ability to customize the offering based on customer needs is further lessened by the prevailing product-oriented sales processes. On the other hand, in the case of very complex and unique equipment (e.g., cruise liners), the product is always tailored to meet the customer-specific needs from the very beginning and the consultative sale processes associated with such products are designed to support this consultative and adaptive approach. On the opex side of the IB business, the opportunities to adapt the offering (i.e., repair, maintenance and process optimization) are in theory almost limitless, but in reality optimal adaptiveness is not reached because of the separation of capex and opex sale processes, as well as the separated capex and opex purchasing processes of customers; both separations seem to be very common in an IB context. This leads to a situation where the capex sale personnel may have limited knowledge of the possibilities to adapt the firm's service offering and the customer's need for adaptation. As IB firms move toward solution business models and seek to increase their adaptiveness in an economically feasible way, they seem to adopt a modular offering structure and an information technology based offering configuration tools. These two aides help to overcome the drift between the organizationally separate sales and production: (1) by showing the sale persons the full range of options available, and (2) by intentionally guiding the combination of the modular options into solutions that simultaneously create value for the customer as well as being technically and economically feasible for the supplier.

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4.1.4. Organizational networkedness and increased process harmonization In terms of organizational networkedness, the division into opex and capex seems to create challenges for IB firms. In IB firms, capex sales are usually geographically dispersed and separated from production, and sale personnel in IB firms do not often possess experience from the operational processes. Production and/or assembly are relatively centralized, with a limited number of production and/ or assembly locations serving large geographical areas. The service operations (e.g., repair and maintenance), on the other hand, are typically organized locally, and many opex sale people have an operational background. Many of the investigated IB firms operate within a business network that is characterized by a multitude of reciprocal and relationally oriented business relationships: the number of suppliers and other business partners is high, and the objective is to create relatively long-term and trusting relationships between the IB firm and its partners. Additionally, it is not uncommon that process and offering harmonization reaches levels in which the IB firm has integrated its enterprise resource planning system with its suppliers' systems, enabling real-time optimization of the entire business system. The relatively centralized organizational structure favored by many IB firms supports the creation of supplier management programs, which further support the level of networkedness needed for solution business models. Internally, the capex and opex separation affects the challenges related to this continuum. For example, research and development are usually focused on technical development of the capex side of the business, with little knowledge about how to link technical opportunities to solution value propositions. As we have seen in the other continua, the internal networkedness (integrating capex and opex activities) becomes crucial if the firm is to deliver a solution. Many IB firms therefore create smaller ‘solution units’ in order to be able to increase the internal networkedness and to experiment with different types of solutions.

with long-standing contracts and regular contacts on the operational level, the customer relationships tend to be strongly driven by price. Therefore, there are some considerable challenges associated with increasing the embeddedness and becoming intimately involved in the customers' core processes when designing solution business models. First, the relationships are usually based on technical and operational knowledge rather than knowledge about customers' business drivers. Second, the I2P firms often produce goods that are used in customers' non-core processes (e.g., magazine publishers consider content creation, not printing the paper provided by the paper supplier, as their core process; electricity provided by a utility company is their only link to the core processes of customers operating energy-intensive production). Third, many I2P firms lack direct contact with the end customer since their products are purchased and delivered to the end customer by a specialized middle-man (e.g., paper merchants). Despite these challenges, our research shows that opportunities exist for I2P firms to increase customer embeddedness with selected segments and customers. As many I2P firms' products are intrinsically integrated into the customers' process (core or non-core), opportunities exist to use their technical expertise and in-depth process understanding to create solutions improving the resource efficiency of specific customer processes. Additionally, many customers' lack of technical and operational expertise related to their non-core processes open opportunities to I2P firms for business process outsourcing solutions. Similar to the IB firms, a well-functioning strategic account management program is usually a pre-requisite for increasing embeddedness. However, whereas IB firms (especially on the capex side) use account management to introduce long-term cooperation to their customer relationships, the main objective of account management among I2P firms is to gain access to the strategic decision-makers at the customer and to generate more insight on customers' business drivers. Based on this, decisions can be made whether to target customers' core and/or non-core processes. This will in turn lead to an understanding of the degrees of integratedness necessary for success.

