Servitization: Right place, right time

On September 20, Jennings’ inaugural lecture Finance, Servitization and the path to Net Zero discussed his extensive experience and expertise to look at the future of financing in light of the pursuit of Net Zero and the opportunities presented by advanced services and outcome-based contracts.

As Jennings notes, “There may be surprises ahead for manufacturers and other organisations planning and making long-term capital investments. Net Zero is changing the landscape in unexpected ways that manufacturers need to be aware of.”

Opening the lecture, Dr Andreas Schroeder from Aston Business School’s Advanced Services Group highlighted that the mission of the Advanced Services Group, a research centre focused on excellence in servitization, is “accelerating the servitization of manufacturers and industries that aim to compete through advanced services.”

Servitization is the transformation of a manufacturer from having a product- to a service-focus; an outcome-based model where the product remains under the ownership of the manufacturer. And while servitization was previously a two-way conversation between the manufacturer and the customer, if we incorporate asset finance into the relationship it becomes a three-way conversation.

Servitization is able to address both the productivity challenge as well as the sustainability challenge that manufacturers are currently facing:

Productivity – difficult to access finance, lack of investment, technology obsolescence, managerial skills, supply chain misalignment

Sustainability – low resource efficiency, technology obsolescence, lack of consumption transparency, managerial skills

But if you add Advanced Services and, in turn, asset finance into the mix, it can contribute to these two challenges bringing resource efficiency, customer alignment, asset reliability, regional development, dematerialisation and circularity.

Climate change initiatives

The importance and increasing priority surrounding the Net Zero agenda, with the Financial Stability Board’s climate change task force (TCFD reporting) and Science Based Targets intiative (SBTi), was discussed by Paul Jennings, highlighting its impact on asset finance portfolios particularly with a reduction of diesel assets (by 50% by 2030) and an increase in green assets.

Firms are starting to take action to reduce their carbon footprint and many official initiatives for climate change are underway.

As Blackrock CEO Larry Fink said he thinks the next 1,000 unicorns, or start-ups worth at least US$1 billion, will be involved in climate technology. Organisations like the International Monetary Fund and the World Bank “must play a critical role” in helping to ensure capital is invested in green climate technology in developing nations, Fink said.

Even the Australian mining magnate Andrew ‘Twiggy’ Forrest is leading the green revolution when it comes to green hydrogen, saying that he is on track to start producing it in commercial quantities by 2024.

And government plans are gradually introducing more investment in climate change, with President Joe Biden’s 2023 budget proposal calling for nearly US$45 billion in new funding for climate change, clean energy and environmental justice programmes, an increase of nearly 60% in climate funding over the 2021 fiscal year.

Industry

Many changes are happening in all sectors of the manufacturing industry with climate change legislation having a significant impact. The UK is set to ban the sale of new internal combustion engine (ICE) models from 2030 as part of a package of other green initiatives, with a move to BEVs or hydrogen fuel. However, as Jennings points out it is the fuel not the engine that is causing climate change problems.

As we move to 2030, the value of the diesel truck as an asset will depreciate as diesel trucks will become obsolete. While the finance risk falls over time, the GHG (greenhouse gas) risk grows over time.

And domestic boiler manufacturers in the UK will be affected by legislation stating that, by 2025, there will be no new gas boilers in new houses.

Therefore, we must look at investments which are focused on renewables, in particular hydrogen, a particular favourite renewable energy resource of Jennings!

There is pressure from all sides to show that we are moving to Net Zero with risks growing as we reach the NetZero target dates. It is imperative that all companies (pension providers, point of sale, insurance, investment) sign up to SBTi and TCFD to show that they are advocates of ESG and sustainable investment.

Who will drive the revolution?

There are many challenges and issues facing both the financial and manufacturing industries as we creep closer to the Net Zero target dates.

For manufacturers of diesel HGVs, the short timescale to manufacture new products as we reach 2035/2040 is the biggest challenge of all. And as we move away from diesel to BEVs and hydrogen, this brings its own set of problems including battery issues and charging infrastructure.

The Net Zero targets will cause significant issues for finance companies: finance firms could begin curtailing financing diesel-powered vehicles from 2025 onwards; asset values could fall dramatically; some finance companies may continue to fund “dirty assets”. Assets will depreciate in value and this will be an extreme problem in the future.

So, who will drive this revolution? Manufacturers with new products or finance companies? Jennings believes that financiers with the availability of funding will drive manufacturers to realise that they don’t have as much time as they think to make a change.

Using servitization, the asset finance sector can effectively contribute to the productivity and sustainability challenges facing manufacturers by bringing resource efficiency, customer alignment, asset reliability, regional development, dematerialisation and circularity.

By developing a range of services through the lens of sustainability, businesses can support the Net Zero pledge whilst driving efficiencies and creating new revenue streams. By reassessing their business models, manufacturers can build resilience in turbulent times and help future-proof their operations.

Ownership v usership

This issue of ownership is vital to the concept of servitization. To remove additional risk, does the customer have to own the asset? As Jennings highlights, the mentality of customers is changing – we don’t own our mobile phones or software now, and music and films are streamed not owned.

The new generation of customers has no emotional or intellectual attachment to possessions. And they value their privacy less, meaning that they share data and private information in the modern world. This changing attitude of customers and the journey from ownership to usership can only enhance and drive the move to servitization.

Final remarks

Going forward, servitization can improve the UK’s productivity as we face a growing number of challenges including: the biggest change in energy sources, Net Zero target dates, rising inflation, availability of data, acceptance of usership over ownership, risk in ownership, innovation is swift, supply chain issues, and funding of manufacturers.

Jennings believes that we must look at long-term productivity and the broader implementation of servitization. As he concludes: “Servitization is coming of age as it is in the right place at the right time.”