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Determining Field Service Profitability by Michael Israel

Determining Field Service Profitability

Field Service

Not too many years ago, field service was considered a cost center, kind of a necessary evil, if you will. But in the past decade or so, companies have discovered that field service offerings can be profitable and must be. Today the field service entity is a very significant contributor to revenue and overall profitability. As a result, it has become more and more critical to accurately calculate and predict field service profitability and do so on a regular and timely basis. 

Following are some insights into calculating field service profitability and recommendations on factors to consider when calculating service profitability.

It is essential to establish field service operations profitability based on

  • service contracts 
  • separately for time and material (T&M) services
  • and overall field service profitability

When calculating profitability for service contracts, it is essential to determine each individual contract’s profit or loss. Moreover, it will be crucial to pinpoint the components of each contract contributing to excessive service costs and reduced profitability. For example, are contracts covering a particular model or a specific type of equipment generating disproportionately more cost and less profit than other agreements not covering those products?

Service contract profitability analyses should be calculated based on the total service revenue and costs for the entire duration of the contract, but also at periodic intervals. For example, it is essential to understand a service contract’s profitability once it has expired. Still, it’s also important to periodically measure the agreement’s profit/loss (P/L) while the contract is in force so steps can be taken, when possible, to mitigate high costs during the remaining contract term.

Accurate historical data about contract profitability is essential in determining pricing levels for contract renewals and future contracts. It will also be necessary to thoroughly understand the maintenance costs associated with each individual piece and type of equipment to be covered under a new or renewed contract. Other considerations will include the terms of coverage, such as hours and days of coverage, service or parts discounts, full-service coverage offerings, SLA (service level agreement) and outcome-based commitments, payment schedules, and other variables.

Determine service contract profit or loss for each individual customer as well. Some customers will be fastidious about caring for their equipment, others not. Some customers will call support or request repeated on-site service, others not. Customer behavior and propensity to require support must have some bearing on service contract pricing. 

Analyzing past customer behavior to predict future expected behavior is essential. Seasonal factors also play a role; equipment operated in a dusty and excessively dry or humid environment will need more maintenance than the same equipment used in a climate-controlled environment. Those factors must also be considered when pricing new or renewed service contracts. 

Having determined the profit or loss information about individual contracts and customers, it’s imperative to aggregate that information for different segments of the organization. For example, service contract profitability should be determined, as appropriate, for each office, each area, territory, or region, for each type of contract, and other identifiable contract groupings.

Service contract profit and loss calculations should encompass the following factors at a minimum:

  • Total service contract revenue
  • Periodic contract revenue booking schedule (for periodic P/L calculations)
  • Fully burdened labor costs
  • Overtime costs (if any)
  • Spare parts usage costs 
  • Inventory carrying costs
  • Other materials costs, such as lubricants, cleaners, chemicals, etc.
  • Travel expense costs associated with delivering service
  • Administrative and management overhead costs
  • Other corporate cost allocations (if any)

Why is it important to track service contract costs? Aside from the fact that companies expect service contracts to be profitable, there is valuable insight to be gained through analyzing the service costs associated with a contract. Let’s explore a hypothetical example, one that could easily occur in the real field service world:

Suppose we have an annual maintenance agreement with a customer for full-service coverage on a specific piece of manufacturing equipment, such as a computer-controlled lathe machine. The price to the customer for the annual maintenance agreement is $8,000, which is to be paid in advance each quarter, so $2,000 per quarter.

Suppose the fully burdened cost to provide regularly scheduled preventive maintenance (PM) and repair service on this equipment during the first quarter is $3,000. Is that bad news? Maybe, maybe not. We’ve exceeded the Q1 revenue booking by $1K, but there are nine months left in the contract, and we don’t know at this point what the service costs will be for the duration of the contract. It’s entirely possible, even likely, that the field service cost for the remaining nine months will be significantly less than the $3K cost in Q1, making the service contract profitable overall.

But now, let’s explore why the costs were unexpectedly high in Q1. This is where the ability of field service engineers to capture accurate and thorough data becomes critical. If they don’t have the right mobile technology to do so, detailed analyses of the potential causes of the cost overrun are impossible. Field service mobile applications, such as the Zuper mobile app, provide this capability.

So, drilling down into the cause of the unexpected service cost, we may find that one particular part failed multiple times, requiring replacement each time. Or we may find that the technician most often dispatched to the customer had to call for backup support too often, doubling the cost for on-site visits. 

Or we may find that the customer himself was not performing the appropriate self-maintenance as instructed, such as lubricating some of the mechanical components as recommended. Or we may find one or more other factors contributing to the cost overrun. Having identified the root cause of the unexpected service costs, we can now take action to avert these costs going forward. 

We can advise manufacturing/engineering about the frequent failure of the specific part so they can create an engineering change if needed; we can train the field engineer(s) more thoroughly so they don’t have to rely on backup support as frequently; we can further instruct and implore the customer to be more diligent about performing the self-maintenance routines the equipment requires, we may even caution them that continued lack of attention to this matter will result in a service contract price increase.

The critical point is this analyzing costs associated with service contracts is not only essential for securing service contract profitability, but it’s also indispensable for identifying processes, trends, and other complications that need to be addressed. And each time one of these negative factors is identified and corrected, the profitability of the service contract is further secured. Perhaps even more importantly, customer satisfaction and brand loyalty are strengthened.

Time and material pricing and the resulting profit or loss can be determined based on many of the same factors. Do seasonal factors contribute to the need for frequent service? Is the equipment located in an environment that would tend to cause excessive wear and frequent need for repair? Does the customer do their part to maintain their equipment properly, or are they needlessly careless or thoughtless in caring for their equipment, etc.?

Having determined overall service profitability, including service contracts and time and material services, it’s imperative that field service executive management can view the overall picture and drill down into specific details. Such visibility empowers senior and line management to collaborate and strategize on developing service pricing policies and practices to deliver optimal profit while simultaneously strengthening customer satisfaction and loyalty.

Service contracts should be, and in most cases are, profitable. Studies done in the past by organizations such as the Service Council and Technology Services Industry Association (TSIA) have consistently shown that service frequently contributes 25% at a minimum, and sometimes much more, to corporate revenue and often provides 40% to 60% of corporate profits. Service contracts represent a significant part of that contribution.

Field service is no longer just an obligation; it’s now an “absolutely gotta have” profit center. Service contract revenue potential – No, the reality of service contract revenue contribution is a big reason for that transition. 

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