Developing the Right Strategy for a Target Operating Model

Today, the industrial manufacturing sector faces significant challenges, including cost and margin challenges, supply-chain issues, pressure from competitors, evolving technology, and stricter regulatory guidelines. Though an initial response to retrench, restructure through aggressive cost-cuts, and consolidate through mergers and acquisitions helped the industry in the last few years, these strategies in isolation may no longer create a sustainable path to future growth or profitability. Industrial original equipment manufacturers (OEMs), especially from the oil and gas, power generation, aviation, mining, and train industries, have explored for some time a deeper transformation of their business models. These changes will likely need to be accompanied by an evolution in the companies' existing operating models — that is, in the way they run selling, general and administrative functions as well as other operation-intensive, clerical or knowledge-based support processes such as reliability and service data analysis.

Global business services (GBS), which is the evolution of shared services with a larger global footprint serving multiple functions, helps streamline processes by leveraging a unified — although not always centralized — operating entity that collaborates effectively with the rest of the function. GBS serves as a cornerstone for any advanced target operating model and can orchestrate different sourcing structures, including those that are captive or outsourced. Decoupling business functions combined with the advanced use of metrics, data-driven process management, specialized human resources (HR)/organizational design and effective information technology (IT) industrializes operations across the process chain and can improve scalability, lower costs, increase control and provide a better-quality experience for the end client.

If GBS is done well, organizations can enable better decisions, pursue growth and adapt to market contractions more nimbly. This article will describe a scientific, granular approach enhanced with industry-specific experiences to adopt the best-fit target operating model for industrial manufacturers.

Challenges

Multiple business challenges for industrial manufacturers are exposing them to increased volatility and risk.

• Cost and margin pressure. Price-sensitive demand and a fluctuating cost for (and availability of) input materials are also adding pressure, and scalable, cost-effective talent is not always readily available.

• Supply-chain issues. Supplier identification and negotiations, low-cost sourcing, and shared cost analyses are making it increasingly difficult for manufacturing companies to execute “design to cost” specifications. Moreover, strained supply chains are often expected to support equipment uptime of nearly 100 percent.

• Pressure from competitors. Strong local players in new geographic regions are providing established global players with stiff competition, and this competition has drastically reduced the time available to develop new machines.

• New geographies. Emerging market infrastructure projects are driving new demand for capital equipment, and these geographies often have different regulatory and safety standards, creating new challenges for equipment reliability, robustness and safe-failure specifications.

• New technologies. Competition is forcing incumbent manufacturers to invest in new technologies that suit evolving performance standards, and the necessary adoption of new technologies further strains the engineering design of component manufacturers. More importantly, new materials and processes mean quality and reliability issues must be routinely analyzed.

• Lack of in-house capabilities. Supporting innovation in equipment design without in-house capabilities is often difficult. In addition, there is a “long tail” for aftermarket service and refurbishment jobs in the equipment life cycle. The capability gap is likely to increase as design engineering in the capital equipment industry increases.

To address these challenges, the manufacturing industry is searching for future growth and profitability by incorporating new advances in scientific technology, industry-wide collaboration in research and development (R&D), innovation in engineering, and investment in high-growth emerging markets.

Existing operating models often limit a company's choices, as legacy conflicts and inefficiencies scatter efforts, resources and management's attention. Often, they limit the company's agility. An agile enterprise that can respond to market trends and implement strategic choices can be supported through a scientific understanding of GBS operating models and process performance to serve key business functions such as finance, supply chain, sales and marketing.

A solid first step for an industrial manufacturing company is to simplify complex layers of local, regional and global functions by eliminating decision-making and production processes that have become redundant.

Industrialized operations help access new growth opportunities, create resilience to hostile market or regulatory conditions, and facilitate enterprise-wide product and business model innovation. They also enable faster innovation in volatile marketplaces.

Increasing the size of a large operation by 20 percent (or strengthening business infrastructure in a new country) typically takes a year or two, but industrialized operations can often achieve this in half the time. When the scale of business process services is increased by a factor of 10, the GBS model can deliver a 50-percent savings in cost per transaction. (A leaner, more predictable cost structure also enables resilience and consistent global application of best practices.)

Figure 1. Significant potential exists for “industrializing” operations within industrial manufacturing.

Figure 1 reveals significant industrialization potential within industrial manufacturing, which has largely focused on specific components of engineering R&D but not enough when it comes to industrialization and inclusion in global shared services thus far. The figure also shows up to 50 percent additional potential to industrialize general and administrative (G&A) support, up to 25 percent of marketing and sales (through sales and marketing ops analytics), and up to 30 percent of procurement (through sourcing and direct/indirect procurement support).

A closer examination of the Everest Group's global in-house centers (GIC) data further validates the point. Facilities and administrative (F&A), HR, IT, and customer-care functions are much less industrialized compared to engineering R&D and the same functions in other verticals. Moreover, most companies manage only specific components of engineering R&D, mainly technical documentation and CAD/CAM design, from their captives.

Similar trends are evident for other manufacturers (automotive, chemicals and consumer electronics), which show a less than optimal industrialization of business support functions through their captive units. Industrial manufacturing and similar archetypes could look to consumer goods and the success it has derived by industrializing back-office support and key sales and marketing activities.