4.2. Input-to-process firms need major steps toward solution business

4.2.2. Offering integratedness needs major steps The unbundleability of the offering components does not seem to be a major problem for the I2P firms. First, the core product of the I2P firms (paper, chemical, electricity) is such that it is technically not feasible to unbundle the product. The technical services related to the use of the core product are also usually purchased from the producer of the core product, as the relevance of the technical expertise is highly dependent on the fact that the service personnel knows the composition of the product in detail and has authority to discuss changes in the composition with the heads of the production. Similar to the IB performance contracts, in process optimization or outsourcing, the customer is usually not that interested to unbundle the offering as it would work against the overall value proposition of such a solution. For the I2P firms, the process of integrating more components to the solution seems less straightforward (and less transitional) than for the IB firms. Essentially, the only way to differentiate commodities is to look at the processes related to providing and using them. There seems to be two approaches for I2P firms to help running their customers' processes more effectively: (1) optimizing the use of the supplier's goods in the customer's process, and (2) optimizing the customer's process. The first avenue is more common and is usually done by integrating service elements to the overall offering (e.g., ensuring the right chemicals dosing at the customer plant — a practice that typically is called ‘technical service’). There is, however, no natural transition from the first type of offering integratedness (i.e., optimizing the use of the good) to the second (i.e., optimizing customer's process). At the moment, there are relatively few examples of I2P firms taking over customers' processes and many firms are hesitant to take such a step. This hesitancy is most often explained by the following factors: (1) the current low-margin business does not allow suppliers to take on the risk exposures often associated with process outsourcing, (2) there is a

The I2P logic is relevant for firms providing goods that are utilized as input in their customers' processes. The good is consumed or transformed during the customer's process in such a way that it ceases to exist as a separate entity and no installed base is created. Producing goods such as steel, paper, or electricity requires major investments into production facilities. Therefore, I2P firms often have considerable assets in their balance sheets. Additionally, I2P firms often have limited opportunities for offering differentiation, leading to slim margins. In order to tackle the challenges of asset-heavy production and small margins, many I2P firms aim for strategies enabling them to secure economies of scale and optimize their production capacity. I2P firms tend to strive toward solution business models in which their customers outsource their operations. An example of such solution business model can be found in the chemical business where solution providers offer chemical management processes for customers, including inventory monitoring, re-ordering, and on-site distribution management. For I2P firms, the long-term contracts and the input-to-production-process nature of their offering create almost continuous cash flows from the current customers. Therefore, the transition toward solution business among I2P firms is not so much motivated by the need to transform discrete cash flows into continuous (as was the case for IB firms), but by the need to differentiate from competition and to ensure sufficient margins. 4.2.1. Customer embeddedness: From arm's length to embedded relationships I2P firms have traditionally been suppliers of commodities. Even though the I2P firms tend to have very long-term customer relationships

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lack of suitable resources and capabilities to manage the customer's process with sufficient effectiveness (specifically to integrate the expertise of other suppliers), and (3) the limited contacts outside purchasing and operations that often characterize I2P firms' customer relationships may make the customers hesitant to make strategically important decisions about outsourcing process management to the I2P firms.

4.2.3. Operational adaptiveness difficult due to asset heavy production I2P firms often have asset heavy production facilities (e.g., paper machine, refinery, chemical plant, furnace, nuclear power plant, utility infrastructure), which are designed to achieve economies of scale. The good itself is standardized to enable long production runs, thus creating inbuilt flexibility challenges. Due to logistical challenges, production facilities are usually organized on a regional basis. Technical service is typically located in connection with customer plants/factories. Sales tends to have stronger links to production than in IB firms; actually, it is quite common to find I2P firms in which the sale personnel report directly to the production facility head and are responsible for ‘filling the facility's capacity’. In most cases, the core products of I2P firms offer technically limitless adaptation possibilities to the customer situations and processes: paper can be produced in any thickness and width, and chemicals can be manufactured in a multitude of concentration levels. However, customizations are often deemed as economically unfeasible for the provider. Therefore, the mindset of I2P sale personnel is more guided by economies of scale — thus challenging considerably the possibilities to achieve high degrees of adaptiveness. Due to the flexible nature of their core products, I2P firms do not usually seek to determine a modular offering structure when moving toward a solution business model. Instead, the I2P firms tend to favor creating guidelines that help the sale persons to increase adaptiveness without compromising economies of scale. Pricing differentiation is given a considerable emphasis in these guidelines: even though some adaptations such as very special paper coating or 24/7 stock availability are technically possible, they imply negative impacts on the economies of scale — which have to be covered by a price increase for the customer.

