How To Manage a Spare Parts Business for an Industrial OEM

For many industrial OEMs, spare parts sales are the largest contributor to their service revenue. Even if they offer a broad spectrum of service products, their spare parts are still critical to the value they deliver to their customers. That is why is about how to manage a spare parts business for an industrial OEM.

Defining a Spare Part

Spare parts fall into two broad categories:

1. Field replaceable units (FRUs) are used to restore the equipment to operational conditions or to upgrade it to a higher level of value delivery. The equipment is either in the end user’s possession or at a local repair shop, and minimizing downtime is always critical. Examples include robotic jaws, power supplies, internet routers, and automobile parts, including engines and transmissions.
2. Depot or factory-replaceable units are used for major remedial or proactive work on equipment removed from use on a temporary or permanent basis. Minimizing downtime is not usually an important concern. Examples include performing a scheduled major overhaul on a giant Caterpillar truck that takes over seven days and extends the truck’s life for another 20,000 operating hours. Another example is repairing a control assembly for a CNC that failed and has been replaced by a different unit. The returned unit will be repaired, updated to the most recent revision possible, and returned to stock for future use.

Note: Unless noted, this article assumes we are talking about FRUs since depot repairs are usually scheduled far in advance, and alternate plans have been implemented to minimize the expected equipment downtime.

The Importance of Available FRUs to Customers

Customers buy your products because they need and want the outcomes they will get from using them. If the product works as expected, the customers are satisfied. But when it is not producing the expected outcomes, they are dissatisfied, and every time they walk by it and see it just sitting there, their dissatisfaction increases even more. The only exception is if your company offered them a service contract with a guaranteed restoral time, and they declined your offer. Generally, it will not be necessary to remind them about the decline unless someone starts acting up.

Once the product is back in production, you should offer the original contract again. This might be an easy sale.

If Not the OEM, Then Who?

When I ask clients, “Who do your customers buy their spare parts from?” I usually hear, “From us, of course.” I then proceed to show them this list of other sources:

• eBay – You should go on eBay, search for your company or product name, and see what, if anything, is offered for sale. Prepare to be surprised. I was when I looked up Yaskawa Motoman, a popular industrial robot. At the end of January 2021, 1,964 results ranging from a pre-owned Yaskawa Motoman Servo Drive Circuit Board JUSP-ACPCB25JAA at $29.99 to a pre-owned 2015 Yaskawa Motoman KMT-HP20D-DX100/50 DUAL ROBOT WATERJET CELL at $199,920.00
• Equipment auction sites—I Googled ‘Industrial Equipment Auctions’ and received 39,100,000 results, including Hilco Industrial, which seems to have everything industrial. Comparable sites specialize in analytical instruments and semiconductor manufacturing equipment, so keep your eyes open for your products.
• Industrial distributors—If some of your spares are commercial off-the-shelf items, your customers can buy from industrial distributors and probably save money and time by picking the part up or getting same-day delivery.
• Other customers with your equipment – In some geographical areas with a concentration of your products, your customer’s purchasing or maintenance management has informal connections with their local peers to help each other out in an emergency and reduce spare parts holdings.
• Former employees who left your employ with some extra parts—this should never happen, but you never know.
• Non-authorized parts manufacturers and sellers—During a recent engagement, I spoke to one of my client’s customers and learned they took a few wear parts with the same part number to a local shop and had the part duplicated. The customer saved hundreds of dollars per item and purchased in quantity so they would never run out and pay retail prices.

Spare Parts Business Challenges

Running a spare parts business within a manufacturing company has unique challenges and things that should be looked at only once. The second category includes order entry, confirmation, packing, and shipping. In this list, the only item that requires a few minutes of thinking is the cardboard box that the item goes into for shipment and delivery.

Some companies save all the boxes they receive and recycle them for spare parts shipment, but I do not recommend this at all. People are spending serious money to buy a genuine replacement part from you. As soon as the package arrives, the receiver and anyone else who touches the package should see your logo and a statement about a genuine spare part on the outside of the box. Yes, it is more expensive than reusing a box, but this is called marketing, and it is a worthwhile expense.

If your spare parts business is large enough, you probably already have or are considering an automated e-commerce portal on your website. This minimizes many back-office problems but does not address the items listed in the following section.

Inventory Planning

Spare parts planning is different than product planning.

• Demand is unpredictable
• Lead time is zero — most orders are expected to be shipped within hours of being ordered.
• Revision level frequently matters.
• Sometimes, the service function can borrow or buy a spare part from production in an emergency.
• Sometimes, the service function will be asked to supply a part to production in an emergency.
• Customers and agents frequently discover they have excess stock and want to return it to the OEM. This is good for the relationship, but excess inventory can be moved from one company to another. There is also the question of how much to charge as a restocking fee.

