In our paper How to Succeed with Managed Services, we explored the factors driving Managed Services (MS) opportunities, outlined a Managed Services operating model framework and introduced a “crawl-walk-run” maturity continuum that technology providers must navigate to build a successful and profitable MS business.

As a follow up to that paper, we have been examining in more depth each of the four dimensions of the MS Operating Model Framework, delving into how the organization, processes, policies and supporting technologies improve as companies progress through the maturity continuum.

This paper, which is the second in the series, focuses on the Services offerings dimension of the framework:

Services Offerings: The Key to Sustained Profitable Managed Services Growth

Having the right set of offerings is critical to sustain profitable growth in a Managed Services business. Although Managed Services are often sold in tandem with a broader set of product offers, (e.g., hardware or software), Managed Services have nuances that require distinct focus. Managed Services can be a profitable revenue stream for a vendor, but margins can go south quickly if the proper controls aren’t in place. Vendors must strike the right balance between providing offers that meet customers’ needs while also adhering to a consistent and scalable portfolio.

There are four critical elements to address in ensuring that your portfolio of Managed Services offerings is positioned for success:

1. Compelling Customer Value Propositions

A compelling customer value proposition begins with developing a deep understanding of your customers’ business processes and economics for whatever domain your products and services address.
For Managed Services, the key question you must ask yourself is:

–  How will our customers’ business processes be simplified and their revenue and costs improved through turning to us to provide those services?

Your value proposition must identify and demonstrate how your delivery capabilities will provide specific financial and operating value to the customer. Customers may have clear preferences for processes and functions that they would like to outsource; key candidates are areas in which your customer lacks the expertise, resources or scale to deliver on their own.

Typically, MS value propositions focus on:

  • Improved Technology Operating Performance/Costs

Improved technology operating performance and costs for customers are usually the simplest Managed Services entry points for hardware or software providers. The complexity, resources and technical proficiency required to operate and maintain your (and complementary) technology may very well cause customers to consider outsourcing. The significant requirements and cost of running a data center and other technologies have unleashed a torrent of customers turning to cloud-based platform providers. Understanding the total cost of ownership and the proficiency requirements for your customers will help you develop a compelling MS technical offering. A good example is the remote monitoring and related predictive/rapid maintenance of equipment in the field that many hardware product companies provide.

  • Improved Functional Operating Performance/Costs

In order to develop a Managed Services offer that provides improved functional operating performance or cost, a vendor must have a thorough understanding of its customers’ needs and potential use-cases.

Key questions to ask yourself:

–  How does our technology solution fit within the broader domain/workflow and what are our customers’ economics?

–  How can our MS offering substantially improve our customers’ workflow and economics?

–  What Managed Service could make our technology product more valuable to our client?

The value prop should identify and demonstrate delivery capabilities around the specific financial and operational value that the customer will attain through the service. In particular, special attention should be paid to services that a client would prefer to outsource.

  • New Capabilities/Data that Customers Can’t Easily Develop on Their Own

Providing customers with new data or capabilities that they would have difficulty creating on their own is a great focus for an MS value proposition. A prime example of this is a financial software vendor with a solution that enables companies’ treasury departments to satisfy complex accounting regulations around derivatives. The majority of its customers are corporations with large derivative portfolios for hedging purposes and a skilled treasury staff that is able to use the software to satisfy regulations. The vendor realized that there is also a use-case for smaller companies that might have a few derivatives in its portfolio, but can’t justify hiring a treasury resource to handle the accounting and use the software in-house. Thus, the vendor developed a service offering for small clients where its Managed Services team utilizes its own software to perform the service on behalf of the clients.

Access to client data is a great enabler to determining customer value propositions and tailoring offers to them. This is particularly true for hardware companies that often have unique access to this data. If remote monitoring of devices is activated, hardware vendors can use the enormous amounts of data generated to understand how customers are using their products and then apply that knowledge to develop value-added services. One Waterstone client example is a vendor of ATMs to banks that uses remote monitoring capabilities to tell how much cash enters and leaves the machines. Using historical data at the individual machine level, this vendor is able to provide predictive analytics to show the optimal times for the bank to replenish cash from an armored car service, saving banks millions in working capital expense.

2. Portfolio of Offerings

Determining a set of offers that meet customers’ needs is the first step to generating MS revenue, but to drive consistently profitable Managed Services business a company must have a clear and repeatable offering portfolio.

Customers’ individual needs for services beyond core hardware and software can be complex and unique. A common trap that we see vendors fall into is offering highly customized Managed Services to satisfy these needs. This is especially prevalent for companies that prioritize core hardware/software and offer a tailored Managed Service to win the hardware/software deal or additional revenue on an opportunistic basis. These customized deals have limited repeatability, and vendors may find themselves constantly “recreating the wheel” each time they sell an MS deal. It is common in these cases for the vendor to first sell the deal and afterwards look for ways to generate services efficiencies.

It is critical for offers to be as repeatable and scalable as possible to preserve Managed Services margins. This often begins by automating components of the offer as much as possible. Leveraging software to provide scale is the most efficient way to decrease cost on Managed Services and thus increase gross margin. Offers with tight focus on a specific domain, often an industry-specific business process, ensure that the scope is not too broad and is repeatable across similar clients. Having MS offers that are highly related to or integrated with the vendors’ other hardware/software offers ensures that the MS offers do not stray too far from the vendor’s focus areas.

