In Q1 of 2015, the market gave off very mixed signals about the state of the global tech economy. The short story is that tech company revenues are down, and as a whole, our industry is shrinking. But there are some bright spots. Technology services produced another solid quarter of financial performance and continues to represent tremendous growth potential for our industry. I’d like to share a brief overview of how things played out in the public data compared to one year ago and importantly, what tech companies can do to recapture profitable growth.
Where We Get Our Data: the TSIA Service 50 Index
For the past decade, TSIA has been closely tracking product and service revenue and profit trends for 50 of the largest global providers of technology solutions in our Service 50 index. Through this index, which includes a diverse mix of hardware, software, and pure service companies, we get a fact-based representation of the performance and overall health of the technology industry based on public record data sourced from 10-Qs and 10-Ks. TSIA members have access to a deep-dive look at this data, benchmarks, and more, but here’s a quick snapshot at the quarterly trends and updates from our Q1 2015 Service 50 analysis.
Q1 2015 Recap
Compared to Q1 of last year, Q1 of 2015 got off to a very slow start:
The line across the middle represents whether or not revenues are growing. What the data clearly shows is that total revenue for all companies in the Service 50 index is down 6%, while hardware company revenue is down even further at almost 9%. While pure service companies are still growing, Q1 saw significantly less growth this year as compared to 2014 by a factor of half. Perhaps most surprising is that software companies saw negative growth during this period – something rarely seen in our industry. Needless to say, tech didn’t get off to a great start in 2015.
Product Losses & Shifting Customer Spending
Drilling further into the data, our analysis found that 65% of the Service 50 companies reported flat or declining revenue. Even more surprising is that this decline represented a staggering 11 billion dollars in product revenue that came off the table in this period. By contrast, 50% of these same companies reported an increase in service revenues.
So where are the dollars shifting? In a comparison to the TSIA Cloud 20 index, which consists of 20 public cloud computing companies, we see that while product revenues in the Service 50 are declining, revenues in the Cloud 20 are increasing as customer budgets shift to on-demand models.
The data clearly shows that traditional product revenues are losing ground and are being replaced by service revenues (which includes subscriptions). (Tweet this!) And, for those who are looking for more positive market signals, we also crossed into positive territory for net operating income during Q1 of this year–a very good sign for the as-as-service model.
Clearly, we’re experiencing an incredibly disruptive transformation in this industry. While it’s going to be rough in the next year or two under traditional business models, we’re seeing tremendous potential in the XaaS model. Going forward, it’s important to continue to shift towards these new consumption models, as well as develop different capabilities, skills, and metrics than we have operated around historically in order to be successful in the years ahead.
How to Unlock High Margin Revenue Growth
So, practically speaking, what can be done to weather the market turbulence? I have two primary recommendations for meeting the challenges we’re facing as an industry:
- Invest in customer success.
- Develop expand selling capabilities.
Today’s customers are taking a very different approach to how they spend their IT budgets. Great products—the longstanding end game in tech—have become table stakes. Now, customers are investing in technology providers that go way beyond feature functionality to deliver business outcomes. This creates a much higher stakes relationship with customers, and with it comes a significantly greater level of responsibility.
This new mandate requires tech companies to adopt a structured approach to delivering business outcomes. To do so, they must invest quickly to stand up a robust customer success capability that creates the platform to systematically engage with customers, help them successfully adopt and consume their tech solutions, and ultimately achieve their desired business outcomes.
TSIA has the industry’s most robust portfolio of data, benchmarks and best practices for developing a customer success function. We’re happy to share some of our latest findings and research here.
While it will always be important to land new customers, the major upside opportunity for profitable growth is customer revenue expansion. With a formal customer success capability in place, companies position themselves to deepen their customer relationships and open the door to account growth.
TSIA recently introduced a new expand selling model called the LAER (pronounced “ley-er”) framework that is shorthand for Land, Adopt, Expand, Renew:
Through this model, tech companies unlock the potential for low-cost revenue expansion within their existing customer base. As you can see, the economics of this approach are very compelling:
The road ahead won’t be easy, but through smart investments and capability development within your organization, you can chart your company's transition from products, to services, and ultimately, to customer outcomes.
To learn more about TSIA’s vision for how tech can recapture profitable revenue growth, we invite you to watch this video that provides more details about our LAER framework.
About the Author
Thomas Lah is executive director of TSIA. Since 1996, he has used his incisive analysis, strategic thinking, and creative solutions to help some of the world’s largest technology companies improve the efficiency of their daily operations. He has authored several books, including Bridging the Services Chasm (2009), Consumption Economics (2011), and B4B (2013).