At your service

In so many ways, manufacturing's not what it used to be. Not as big, not as heavy, not as dirty. And, importantly, not necessarily confined to a factory floor with raw materials or components coming in at one end and finished goods leaving at the other. So, if manufacturing is no longer just about making things, perhaps we should re-define it; re-set the parameters within which the statisticians measure its success and its relative contribution to the economy. Or if that's too difficult, maybe we should just call it something different. Earlier this year, the leading independent think-tank that used to be called the Industrial Society and is now The Work Foundation came up with 'manu-services'. Hardly likely to set the world alight and not exactly elegant, although the concept is worthy of consideration if only for the fact that the Foundation suggests such an epithet may represent Britain's best hope for the future. Its report, Manufacturing and the Knowledge Economy, argues that with the UK's strength in financial services in question, an upturn in the country's economic fortunes may depend on those high- and medium-tech manufacturing businesses which have also developed strong service portfolios on top of their traditional product offerings – the 'manu-services' sector. Ian Brinkley, an associate director at The Work Foundation, says: "The question needs asking – what are we going to live on in the future? Modern manufacturing is once again facing a battering from the recession, but it would be a big mistake just to write the sector off. We need to preserve as much of the industrial base as possible because once it is lost it is near impossible to get back again. Despite the mythmaking around the demise of manufacturing, the sector remains extremely important for jobs, exports and GDP." Manufacturing and the Knowledge Economy describes the transformation of manufacturing over recent years. The old way of separating manufacturing and services does not now reflect the inter-connected, interdependent nature of modern manufacturing, it says. Companies such as Rolls-Royce make as much, if not more, money from service contracts, sales of licences and hours of flight time on their engines as from the engines themselves. Car makers run finance houses; and pharmaceutical companies offer healthcare services as well as drugs. Such manu-service industries are typically adaptable, highly profitable and very knowledge intensive. The report reminds us that in the UK, the share of manufacturing in total value-added declined from 35% to below 15% between 1970 and 2005, whereas the share of 'knowledge services' rose from 23% to 46% over the same time. However, a key driver behind the growth of knowledge services is manufacturers adding services to their primary manufacturing function. Frequently, products have become relatively cheaper as services have become more expensive. High- to medium-tech manufacturing is producing nearly as much added value to the UK economy (10%) as high-tech services (11%). And with the pound so low against other major currencies, exporting opportunities – at least in theory – have never been so competitive. Despite a current propensity for the world's buyers of manufactured goods to keep their wallets in their pockets, this is welcome news, since 70% of all manufacturing exports came from high- to medium-tech 'knowledge economy' manufacturing sectors. Tom Lawton, head of manufacturing at business advisors BDO Stoy Hayward, is another close observer of the sector who says: "Manufacturers offering services as part of the overall manufactured product certainly seems to be a trend that has picked up steam over the past two or three years and, I think, will continue to pick up steam." It's important, he says, because even though sterling's relative weakness against other world currencies makes overseas outsourcing options less attractive than they were, "we are still struggling to compete with low-cost economies in terms of basic manufacturing, so where manufacturers have to be is at the value added end. And that tends to be around a service provision of some kind or [occupying] a specific niche." While, as Lawton says, the trend towards offering through-life or after-service may have accelerated, it is certainly nothing new for the likes of Rolls-Royce. As Cambridge University's IfM pointed out in its report High Value Manufacturing five years ago, half of the aero engine maker's revenue came from services. "While still investing heavily in R&D and engine production, Rolls-Royce generates its revenue through service contracts – power by the hour. In this way it has become a service-led producer." But another, arguably lesser known, giant of the world of defence contracting has gone further. While, as a publicly accountable plc, it employed no stealth in the matter, VT Group quietly grew its service offerings until they reached towards and then beyond 80% of its total £1.2 billion revenue. Now that has become 100%. Chief executive Paul Lester picks up the story of the company that is still better known as Vosper Thorneycroft, the pre-2002 name that echoes its shipbuilding heritage but which, driven by its diversification programme, it ditched in 2002: "Next year is the 150th anniversary of the company – from when we started building ships – so it's quite strange in that anniversary year we won't be building ships any more. "It was about 10 or 15 years ago that, driven by the fact that the number of military ships was diminishing, the company started more seriously identifying the repair and maintenance of military ships as being a marketplace," he says. "The company started looking at the repair and maintenance of other military equipment as well, so when I joined six and a half years ago there was a good foundation of engineering capability that was being applied to what I call the services model – that is, looking after other people's assets, from aircraft to ships, and including some complicated infrastructure for the military." VT had clearly gone to a lot of trouble to convince the Ministry of Defence of the folly of having two competing naval shipbuilding businesses – itself and BAE Systems – competing in the global marketplace, forming a joint venture with BAE and taking on the building