A vendor can also cut down its customer acquisition cost by ensuring that the portfolio of offers remains well defined. Having a standardized set of offers helps ensure that sales reps don’t oversell at the expense of Managed Services margins and that the vendor doesn’t engage in unnecessary lengthy custom scoping exercises. A manageable set of SKUs also helps sales reps match products with client needs. Well-defined SLAs ensure that client expectations are aligned with the vendor’s capabilities and boundaries. In some cases, it may make sense for a vendor to walk away from large potential deals with Managed Services components if requirements are too client specific, preventing scale and automation. A standardized and automated set of offers allows the sales and delivery teams to be efficient and avoid potentially unprofitable deals.

3. Value-Based Pricing Model

Having the right pricing model in place is crucial to ensuring that both the vendor and the customer receive adequate value from the service delivered. Below we outline three Managed Services pricing models. Those that are value based with fees tied to usage and/or outcome are best suited for a Managed Service.

  • Percent-Attach Pricing Model

In organizations where Managed Services take a backseat to traditional hardware or software, MS is often priced as a percent attach to the hardware or software (e.g., MS annual fee is 10 percent of the price paid for the hardware). This is an inefficient model for MS, particularly in cases when there may be high variable costs such as human labor to deliver the service, because usage is not taken into account. These models are often based on simple “cost-plus” calculations, so margins can quickly erode if pricing is fixed but the vendor must provide highly variable amounts of labor.

  • Outcome-Based Pricing Model

A much more effective model is one where the pricing is tied to the outcome delivered. An example is a Managed Service around providing network security where fees are determined at least in part by the number of threats thwarted or the percent success rate each month. This ensures that the customer’s fees are at least partially tied the value derived from the service. Another example is an eDiscovery provider tying pricing to volumes of documents ingested, reviewed and stored.

  • Gain-Sharing Pricing Model

The most sophisticated MS businesses incorporate a gain-sharing element into their pricing model. In these cases, at least part of the vendor’s fee is comprised of a portion of the financial benefit that the customer achieves through use of the service. Consider an example of a Managed Service that provides Account Receivables departments the ability to automate processes and discover missing billings that would have gone uncollected. With gain-sharing, the MS provider’s fees would include a portion of the financial benefit derived from the missing billings found through the service.

This gain-sharing pricing model is ideal because the vendor’s fees are dependent on the success of the service provided, ensuring that the customer receives sufficient value for the cost of the service. Aligning the incentives of the vendor and customer is often appealing to the customer and can help a vendor win deals it would not have with more basic pricing; however, there must be a high level of ongoing trust between the two parties to ensure mutual satisfaction. The vendor must also be comfortable with a certain amount of variability/lumpiness and risk regarding revenue. Even if gain-sharing is too much of a stretch for your current pricing structure, it is important to understand the financial improvement that your customers should attain through utilizing your MS offerings; this will help ensure that you have cost competitiveness and a compelling value proposition.

4. Offer Management and Development

With all the nuances required to operate a profitable portfolio of Managed Service offers, having formal processes around MS offer development is critical. Some firms go so far as to have a formal MS Offer Management function, including roles similar to a Product Management role in a software company. From the initial development of a customer value proposition to the maintenance of a broad offer portfolio, there must be consistent processes to guarantee margin targets are met. The group must have the pulse of the market, a solid feel for the customers and a sufficient understanding of the underlying technology to develop and maintain MS offers. This prevents offers from being created, managed and priced ad hoc based on a client’s specific requirements.

If the company has hardware/software offerings, the MS group should not operate in a silo; MS offers that integrate with the vendor’s other offers are often the most successful. MS offers should be developed in tandem with hardware/software offers rather than as an afterthought (or worse, to compensate for deficiencies in other offers). The portfolio should be managed centrally and operate across geographies and functions to guarantee consistency and scale.

To ensure that offers are automated and scalable, there must be a sizable investment in technology around the delivery of the services. To allow for this, there must be healthy interaction with the organization’s R&D function. Some Waterstone clients even have a portion of the R&D budget dedicated to Managed Services, or have R&D resources sit within the MS group. In addition, to the extent that MS offers need to integrate with third party applications, collaboration with the R&D group and the corporate partnerships team is necessary.

Formulate a Plan to Improve Your Managed Services Offerings

Our experience working with numerous technology companies and their Services businesses has demonstrated that an effective Managed Services operating model is critically important to revenue and profit growth. Services offerings is the second of the four critical dimensions of the operating model to examine in your company; assess your position on the maturity continuum below, and then develop and execute the priority initiatives to improve.

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Related Insight

To learn about the first dimension of our Managed Services Operating Model Framework, check out Improving Your Managed Services Selling Model.


About the Authors
Eric Pelander

Eric Pelander is Co-Chairman and Founder of Waterstone. Eric has extensive experience in managing services businesses and consulting with clients on their growth strategies, business and operating models, and merger strategy and integration. His focus is on disruptive growth strategies and go-to-market and services improvement.

James Kirwan

James Kirwan is a Senior Associate at Waterstone. James specializes in delivering value for technology companies and their investors through analysis of markets, competitive landscapes, financial and operational performance, and growth opportunities.