Digital transformation is affecting many industries, but it has the potential to completely redefine OEM (original equipment manufacturer) business models within automotive, industrial equipment, electronics, medical equipment, among others.

The operating model of traditional OEMs was designed to optimize the push of prepackaged products to customers via large, up-front deals. The goal of this CapEx model is to get the maximum amount of product assets transferred from the OEM’s balance sheet to the customer’s balance sheet in one big order, with 70% or more of the total purchase price paid up front.

There are two huge problems facing these CapEx business models today:

1. Since the core technology asset is commoditizing, customers don’t really care about the original equipment manufacturer’s (OEM) product anymore.
2. Digital transformation is enabling customers to pursue new OpEx consumption models that do not require large up-front purchases.

What is Digital Transformation?

Digital transformation has been a hot topic for the last few years. And the conventional wisdom is that if you’re not doing “it”, your company is in a lot of trouble. But, what exactly is “it” and why should you care?

Digital transformation is generically defined as “a novel use of digital technology to solve traditional problems”. Later in the post, I list six technological advancements that enable a digital transformation— one of them being sensor technology. These new sensors enable OEMs to capture a complete digital representation of a product’s physical properties, i.e. a digital twin, and store it in the Cloud. But simply digitizing your product doesn't mean you're participating in the digital transformation.

Digital transformation is generically defined as 'a novel use of digital technology to solve traditional problems'.

That’s because the key word is not “digital”, it’s “transformation”. When you start to leverage this data to improve business outcomes for both you and your customer, then you can claim you are digitally transforming. Ultimately, the data being collected across an entire install base will deliver more business value than the physical component itself. Let that sink in for a little bit—when the data becomes more valuable than your manufactured product, the old CapEx model is dead.

The key question is whether a traditional manufacturer can turn itself into a modern technology company faster than high-tech entrants can learn drivetrains, valves, radiology, crankshafts, conveyance, etc.

Signs You’re Encountering Digital Disruption

Very few people would disagree with the notion that OEMs are in the midst of a digital disruption, but how fast and severe the change is, plus how to respond, is still a matter of fierce debate.

The most obvious sign that a company is encountering disruption is when their stock price and market cap aren’t growing. However, is this the first indication of digital disruption?
An earlier warning sign is when traditional product and product-attached service revenue growth slows down. Customers are sending a strong signal that the historical product “feature face-off” is not cutting it anymore and that they only care about the product to the extent that it helps them achieve their business outcomes. Fortunately, the customer sends earlier signals that their needs are changing.

The key question is whether a traditional manufacturer can turn itself into a modern technology company faster than high-tech entrants can learn the product.

When OEMs put more bells and whistles into the product than the customer can consume, new deals start to get disrupted with discussions of consumption-based offers, i.e. customers only want to pay for what they consume. And even before that, customers begin to insist that service level agreement (SLA) criteria move away from response time commitments, and towards resolution time, and ultimately to equipment uptime and availability.

4 Signs Customers Expect Business Outcomes from OEMs

There is a series of unmistakable signals that the customer wants the OEM to be more aligned with their business outcomes (presented in the order of appearance):

1. SLAs that guarantee performance and/or outcomes    
2. Deals disrupted by discussions of consumption-based offer      
3. Traditional product/service growth rates flattening      
4. Stock price/market cap not growing

So, while the digital transformation is disrupting traditional OEM business models, the good news is that it’s not something that just pops up overnight.

6 Factors Pushing OEMs to a Technology Tipping Point

A tipping point is that moment beyond which a significant and often unstoppable effect or change takes place. For OEM business models, that tipping point is here.

There are six technological advancements that are rapidly moving entire industries from owning the asset and towards buying as-a-service. These advancements enable OEMs to create “as-a-service” offers that will categorically change industrial business models.

1. Miniaturization/Sensor Technology: Smaller, cheaper, and smarter sensor technology enables a company to capture a digital representation of performance, status, or usage. As a result, meaningful localized analytics are now possible in a variety of applications and environments.
2. Connectivity: Everything and everyone within an ecosystem can now be connected. Cloud storage of a “digital twin” in structured and unstructured data sets will enable modeling, machine learning, and operational insights.
3. Low Cost Storage: The rapid decline in the size and cost of computing, connectivity, and storage technologies enables access and leverage of the collected data.
4. AI/Machine Learning/Big Data: An exponential increase in data can lead to ever-more sophisticated problem solving/modeling of the customer’s ecosystem, including descriptive analytics, predictive analytics, and prescriptive analytics.
5. The Sharing Economy/Gig Economy/Democratization: Assets and knowledge can be shared by new players that can create new business models that accelerate the disruption.
6. Each vehicle that goes into a full-time car-sharing service, such as short-time rental company Zipcar, supplants four to six new car sales and postpones the purchase of up to seven more.
7. Falling Barriers to Entry: Traditional business models were the realm of professionals and economies of scale.
8. When you think economies of scale, massive automobile manufacturing facilities come to mind. LM Industries and their 3D Printed Car believe that mass manufacturing is a relic of a past era.

These six advancements will force OEMs to move from their comfortable “make, sell, ship, and forget” approach to “make, sell, own, operate, and remember” model. In turn, it will require every OEM to become more of a software company and system integrator.