4.2.4. Organizational networkedness restricted by regional structure The business networks of many I2P firms are characterized by market driven business relationships. The number of suppliers and other business partners may be high, but the relationships revolve mostly around price and much of the raw materials are purchased through auctions or other market mechanisms. The regional and relatively de-centralized organizational structure makes it also fairly difficult to establish firm-wide partnerships or partnership management programs. For I2P firms, the type of offering integratedness (optimize use of goods vs. optimize process) affects the challenges associated with the organizational networkedness. If the firms choose to ‘optimize the use of the supplier's goods in the customer's process’, there is likely to be less need for long-term and reciprocal relationships to other suppliers — i.e., external networkedness. However, if choosing to ‘optimize the customer's process’ there is likely to be a need for closer business partnerships and external networkedness. For example, it is not uncommon to see chemistry companies form strategic partnerships with dosing equipment manufacturers. Internally, the de-centralized structure makes it difficult to create and implement corporate wide solution initiatives, and achieve internal networkedness. In addition, because of the differences between customers, it does not make sense to use trial and error, and experiment with one customer (i.e., create separate units), since the knowledge gained will most likely not be transferrable to other customers.

5. Discussion This paper responds to calls for providing specific guidelines and tools for the development of solution business models in different contexts (Baines et al., 2009), and for improving firms' capabilities to co-create complex business solutions (Marketing Science Institute, 2010). In the paper we illustrate that using a business model lens contributes to our understanding of solution business in two interrelated ways. First, by integrating a systemic and dynamic view on solution business, it deconstructs the process definition of solutions, and conceptualizes changes taking place in four interrelated continua of specific relevance for industrial firms developing solution business models. Second, using the continua, the paper identifies opportunities and challenges related to developing solution business models in two different industrial contexts: ‘installed-base’ (IB) and ‘input-to-process’ (I2P). We will next describe these contributions more closely. 5.1. Various degrees of change along four interdependent continua To date there is not much research addressing the need for crossfunctional alignment (Nordin & Kowalkowski, 2010) in solution business model development. Previous research tends to focus on particular aspects of solution business. These aspects include servitization (e.g., Baines et al., 2009; Mathieu, 2001), solution marketing and sales (e.g., Anderson, Narus, & van Rossum, 2006; Spekman & Carraway, 2002; Tuli et al., 2007), solution strategy and management (e.g., Brady et al., 2005; Davies, 2004; Galbraith, 2002a), and operation management related to product/service systems (e.g., Meier et al., 2010; Tan, Matzen, McAloone, & Evans, 2010). Our research incorporates all of these aspects and, thus, provides an overview of the complexities associated with the transformation toward solution business, as firms attempt to change the way that they create value. The identified continua – customer embeddedness, offering integratedness, operational adaptiveness and organizational networkedness – emphasize degrees of change (rather than an absolute change) hereby facilitating the comparison of different types of solution business models as well as challenges between and within contexts. The continua are interdependent, i.e., a change in one of them will affect the others, and only a comprehensive view will help firms to realize the value creation potential inherent in a transformation toward solution business. Consequently, there is a clear need for interaction between customer embeddedness and offering integratedness in order to be able to develop customer specific value propositions. In addition, degrees of integratedness and embeddedness need to be balanced with various degrees of operational adaptiveness. This becomes especially important, as firms need to secure the delivery of repeatable solutions. Various degrees of operational adaptiveness imply different levels of offering component and process modularity, which enables firms to cost-effectively match their solution with the customers' processes, activities and characteristics. Furthermore, higher degrees of offering integratedness and operational adaptiveness are likely to demand higher degrees of organizational networkedness. It becomes paramount to increase cooperation across functional as well as organizational boundaries in order to increase integration of components and achieve modularity. Higher levels of networkedness imply a need for developing modular configurations across the network. 5.2. Solution business models in two business logics Extant literature on solution business gives few specific guidelines and tools for developing solution business in different industrial contexts. Our research explicates that the nature and importance of, as well as the interdependencies between, the identified continua differ

