9 April 2013

The Installed Base: How Well Do You Understand the Opportunity?

In a previous blog I talked about the reasons why firms servitize. One important reason is the installed base - the ratio of new product sales to installed equipment. In mature industries these ratios can be significant. Figures often quoted include an installed base of 13:1 for cars, 15:1 for civilian aircraft and 22:1 for trains. That is for every new train sold, 22 are already in operation and available for service and support. Consider that trains have a working life of between twenty and thirty years and you can see why the installed base offers a significant business opportunity. Indeed in many sectors, the rule of thumb used is that a product will consume 3-4 times its original purchase value through its operating life in terms of spares and consumables.  So a $1 million dollar piece of construction equipment will consume between $3-4 million in consumables and spares over its thirty year operating life.

Researchers at the Cambridge Service Alliance have recently been looking at the installed based, seeing what data we can gather to understand the size of the installed base in different sectors. Our preliminary analysis suggests that the traditionally quoted figures underplay the size of the installed base in some sectors, especially aerospace. Take, for example, US aerospace - in 1995 there were 212,000 US aircraft in operation (both military and civil). In the same year 2,441 new aircraft were shipped, giving an installed base ratio of 87:1. By 2005 there were 246,000 US aircraft in operation, with 5,426 new aircraft shipped, giving an installed base ratio of 53:1.

While both figures (87:1 and 53:1) are considerably higher than the figure traditional quoted (15:1), the reduction in the ratio is interesting. One might expect that the installed base ratio would increase over time. New products are sold at a rate that is faster than old products are retired, but in the case of aerospace, underlying market growth has a significant impact. The number of new civil aircraft sold per year, for example, effectively doubled between 1995 and 2005, and it is this market growth (in civil aircraft) that brings down the installed base ratio. Even so, an installed base ratio of 53:1 highlights the significant opportunity that exists.

The story in the automotive sector is rather different. Here we see slight growth in the installed base ratio between 2003-2008, from 13.5:1 in 2003 up to 14.7:1 in 2008. This growth is driven by an increase in the installed base of passenger vehicles, with 13 million new vehicles being registered in Europe in 2008 and 198 million in operation. A key issue in the passenger vehicle market is the rate of retirement of existing products. Given the relative maturity of this sector, new cars are often replacements for existing cars and so as new sales are secured, old cars are retired. For this reason it is unlikely that we'll see significant growth in the automotive sector in the installed base unless product life cycles increase and/or consumers decide to reduce the rate at which they replace their cars.

So this brief analysis suggests three issues to consider; (i) understanding the size and potential of the installed base matters; (ii) in some sectors the installed base ratio will not change significantly, as the market matures and product replacement becomes the predominant reason for new product sales; and (iii) significant market growth can reduce the installed base ratio, although even so the installed base can be an attractive market segment.

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