China is known for manufacturing half of the world's microwave ovens and a third of its television sets, but its economy is now shifting toward services. Indeed, recent figures reveal that 93 percent of the sharp increase in China's gross domestic product in 2004 was attributable to its growing services sector.
Moreover, services expansion is getting official government backing in such places as Shanghai, whose economy is already 50 percent service-based. This should be a wake-up call to Korean industries, Japanese, too, which have thrived by exporting infrastructure components to help rapidly build China's manufacturing base.
Simply put, China's Asian suppliers will soon have to find a new source of growth. Services seem the ready answer.
The logic is compelling: across the globe, the five-year sales-growth rate for services is nearly double that of products; for earnings, the rate is more than double.
Clearly, there's a lot of money to be made in services. Understanding this, Korea's and Japan's financial sectors are already investing heavily in people skills and technology for such service-intensive sectors as asset management, rather than going head-to-head with low-cost global giants in the consumer banking sector.
But Korean firms must factor in the fact that services sink or swim based on their customer knowledge. These firms are outstanding as original equipment manufacturers for products bearing Japanese, American and European household names. But they are an ocean removed from end-users in the West. They have, however, proved they are good at understanding what Korean customers want.
For example, LG now puts Internet connections in its refrigerators sold in Seoul (which has 80 percent broadband penetration), so home-owners can program online re-ordering of food. SK Telecom―Korea's largest mobile communications company―offers features that let you shut off your gas, unlock your door to visitors or control your lighting from your handset.
And some Korean manufacturers, like automaker Hyundai, are beginning to offer services related to car sales abroad.
Yet even as such firms learn the services ropes, they should be aware of the slim odds of success: Most product companies that enter services don't meaningfully outperform their "pure play" product counterparts in revenue growth, stock performance and profit margins.
A recent Bain & Company survey of global manufacturing executives found only 21 percent of product companies felt their service strategies had met expectations for sustained, profitable growth. Nevertheless, it can be done.
The experience of firms that have successfully moved from products into services, such as HP, IBM, GE and others, reveals four keys that Korean companies can use to unlock their own manufacturing service economy.
First, they should use services to complement strong products, not to fix weak ones. Companies that launch services to protect underperforming products are three times more likely to fail, according to our research. Service moves tend to pay off most for market leaders.
Take Keppel Offshore & Marine, which started out as a Singapore shipyard that repaired small- and mid-sized vessels. Today, Keppel has become a global leader in ship repair, shipbuilding and ship conversions, as well as the construction of offshore oil rigs. Carefully gauging each step from its strong core, Keppel moved from fabrication to engineering and development, as well as providing supporting services (such as heavy lifting and outfitting).
Second, companies should avoid aiming too high. Companies planning to offer high-value services need to ensure that customers will reward the value added.
For instance, Hyundai benchmarked against GM and Ford before establishing Hyundai Capital and Hyundai Card. And, it took manageable steps: beginning with installment financing after Hyundai Capital's founding in 1993, expanding into auto leasing and used-car loans in 2001 and introducing a total set of services for auto purchasing and maintenance the next year.
Third, the companies shouldn't assume production expertise is transferable. Hyundai, which initially assigned 'product' people to service jobs, quickly began recruiting from financial services firms, and recently formed an alliance with GE Consumer Finance, to gain needed expertise. Understanding which services are profitable, Samsung outsourced its nitty-gritty consumer-products service business to the United States and Europe, but retained such value-added offerings as IT-consulting and computer disaster-recovery services to large clients around the world.
Finally, companies that successfully make the transition understand that they need to be clear which offering is foundational to which customer relationships.
Consider German software maker SAP. In the early 1980s, it began providing basic "break/fix" software services. Later that decade, it added consulting services, and in 2000, hosting services.
The company worked hard to communicate to customers and partners when products would take the lead and when services would drive the relationship. With this coordinated approach, SAP created a profitable growth path that strengthened customer relationships while providing deep insight for next-generation product development.
Despite a decade-long boom in services among Western firms, many Korean product companies have yet to expand into this lucrative area. But as they continue to migrate their own manufacturing needs to China―and even less expensive places such as Vietnam―services will only grow.
The trick will be to understand exactly which offerings customers consider real services.
Sunny Yi, based in Seoul, is a partner with Bain & Company and a leader in the firm's Asian financial services practice. Savi Baveja, in San Francisco, is a partner in the firm's global technology practice.