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Disclaimer: This interview is for informational purposes only and should not be relied upon as a basis for investment decisions. In Practise is an independent publisher and all opinions expressed by guests are solely their own opinions and do not reflect the opinion of In Practise.

{audio:0:00:01} Can we walk through the process for selling a new residential elevator in Europe? What is the first stage of the new equipment process?

{audio:0:00:14} Selling new equipment in Europe involves pre-sales or prescription. Engineering offices are defined in the tender book so it's important that you influence the pre-sales. You specify a residential building and the type of elevator in terms of load, number of persons, traffic, speed and number of floors. Once you have done that, there is a request for quotation. From a provider point of view, that request will come from a general contractor in residential.

{audio:0:01:26} Is that when the building is being erected?

{audio:0:01:31} Yes, and the general contractor will request a quotation because he has the specs. More stakeholders are involved with commercial buildings or large residential or office blocks. That means, in the sales process, you will also talk to the client, end user or developer.

{audio:0:02:18} What do general contractors care about for residential elevators?

{audio:0:02:26} General contractors buy a product which fits the tender book as cheaply as possible. They are also interested in the timing and reliability of the elevator company they work with. It is important to have reliability which comes with your local footprint in the market, which differs between countries and even regions.

{audio:0:03:27} Why does footprint matter?

{audio:0:03:32} In Europe, the market sizes differ between big elevator companies and local ones. The delivery of quality work and new equipment is important. Elevator companies have a deeper depth into the market in some countries.

{audio:0:04:11} It’s almost as if social proofing and reputation compounds?

{audio:0:04:15} They have several project engineers for complex projects. As an example, I have been working at KONE which is a new equipment market leader in Belgium and France, but are only fourth in Spain, which is quite different.

{audio:0:04:40} Is that because OTIS is the leader in Spain?

{audio:0:04:45} OTIS and Schindler are leaders but they also have a local player called Orona. Schindler manufactures in Spain, whereas KONE does it in Italy, and this has changed through acquisition as, historically, some factories never belonged to the big players.

{audio:0:05:21} Why do customers choose KONE, OTIS or Schindler in the bidding process?

{audio:0:05:37} One needs to answer to the tender books and spec which has been subscribed. One can deviate from that within certain limits but that has to be discussed. The more complex a building grows, so do the aesthetics and influence of architects. Price is also a major decision maker in new equipment sales. Cross-selling has become more important due to the interconnectedness of equipment with other building management systems and people flow. It can also go with access control, and elevator companies try to insist they go down that route because it increases their value proposition against their competitors.

{audio:0:06:48} How much does that matter to customers?

{audio:0:06:54} It depends on the type of building, but customer experience is very important. Cabin decoration, reliability, maintenance, connected buildings and smooth people flow does matter to some customers. Real estate is a competitive market and it becomes a differentiator in markets like Dubai, where 15-year-old buildings are considered old and difficult to rent.

{audio:0:07:58} Can you elaborate why and how KONE is so strong in Belgium and France?

{audio:0:08:06} KONE has invested in their cultural corporate identity. That affects their employees through their company values, one of which is exceeding customer needs. The customer is at the center of their culture and strategy, but they also let people grow internally by having development plans for personnel collaboration. They developed deep account management practices. Being outside-in driven and thinking of their customer first is quite astonishing. Concepts like net promoter score, customer feedback and all the surveys we know from a consumer perspective, they introduced those in the early 90s. They were very early adopters in B2B business which have come a decade later at other companies. One still feels this very strongly and it is part of their culture.

{audio:0:09:34} How has KONE tried to break into Spain which is a stronghold for OTIS, Schindler and even the local player?

{audio:0:09:45} In Spain, you would consider them more of a challenger in an established market. They can break into Spain by taking care of the customers in their portfolio and build on that. Those include infrastructure and retail customers. They have key account customers which make up less than 10% of their full customer value.

{audio:0:10:38} Are those construction companies or big infrastructure businesses?