Spare Parts Inventory Is a Company Asset

• The best I can say is, “Never disappoint a customer but never have to write off spare parts inventory.”
• Work hard to keep the inventory level smaller than most manufacturing inventory accounts so that when you have to write off some parts, it will not be significant enough to spotlight the spare parts business.
• Valuing returned parts when put into inventory could be tricky. Make sure your controller or CFO makes the valuation decisions and approves write-offs.
• When your company declares the end of life for a product, the service department is still responsible for supporting customer-owned products. Frequently, the manufacturing department decides that rather than scraping newly obsolete parts, the better choice is to transfer them at book value to your service team (for their spare parts business.) Remember the first bullet in this section and invest the correct amount of time to give you the best chance of achieving that objective.

Determining Appropriate Pricing

This table should help you categorize all your spare parts. The column titles have been slightly modified from Optimize OEM Aftermarket Revenue by Clearly Categorizing Your Available Parts, published on Thomas Insights last June. I use a different scheme for the categorization in the left column, but you can use whatever works in your business.

1. The customer maintains stocks or orders as needed.
2. Parts kits for a specific machine used to resize or reconfigure the equipment and usually include a proprietary part

The person or people responsible for pricing your spare parts should assign a range of acceptable margins for each of the 15 boxes. As a rule, proprietary parts should generate your highest margins (as high as 80% or more), while your easy-to-find commodity parts are the lowest (as low as 10% to cover internal costs, the convenience of one-stop shopping, and a single invoice). If you sell new and refurbished parts, there should be a significant price difference between them.

In spare parts pricing, you must distinguish between your customers accusing you of highway robbery and your CFO saying you are leaving bundles of money on the table. And remember that under normal conditions, it is much easier to reduce prices than to increase them. Finally, exceptional circumstances make these two rules obsolete.

Prices should be updated at least annually and possibly more frequently if economic situations are causing major price fluctuations in your industry. For example, if some of your consumables are petroleum-based and the oil price increases from $40 to $80 per barrel, then a price increase will be both expected and accepted. The converse is also true.

Designing Failures Out of the Product

While some OEMs do not request the return of FRUs removed from their products, others are anxious to receive them back. These defective parts are analyzed by reliability or failure analysis experts to identify the root cause of the failure. When there is enough evidence that an item can and should be redesigned to prevent future repairs, the company produces a new part that is form, fit, and function compatible with the old one. The new part can either have a new part number or a new revision to the older part number.

When this happens, there are two consequences:

1. The end user’s product reliability increases, their downtime decreases, and if they are not paying for a service contract, they save money on spare parts purchases.
2. The OEM sales team can talk about increased uptime and a strong continuous improvement process. This has the potential of increasing new equipment sales. If they sell service contracts that include replacement parts, they increase their profit margin. But if you only sell spare parts when the customer needs one, the OEM loses these sales. The enlightened decision for the OEM is always to improve their products and find other ways to recoup the revenue lost from fewer parts sales. This is the difference between a partner and a vendor.

For example, on January 29, 2021, CNBC published an article about how Tesla increased its service capabilities to fulfill a 2018 promise. Long-time Tesla Vice President Jerome Guillen said, “For us best service is no service. So, we spent a lot of efforts trying to improve the quality and the reliability of our cars. In the last two years the frequency of service visits are reduced by one-third, so customers must come less frequently into service, which is really the goal, no service.”

To put things at Tesla into perspective, the same article reported: “While Tesla reported $678 million from a combined Services and Other segment during the fourth quarter of 2020, the company does not break out services revenue separately. That segment grew 17% from $580 million in the year-ago quarter.”

Relatedly, Cummins, Inc. announced that it was moving its turbocharger remanufacturing operation to another facility and closing the plant currently used. “The key driver for the decision is that turbochargers are lasting longer, thereby decreasing the demand for remanufactured turbochargers,” Cummins spokeswoman Katie Zarich said in a statement.

For many B2B industrial OEM manufacturing businesses, the spare parts business is central to their value proposition and should be actively managed just like any other important product line.

Click here to read more about the importance of a field service spare parts strategy.

About Middlesex Consulting

Middlesex Consulting is an experienced team of professionals with the primary goal of helping capital equipment companies create more value for their clients and stakeholders. Middlesex Consulting continues to provide superior solutions to meet the needs of its clients by focusing on our strengths in Services, Manufacturing,  Customer Experience, and Engineering.  If you want to learn more about how we can help your organization create or update your spare parts strategy, please get in touch with us or check out some of our free articles and white papers here. 

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