of the Royal Navy's new generation of destroyers and giant aircraft carriers. Why, then, did it perform such an apparent U-turn? Lester explains: "When we did the strategic plan, we recognised that shipbuilding is a very lumpy business – while you've got work the place is buzzing, but when you deliver them, they're gone. And when we looked at the next 10 to 15 years we could see a good build-up in shipbuilding but then it would go into one of its declines after the carrier programme. So we speeded up the growth in our services business to a point where it represented 80% of the company's turnover. That was the original strategy; to minimise the peaks and troughs of shipbuilding by making that the smallest division and making services the biggest division. "We reached a conclusion two or three years ago that exiting from shipbuilding ought to be considered as an option. And the joint venture that was agreed two years ago became the vehicle for our exit in a very orderly manner – we had an option to exit after one year and BAE had an option to buy our share after three years. It took us over a year to put the deal together because of MoD approvals and the fact that neither of us wanted to do it until after the order for the carrier came. That was the bedrock of the new business and without that there wasn't a business." All well and good, but that still doesn't quite explain VT's volte-face. What changed from making manufacturing ships the smallest part of the business to no part at all? "What's changed, is the world," says Lester, who explains quite candidly that even for a company with limited debt and as strong a balance sheet as VT, it is very difficult to raise cash. The answer to a request to its bankers for funds to make more acquisitions would either be no or a very expensive yes, he explains, "and our shareholders would think we had gone mad". Now, however, sitting on a potential £380 million from BAE means getting cash onto the balance sheet this year, and using it to acquire what Lester believes will be some good companies in the next 12 to 18 months. "Companies with cash will be king; we want to go and buy some more service engineering-based companies that are located in the UK so we transform ourselves finally into a 100% engineering services business." If VT is jettisoning manufacturing, Lester insists it's not throwing engineering overboard, too. "Engineering is still absolutely core to our service offering," he says. It keeps 35,000 vehicles on the road for the likes of the Met Police, British Airways and the MoD and manages the logistics – getting the right vehicle to the right place at the right time – on a massive scale. It does the same for the MoD's 250 aircraft, providing logistics and total engineering, repair and maintenance support. Using the same model in the US, it upgrades navy submarines and surface ships. VT also concluded that training engineering skills was a big market too, so it took its in-house skills and applied them to the external market to the point where VT now trains all BMW technicians and engineers and VW engineers, as well as handling modern apprenticeships for up to 5,000 youngsters. "All in all, it's been a managed transition," says Lester although he admits that it's not been trauma free. "It's a bit emotional for a lot of people because it's a tough thing to get your head around, particularly for senior people – people on the board who've been here a long time – but logically and business-wise everybody agreed it's the right thing to do." Engineering is also at the heart of a very different kind of manufacturing business but one with a heritage every bit as famous as VT's. e2v technologies is a plc spun out of the old Marconi empire. With 700 engineers among its 1,800 employees, e2v is into space imaging, electron devices, specialist semiconductors and sensors. "It's a very engineering-based business and we rely on that knowledge base," says the company's Andy Bennett. Its model, with R&D at one end and through-life service at the other, could also be a template for others seeking less reliance on the shopfloor. Bennett cites work that e2v is currently doing with the European Space Agency's (ESA's) Gaia satellite project to map the galaxy, looking for new stars and new planets. In such a case, he explains, e2v sits down with ESA to define what new imaging sensors are required to do, then goes away to work out what can be achieved to that end and how much it's going to cost. Out of that project, which will last many years, will come a new family of imaging sensors for which e2v will effectively own the IP (intellectual property). "We were contracted by ESA to build the imaging devices for the satellite before they placed the contract for the satellite because it was that important," boasts Bennett. "Without the imaging devices it's a blind satellite; a blind piece of metal flying around the earth. "So we look for work where we really can add value, really can add our expertise. And that has enabled us to work up through the supply chain – it stops us just becoming a supplier of image sensors. We start from the beginning; developing the solutions to what ESA is looking for from this satellite. Yes, ultimately we design, build and deliver [the imaging devices], and beyond the delivery we will be working with ESA to make sure that the integration works properly with the rest of the satellite; that the performance is right, all the way up to the point at which the thing flies." It's the sort of work that currently represents about a quarter of e2v's business and the company is looking for opportunities to do more of the same. "The principal of us working in more of a partnership mode with customers is one that is increasing," Bennett says. Even some of the not-so-cutting-edge things that e2v has done well for 60 years provide opportunities to work in different ways with customers. "Things like service contracts are a good example. We're working with some customers where instead of providing them with our product, we'll provide them with a service that will keep their equipment going for a year at a price," he adds. And there's always been the spares market – although that's not quite the case with orbiting satellites. They're a bit far away for regular on-site servicing.