{audio:0:10:43} Yes, but I am mainly thinking about the maintenance business. One infrastructure retail customer is Metro Madrid, who they take care of through good account management. Since KONE is a challenger, they only focus on specific regions in Spain where they have a good footprint. Spain has many islands which are difficult because you need to have a critical mass.

{audio:0:11:21} For a retailer, hotel or airport with a construction company who erects the elevator, who has the decision-making power to choose the elevator provider?

{audio:0:11:45} One needs to have deep knowledge on account management because every project starts differently and you need to understand who has the decision-making power. It is better to work with the real estate company, retailer or hotel who will occupy the building, because you can influence where it matters as they will live with your product for a lifetime. The general contractor is only there for a specific period when the building is being erected.

{audio:0:12:40} For new buildings with no retailers, do you deal with a general contractor?

{audio:0:12:59} Do general contractors choose the cheapest maintenance contracts?

{audio:0:13:08} Elevator maintenance is not discussed with the general contractor, who only cares about the price you install the equipment for. This is also valid for our equipment or finishes inside the building; the more end users want the same, the more value you can show.

{audio:0:14:12} How does new equipment pricing work?

{audio:0:14:17} Mature elevator companies try to understand market prices which change both annually and quarterly. It is market-driven and differs by country and region. Somebody always leads the market and defines the price. You don't always understand you are leading the market price because you are driven by sales people complaining that prices are too high. They might not understand while losing some opportunities, you still decide the price. To be competitive on the market price, you need to look at what your cost is to manufacture, install, deliver and commission the elevator. You look at the elevator platform and if you are willing to deliver and sell it at market price, and go for different opportunities. Some you try to sell at a higher price and others at a lower price.

{audio:0:15:53} Are you referring to connectivity and other add-ons?

{audio:0:15:56} Exactly, and within the pricing you go more granular. You try to understand where the sweet spots in the option of your elevator are on certain platforms. Elevators range from six, eight, 10 or 11 persons, and the number of persons and weight is linked by European definition. Some elevator dimensions favor you more than a competitor, and that changes over time. Some years, companies might have a sweet spot for 1,000kg elevators and can be more competitive on price for that specification of elevator. 

{audio:0:16:47} Your margins can be higher than where you are less competitive, and that also works for options. If you want a certain LED strip or high duty or vandalism doors as part of your infrastructure, at some point the competitor is more competitive on pricing with those doors, so you take less margin on those options and more margin on others. Full pricing is a quarterly process because you are looking at the market and finding the sweet spot to reach an average overall margin which is correct.

{audio:0:17:25} How much does the average mid-range residential elevator cost in euros?

{audio:0:17:33} They range between €30,000 and €50,000. That is the installed price which includes one year free maintenance. That differs from market to market, but is the default in Europe.

{audio:0:18:35} How have new equipment margins evolved over the last decade in Europe?

{audio:0:18:43} New equipment margins have not been that high in most European countries. The overall country wide margin of an elevator company is single digit, between 2% and 5%, but specific major projects could be higher or lower, in countries like Israel or the Middle East. In Western Europe, it could even be negative which makes you question why the new equipment business matters to KONE in Belgium. The growth of your portfolio is vital because all elevator companies are maintenance companies. That is the bread and butter of their business.

{audio:0:19:51} How do the new KONE residential elevators compare to European players?

{audio:0:20:04} KONE has a competitive offering of new elevators with a large platform range including goods, passenger and commercial elevators as well as escalators. In the 90s, KONE introduced the machine room where the elevator is introduced into the shaft and doesn't require a specific room. That became the default elevator in commercial and residential buildings and it made them very competitive. Other technologies, such as traction belts instead of classic steel ropes, were introduced at KONE and Schindler, which has given them a competitive advantage. KONE have been downgrading their platform in the low residential market where pricing is more important, and brought their monospace 500 and 700 to a range of commercial and higher residential markets.

{audio:0:22:14} Is there a risk that, over the next 10 years, a major shift in the technology used in elevators could potentially leave KONE or OTIS behind?