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between industrial contexts. Consequently, also the challenges and opportunities related to the transformation toward solution business models will be different. This is exemplified in the paper by analyzing the transformation toward solution business models in two business logics (IB and I2P). We found that IB firms can almost naturally transition toward solutions, usually by increasing the customer embeddedness and offering integratedness and then addressing issues around the other continua. Additionally, IB firms seem to have more opportunities to experiment with different degrees on all continua, as well as different degrees of dependencies between the continua. An IB firm can move from less advanced service contracts, in which the interdependencies between the continua are not necessarily that strong, toward increasingly advanced interdependencies. In many cases, this gradual transition actually prevents the firms from explicitly addressing the interdependencies and many firms end up with various kinds of misfits between the continua. For instance, firms may develop value propositions related to customized life-cycle solutions, but end up not modularizing the solutions and, hence, creating an operationally complex and untenable cost position. For I2P firms, the changes needed are less transitional; rather firms have to completely change their mental models and more explicitly address the effects on all of the continua. Rather than gradually transitioning along the continua, I2P firms need to make choices between possibly discrete options. There are especially strong overlaps between offering integratedness, customer embeddedness and operational adaptiveness if the firm offers solutions related to ‘optimizing the use of the supplier's goods in the customer's process’. In the ‘optimizing customer's process’ option, the overlaps are especially strong between offering integratedness, customer embeddedness and organizational networkedness. Many I2P firms seem to especially struggle with the transformation toward fully-fledged solutions, as this transformation may mean that they have to change their business definition, for instance by incorporating equipment and equipment maintenance into their solutions. The increased complexity resulting from such a move may increase operational costs more than the solution business generates additional revenue.

5.3. Further research avenues The research process has several limitations that also constitute potential avenues for further research. First, there are sampling biases in the underlying studies, as these samples originally were not driven by the comparison between IB and I2P, but rather by the case firms' interest in, and experience from solution business. Hence, there are more IB firms than I2P firms in the sample. Furthermore, it is clear that the case-firms do not cover all possible forms of IB or I2P firms. The IB sample is biased toward large scale investment goods, such as machines and production lines. Component suppliers are clearly underrepresented. The I2P sample is biased toward asset heavy production of commodities (electricity, chemicals, paper, etc.), which may have overemphasized economies of a scale. I2P firms focusing on highly specialized goods and operating a batch production system may experience different challenges. Consequently, sampling should be developed in order to cover a larger array of both IB and I2P firms and more research is needed specifically focusing on I2P firms. Second, there are other business logics that would warrant further investigation. Nenonen and Storbacka (2010) identify three additional generic business logics in business-to-business firms: continuous relationships (services that are characterized by long-term contracts); consumer-brands (products for the consumer market that are sold through a channel); and situational services (project-based services, which fulfill customers' situation-driven needs). A further exploration of the differences between solution business models in these business

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logics would improve our understanding of the transformation toward solution business. Third, some of the solution business model dimensions are less investigated than others within the solution literature. Issues that would need additional investigation are for instance: how do firms select segments and/or customers that they focus their solution business models on, what are the challenges related to targeting customers' core versus non-core processes, and how do the customers' capabilities influence successful solution business model development? Finally, the research suggests a need to apply a network perspective in developing solution business models. This highlights role of the network actors in co-creating the solution. The idea of value co-creation in a network includes the idea of reciprocity, i.e., not only should one be freed from a dyadic perspective, but also from the provider–customer notion. Adapting an actor-to-actor perspective (Vargo & Lusch, 2011) would emphasize the role of the customer in developing solution business models. It is clear that customers buying solutions also need to adapt their business models, and this perspective constitutes an interesting avenue for further research.

