As manufacturers build IoT platforms that offer compelling experiences to their customers through a combination of hardware, software and digital services, many are struggling to effectively monetize these offerings in a way that will lead to lasting improvements in their business.
In this article, we take a brief look at the conventional product-led business model and a few examples that can serve as a blueprint for the platform-focused business models of the future.
Let’s start by talking about traditional retail models for electronics devices: cameras, GPS products, or something else entirely.
Envision a product manufacturer which “sells” thousands of devices on an annual basis. In a traditional model, the company’s business model is likely based on manufacturing and selling hardware, and not really getting more insight into their business after the sale, like granular data about how and when the products are used, what features are used the most…etc.
The standard go-to-market process would be to design and manufacture the hardware, and then sell the product to a retailer (online or brick-and-mortar) for roughly 30-40 points going to the retailer. The retailer traditionally uses that margin to determine a sales price, and that’s how you end up with the final price an end customer or consumer sees.
In this case, the customer is actually the retailer, not the consumer. The manufacturer knows they have sold 10,000 devices to the retailer but don’t really know how many of those end up in the hands of a consumer. (They may get some insight if certain consumers register their products after the sale, but at best this is a far approximation of the actual number of customers out there.) With this business model, there is also a financial risk that the retailer could ship those products back if they go unsold. This is because retailers can sometimes place orders on the condition that if the product doesn’t sell within a certain period, the retailer can send it back to the manufacturer.
So, the big takeaway here is that a lack of insight about what is actually going on in your business can create enormous blind spots that can cause companies to make bad business decisions based on flawed assumptions. Blind spots and uncertainty thus create huge (and unnecessary) financial risks.
Connectivity helps to answer a lot of these questions. With a connected offering, the company knows when devices are activated and when they are used. Basically, they know when a customer really got it, as opposed to the product sitting on a shelf or in a retail distribution center and being assumed to be active.
For many manufacturers, the benefits of cellular connectivity in particular, with its unique ability to support mobile products and its extensive coverage areas, make the decision a fairly straightforward one: If I want to offer connected solutions around the world, especially for mobile use cases outside of a corporate or home Wi-fi network, there’s no better option today than cellular. With new, specialized network technologies coming on the scene like LTE-M and NB-IoT, this decision is making more and more strategic sense to companies in numerous industries.
Keep in mind though, when you add in cellular capability to the cost of goods sold (COGS), you’re adding in additional cost due to the cellular hardware that has ramifications further along in the sales process.
For example, your total profit margins will get squeezed if you try to sell it at the same price as the non-connected device in the traditional one-time-sale model. Using the conventional wisdom, manufacturers may decide to sell new cellular-enabled devices at a higher price than their non-connected SKUs. That’s fine in some specific cases, but the effectiveness of this strategy can vary wildly between industries and use cases, with the net result for most manufacturers being that they will likely end up selling much less of these cellular-enabled devices than they thought they might due to sticker shock.
We’ve seen several examples of this in our years of helping manufacturers deliver IoT solutions, especially for those companies that are just introducing their very first connected products.
Keep in mind that connected products are only that so long as they have an active connection to a cellular network. This connectivity comes with additional, ongoing costs for the life of the product.
Some manufacturers try to account for this by taking their best guess on the average and total usages of cellular data that they expect from their customers. This approach has a couple big downsides, one being that it is incredibly difficult to accurately predict future data usage if this product is the first of its kind – which happens a lot with new IoT solutions. If your forecast is too low from the real usage, you will quickly find yourself financially underwater. If the forecast is too high, you can end up overpaying, (and in some cases overcompensating by pricing your offerings too high) - again putting yourself under financial stress or pushing away would-be customers.
The bottom line here is that while cellular connectivity can truly enable groundbreaking customer experiences, manufacturers need to think creatively about their IoT platform business models in addition to the products themselves, to reduce risks and set themselves up for success.
A new approach would be to look at the opportunities to grow your customer base by lowering prices of hardware upfront, thus reducing barriers to entry for more customers and collecting more of your profit from the ongoing services portion of your IoT monetization platform.
For example, a GPS manufacturer might say: “I typically sell this device in the $150 range and make $30 of profit from the sale. If I lower the price of the product and were to get more people to buy it and pay me over time for the cellular service, then that takes the pressure off of me to make as much in profit while improving my chances of a longer LTV, or customer lifetime value.”
As we’ve seen in cases like this, companies have a greater chance at making more total money and growing brand affinity with their customers by following this blueprint. You probably already figured out that a prerequisite of this model’s success is to increase the overall volume of devices sold – but this is actually enabled when you lower the upfront cost in the first place.
It’s our belief at Zipit that product companies can and should strive to make the bulk of their profit on the subscription and service over the “lifetime” of a subscriber.
With manufacturer’s IoT platforms, it is often the case that cellular service and software are actually required components, rather than “nice to have” value-added features. It all depends on the product and the use case. GPS trackers, health monitoring devices, or cold chain monitoring solutions are all good examples of this, where the hardware primarily serves as an enabler for the more valuable services component of the offering. Since the bulk of the value lies in the service, it stands to reason that the bulk of the profit can be made from that component – and it can be done so over time.
Once you have revised the business model in this way, you can make further improvements, like incentivizing customers to prepay for a year versus paying on a monthly basis. By shaving off a small percentage of the upfront price, you can encourage annual signups. You will make a little less margin up front, but you are guaranteeing somebody for a year and will still get more revenue in hand sooner, great for optimizing cash flow for the business.
This can also have benefits on customer churn metrics as well, because subscribing on an annual basis has been shown to actually incentivize customers to try to get MORE value out of that service since they’ve already paid for the full year. Some well-known retailers have perfected this model, and it is no different in the IoT space.
We’re working with customers like this, and we’re also working with companies that are actually putting a different spin on monetizing their IoT solutions – hardware, software and service – by amortizing the whole solution. So for example, a cold chain solution for refrigeration monitoring, where customers are signing up for a year and the cost will actually cover all the hardware (wireless gateway, sensors), the software IoT platform and the cellular service that helps to enable the solution. By understanding their target customers, and the pain points they experience, a company could price their IoT solution in a way that is profitable right away but also competitive & compelling enough when you compare it to the financial and reputational costs of a regulatory fine due to someone getting sick from eating food that wasn’t stored correctly.
This is a great model for product companies, because in years 2, 3 and on of a subscription, there wouldn’t be any real hardware costs incurred on the part of the seller that need to be covered by the sales price. At that point, obtaining a renewal from a subscribing customer is going to result in even more profit and margin due to the fact that the hardware was paid for in year 1.
And the value isn’t limited to the seller in this example, either.
If you take that food refrigeration example, in most cases, a restaurant or grocer would have to manually check temperatures of the food, which may have resulted in infrequent checks, human error, etc. Compare that to an IoT-enabled solution running automated checks every hour, or every 15 minutes, or any time you desire, and that can notify you if the temperature rises or falls out of the appropriate range. That’s an incredible value proposition.
Clearly, a product company must first truly understand their customers, and second, do a good job when pricing their IoT solutions, but if they can do those things, there are all kinds of opportunities for creative companies to take advantage of the tremendous value that connectivity brings, and also deliver that value to customers in a profitable way. It just may surprise you how much more successful you can be when compared to the old status quo.