Figure 2. Significant variance exists within industrial manufacturing on GBS adoption.

Different sub-verticals within industrial manufacturing display different propensities toward managing shared services operations and outsourcing. Figure 2 shows high variance overall with oil and gas OEMs ahead in shared services adoption and outsourcing when compared to automotive and other industrial products.

Figure 3 illustrates the unrealized potential that industrialized operations can help accrue to industrial manufacturers and their various sub-verticals.

On average, industrial manufacturing companies spend up to $300 million on service-type operations that can be industrialized. Other manufacturers, such as automotive companies and medical-device manufacturers, can collectively industrialize up to $1 billion on average from service-type operations.

Figure 3: Manufacturing companies can realize significant benefits by industrializing service operations.

Evolving Through the Maturity Curve

GBS implementation typically follows three phases, with focus and achievements shifting over time from foundational (often cost-driven) activities to more strategic ones. A typical company's full realization of benefits using the global business services model is achieved when the company moves beyond the first two phases, which can take between five and 10 years.

However, forward-looking organizations have successfully shortened the path to return on investment (ROI) with a well-defined target operating model, strategy and execution roadmap.

Figure 4. The full benefits of GBS are realized after the foundational stages are completed.

Further analysis of the data in Figure 5 shows that manufacturing companies are lagging behind their counterparts from life sciences, consumer goods, and banking and financial services on their scope of work delivered in mature shared services — in-house or outsourced. The result is slower than average progress on attaining GBS maturity and a lower than expected ROI.

Figure 5. Maturity of practices can enable catch-up and eventual leapfrogging in the manufacturing GBS.

Higher-touch Operations

Early efforts to commoditize, standardize and outsource business processes focused on routine, repetitive back-office services such as payroll processing, help-desk operations and accounts payable tasks. Later, routine but low-touch promotional, budgeting, reporting and information technology front-office services were added to these efforts. Now, the industrial manufacturing industry is increasingly outsourcing key components of engineering services such as fundamental research and new product development support.

Figure 6. Manufacturing shared services is expanding in scope to include non-commoditized, core industry processes. The combination of process, analytics and technology delivers a far superior outcome.

Industrializing high-touch support operations have enabled manufacturers to more quickly market, improve design specifications, improve asset availability and realize higher service revenues. Some successful examples would include an improved equipment uptime for a leading nacelle supplier by improving maintainability design, a two-month reduction in time-to-market through redesigning a combustion trapped vortex for an energy OEM, a $1.2-million savings for a leading aerospace component manufacturer by optimizing product design, and a $15-million enhancement in profits for a global aviation company through contract profitability analysis.

Combining Strategy with Process Delivery Granularity

Scientific understanding of business processes, such as smart enterprise processes, has significantly increased, allowing organizations to correctly estimate the end-to-end business impact of target operating model choices, hence facilitating effective design. Still, some have discovered that building out GBS capabilities can be more difficult than anticipated. This variability across scope, location and delivery models suggests that while broad-brush strategies and comparables have a place in this process, each business case is heavily dependent on the feasibility of the operation's DNA.

A thorough analysis of the four dimensions shown in Figure 7 is critical for selecting the right target operating or delivery model.

Empirical experience and a significant level of granularity help craft the right strategy for a target operating model. A structured approach is recommended, such as:

1. Review the as-is state and rationale. Understand the current state of performance, identify candidates for improvement, and review the process and sub-process practices.
2. Identify top improvement opportunities. Use best-practice metrics and frameworks to benchmark key areas, identify top areas for improvement, assess the feasibility and risk of options, and conduct a preliminary analysis of benefits such as cost, efficiency or effectiveness.
3. Identify delivery alternatives. Assess options for consolidating processes into internal global shared operations, externally sourced operations or a combination.
4. Determine change implications. Outline both financial and risk-related implications for each location and structuring option (e.g., various types of risk).
5. Build the business case for each alternative. Compile a high-level business case that encompasses process improvement, organizational structuring options, location choices and change implications.
6. Develop a detailed roll-out plan. Develop a roll-out plan to reach the targeted operating model by process and by location.
7. Build the final business case. Identify emerging options for each process and develop financial and implementation plans.

Figure 7. Actionable choices patterns emerge by triangulating four themes.

A Viable Operating Model

The industrial manufacturing sector is undergoing a complex, transformational change. However, the fast-evolving technology, local regulatory burden and increased competition can actually offer opportunities for growth to companies that find ways to invest in new business models.

Business agility in times of unprecedented volatility is an imperative that requires a more strategic role for business operations. Additionally, embracing new operating models can create organizations that not only are more resilient but also can compete best in times of volatility.

For organizations looking to redefine their operating models, a significant amount of specialized knowledge is needed to navigate the continuum of design choices. In such a focused field, the strategy must leverage the experience curve of large organizations' journeys over the past decade. Although industrial manufacturing companies' operations present challenges unique to the industry, they benefit from the knowledge accumulated in the industries in which the transformation began earlier. Combining this experience with a clear understanding of an organization's strategic needs, capabilities and industry context can help craft the right strategy for a target operating model.