5.4. Managerial implications The research highlights several important implications for firms wanting to develop their solution business. It suggests that moving toward solution business requires changes in all parts of the business model. Hence, firms should be liberated from the shackles of functional thinking, and that they need to make solution business development a common strategic priority anchored within top management. Without managerial commitment, the need for resources for developing new capabilities may not be recognized within functions that are not customer facing. By making the solution business a priority for the whole firm, all functions can more easily be aligned. It is important to note the interdependence of the identified continua. Moving toward greater embeddedness will, for instance, require changes also in the other continua. Furthermore, having an excellence only in one of the business dimensions may not create a sufficient competitive advantage, if the firm has capability gaps in the other dimensions. The key is to secure configurational fit between the dimensions and develop gradually and simultaneously across dimensions. This paper does not suggest that there is one ideal solution business model for any particular business logic. Instead, it argues that there are several possible solution business models that may be equally successful. The comparison between the IB and I2P business logic, however, clearly highlights that firms need to be careful when benchmarking across industrial contexts. A setup that works and creates value in one industry may not be viable in another industry, due to the underlying logic of that industry. It is, hence, important to understand the underlying business logic and implement changes based on this. This will also make it easier to identify where problems will arise. When analyzing the participating case-firms, we noted that there are major differences in how firms have started their solution business. Due to the natural extension into life-cycle thinking, many of the IB firms have more or less ‘drifted’ toward solution business, letting opportunities identified among customers drive a quest toward solutions. Other firms, particularly those with an I2P business logic, start with strategic decisions and make deliberate investments in building the necessary capabilities on a broad scale. The research does not provide us with evidence on which development path is more effective, but it clearly indicates that a gradual development is particularly difficult for firms in the I2P context.

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Appendix 1. Characteristics of installed-base (IB) and input-to-process (I2P) business logics

Customer

Product market characteristics Geographical market characteristics Main competitive drivers Importance of the good to the customer Sale case characteristics

Customer relationship characteristics

Offering

Pure opex market (both the tangible good and the associated services are operational expenditures for the customers) Geographically usually regional markets, often uneconomical/difficult to transport goods over long distances Price (good is a commodity/near commodity as oil, electricity, pulp, paper) The importance of the good varies from strategic/critical to supporting/mundane No distinct sale cases. Efforts to acquire new customer relationships, in existing customer relationships the focus is on securing the next (annual) contract with desired volume and price level Long-term and on-going customer relationships, limited contacts outside the purchasing (buyers of the goods) and operations (users of the goods) Economic cycles usually do not influence the existence of long-term contracts and the volume in tons usually fluctuates relatively mildly, but the economic cycles can have a considerable impact on the price levels Maximize capacity utilization

Capex goods are typically sold as distinct sale cases that can be followed in a sale funnel. Efforts to win the most desired sale cases In capex business the intensity of the customer relationships varies from intense cooperation (during the sale case) to little/no cooperation (between the sale cases), usually contacts in various functions incl. top management Capex business usually very cyclical (dependent on customers' propensity to make investments), opex business usually resistant to economic cycles

Detect and win the best sale cases (capex) and maximize the service coverage in the available installed base (opex)

Characteristics of the core product

Possibilities to differentiate the core product (capex) vary from moderate to almost limitless; capex products create an installed base at the customer that requires life-cycle services

Earning fluctuation from the core product Typical value proposition elements Offering structure

Project-based cash flows from the capex products, no cash flows after the project has been delivered Use value of the products (what does the product enable), cost efficiency over the product life-cycle, product quality The capex product usually consists of many product categories and versions within a category, usually a wide range of opex services with varying levels of standardization

Role of services

To provide more stable and continuous cash flows, to provide continuous contacts to the customer; services are often prices separately from the products Traditionally cost-plus and market pricing, trend toward value-based pricing

Possibilities to differentiate the core product vary from none to very moderate; core product vanishes/changes in the customer processes ➔ no installed base requiring life-cycle services Continuous cash flows from the core product, e.g., monthly payments based on contracts Competitive price, possibilities to improve customers' process efficiency, product quality The core product can often be customized based on customer needs in certain variables (e.g., paper ➔ thickness, width; chemicals ➔ concentration), services typically technical services with limited levels of standardization To differentiate from the competition and to ensure sufficient margins; services do not usually carry a separate price from the product Market pricing or marginal pricing

