Does your financier support the financing of your service agreements? – United Finance

Does your financier support the financing of your service agreements?

According to the national accounts, service exports were valued at approximately 23 billion euros in 2016, or 30% of the total export revenue. In July 2016, the Taloussanomat business newspaper published a headline saying that Finland’s exports continue to decline. The statistics are typically based on figures regularly provided by the customs regarding the development of goods exports. In 2015, 15% more services were exported from Finland than in the previous year. Service exports are faring better than goods exports and, in terms of the leading countries in service exports, they already exceed the value of goods exports.

We can look around and see that the industrialisation of Finland, which began with the introduction of the steam engine in the 1840s, and the development resulting from the years of war reparations after the world wars from the consolidation of the national economy to the manufacturing industry and goods and technology trade has gradually begun to shift towards a national economy centred around trade in services.

Service business activities have had to live with and largely adapt to an economy shaped by the manufacturing industry and the goods trade. In practice, service business activities have to utilise financial instruments that were originally designed for moveable assets, the consignments of raw materials and the technology trade.

As a case in point, leasing and rent models support the trade of physical items between parties. Already since the 1990s, the IT sector has had to find a balance as it tries to adapt financial instruments that support the financing of material goods to business activities that focus on services or immaterial products, such as software, licences or cloud services.
The statistics show the fact that business is developing towards predominantly service-based activities through added value services that are productised even further. The share of material technology, raw materials and hardware in service business deliveries is decreasing in relation to immaterial added value services or software/licence-based products.

The situation has been managed by adjusting previous, existing models, such as leasing, to meet current needs. In addition to material assets, the aim is to package an increasing number of service products to form a solution that can be financed. We speak of the true content of a delivery, hardware vs. services or the “iron content” of a solution. We have created rules and models, such as 50/50 or even 70/30.

However, we should acknowledge that soon this will no longer be enough.

Service business requires financing models specifically designed for it. Currently, service business activities suffer from a defect, one that is considered to be beyond repair, whereby a service provider can only enter its margin as income during the total period of a service agreement, as it invoices the end customer.

However, service business also has a need to enter income and optimise the cash flow. At present, service business activities have been labelled a privilege of those with a strong balance sheet, to practice, in many cases, an even more high-margin service business than in the manufacturing industry or product/technology sales (a good example is the elevator industry of Kone), which, however, can only be entered as income at a slow pace. For many, this is too costly or distributed too far into the future (the launching costs of service business activities combined with slow income entry).

Another special feature of service business activities is the business risk and its management. The service provider has to live with this business risk, which is part of the service production process; the end customer may cancel the service order in the middle of a contract period.

Old instruments, such as traditional leasing, do not go well with these qualities either. After all, leasing does not involve the right to terminate a contract, a guarantee or an SLA that would protect the buyer on the one hand, but also take the service provider’s view into consideration so that the service provider could enter contracts as income.

Welcome to the era of subscription leasing!

Matias Similä

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Matias Similä

Kirjoittaja Matias Similä on kokenut yritysrahoituksen ja taloushallinnon konsultti. Matias toimii United Financessa Myyntijohtajana. Matiaksen aiempia työtehtäviä ovat olleet mm. aluevastuullinen rahoituspäällikkö Pohjola Pankissa, OP-Ryhmässä ja Business Development Manager, Financial Services TeliaSonera Finland Oyj :ssä.

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