Characteristics of core product production Investments into production facilities

Capex production typically divided into component manufacturing and assembly

Integrated production facilities due to process or batch production

Investments into production facilities vary from moderate to considerable

Centralization of production

Manufacturing and assembly of capex product centralized in order to achieve economies of scale

Business network & supply chain

Often a very considerable supplier network supplying components and sub-modules; many capex good providers focus on assembly and manufacture only some critical components/modules Just-in-time deliveries very important to the customers (e.g., delivering the escalator when optimal for the construction project) Services are “produced” locally, usually country or area specific service teams

Often very asset heavy production facilities requiring considerable investments (e.g., paper machine, oil refinery, chemical plant, furnace, nuclear power plant, utility infrastructure) Typically regional production due to the balancing act between economies of scale in production and logistical costs; a trend to locate own production close to the customer sites Supplier networks vary in size, but the role of the suppliers is more to provide raw materials to the firm which are then used in the process production Regularity of the deliveries very important to the customers (i.e., not disturbing customers' own processes) Service personnel usually located at own regional production and/or R&D facilities

Delivery timing Service delivery

Organization

Both capex market (equipment = the good is an investment for the customer) and opex market (repair & maintenance = the good is an operational expenditure for the customers) Geographically usually global markets, the good can often be transported economically for long distances Product excellence (capex) and scope & availability of service (opex) The capex goods tend to be strategically important to the customer

Key role of sales

Pricing logics Operations

Input-to-process (I2P)

Organizational structure

Locus of power Key performance indicators

Usually capex and opex are organized into different divisions, enabling them to utilize different business models; a trend toward an integrated organization with a three-dimensional matrix (product/service, customer segment, geography) Divisions with P/L responsibility, i.e., capex and opex divisions; usually capex business has at least informal power position over opex Capex: order base, product market share; opex: contract base (years of contracts), machines with service agreements, ROCE

Typically organized around products or customer segments; typically relatively high degree of regional (or even production site) independence The organizational divisions that own and control the production facilities Capacity utilization, tons delivered, ROCE

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Implications of economic fluctuations

Installed-base (IB)

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Wise, R., & Baumgartner, P. (1999). Go downstream: The new profit imperative in manufacturing. Harvard Business Review, 77(5), 133–141. Yigit, A. S., & Allahverdi, A. (2003). Optimal selection of module instances for modular products in reconfigurable manufacturing systems. International Journal of Production Research, 41(17), 4063–4074. Zott, C., & Amit, R. (2008). The fit between product market strategy and business model: Implications for firm performance. Strategic Management Journal, 29(1), 1–26. Zott, C., & Amit, R. (2010). Business model design: An activity systems perspective. Long Range Planning, 43(2/3), 216–226. Dr. Kaj Storbacka is a professor of Marketing at the University of Auckland Business School. His main research interests include market driving strategies, business model design, and solution business transformation. His research has been published in journals such as Journal of the Academy of Marketing Science, Industrial Marketing Management, Journal of Business Research, European Journal of Marketing, and Marketing Theory. Dr. Charlotta Windahl is a senior lecturer at the Department of Marketing, University of Auckland Business School. Charlotta's research interests are in the cross-sections of marketing, innovation and design/integrative thinking; and include issues related to developing and commercializing solutions through product/service and business model innovation. She has published in international journals, such as Industrial Marketing Management and European Journal of Innovation Management. Dr. Suvi Nenonen is an associate professor of Marketing at Hanken School of Economics in Finland, and Senior Lecturer at the University of Auckland Business School's Graduate School of Management. Her research interests include markets and market shaping, business model innovation, and customer asset management. Her research has been published in journals such as European Journal of Marketing, Industrial Marketing Management, Marketing Theory, and Journal of Business & Industrial Marketing. Dr. Anna Salonen is a post-doctoral researcher at the Aalto University School of Business, Department of Information and Service Economy. Her research mainly focuses on service transition strategies of industrial manufacturers with particular focus on solution business. She has previously published in Industrial Marketing Management and the Journal of Business-to-Business Marketing.