{audio:0:22:36} The mass market takes 90% so I don't think major technologies will be disruptive. KONE, Schindler and ThyssenKrupp are working on new disruptive technologies but they apply to very specific major projects. An example is double back or twin elevators, which means for the even floors you enter the lower deck and for the uneven floors you enter the upper deck. You essentially flip your lobby. You come into the building, and for a high building in Central London, you first choose an escalator on which floor you're going to the elevator. ThyssenKrupp are working on elevators which travel vertically and horizontally without a shaft. 

{audio:0:24:21} How can a company get a competitive advantage in terms of the connectivity and modernization add-ons they introduce?

{audio:0:24:36} That is important to log the market and bring some competitive advantages. Buildings have become experiences with raised end user expectations. KONE has been working on this and, five years ago, they introduced residential flow as one of these add-ons. In your new residential apartment building, instead of a boring elevator taking you to your floor, when you return from the office with your car or bicycle, you have seamless access without pushing a button. RFI DPs help to enter the building and that market has grown with Covid. If you have somebody working in your apartment during the day, you can give them a QR key which will take the elevator to your floor. These types of add-ons help maintain real estate prices and bring more value to your building.

{audio:0:26:15} KONE speak about increasing revenue per installed unit from services such as residential flow. What are their biggest opportunities to improve that revenue?

{audio:0:26:34} KONE looks at the market from a co-creation perspective, and have an ecosystem to collaborate with other companies to bring new value. This ecosystem provides recurrent revenue streams where all those experience on the platform are a subscription model.

{audio:0:27:25} Could you give an example of that?

{audio:0:27:28} Elevator music or atmosphere changes over time in these kinds of buildings. Working with handicapped people for specific needs or residential flow are other examples.

{audio:0:27:59} You mentioned changes in technology, such as traction belts. Who has the advantage between Schindler, OTIS, KONE or ThyssenKrupp?

{audio:0:28:23} There is no simple answer to that because we need to go slightly more granular. On the escalator side, ThyssenKrupp have a bigger advantage and offer a more robust product. On the elevator side, KONE has a product called UltraRope, which gives them a competitive advantage for buildings higher than 100 meters, but ThyssenKrupp is closing in on the market. On the residential side, KONE and Schindler are competitive on the lower segment, whereas ThyssenKrupp is clearly not.

{audio:0:29:34} New equipment is sold at very small margins, if not break even; how do maintenance contracts work?

{audio:0:29:48} The maintenance contract is the bread and butter for these companies, but things have changed over the past century. People used to have maintenance contracts with OEM providers, meaning if I installed a KONE elevator, I would have a contract with them for life. Today, it only applies to the Middle East who have little knowledge of third-party equipment. Europe is an old elevator market with 40-year-old equipment and non-existent providers. The elevator business is profitable but it is vital to train your technicians and stock spare parts. European Law mandates that every elevator company has to provide spare parts to their competitors, so you need to have training centers for technicians to maintain all equipment.

{audio:0:31:18} Residential elevators have a one-year warranty; is the maintenance contract annual or is there a fixed term?

{audio:0:31:37} The warranty period differs per country with some offering two years or longer, but it is one year on average. Maintenance contracts are obligatory in all European countries. There are two types of contract; preventative and inclusive. With a preventative contract, you have a minimum number of services and checks during the year. That is usually two to four on residential, but France mandate 10, and some European countries have no set number. Once a part needs to be changed, it is invoiced, which is a standard contract, whereas the all-inclusive contract includes all parts which need to be changed. Those contracts tend to be longer because suppliers need to account for more parts needing to be changed in different years. The calculation is easier in your example because it is new equipment. When a facility manager of a 20-year-old apartment building asks a new supplier, they will first inspect the state of the equipment before providing a contract price.

{audio:0:33:29} How sticky are the relationships? Are they fixed periods or can they get out?

{audio:0:33:46} Most contracts are three to five years, with all-inclusive contracts being five years. A preventative contract could be one year but that would be the exception.

{audio:0:34:15} What is the mix between preventative and all-inclusive contracts?

{audio:0:34:21} 60% to 70% are preventative contracts. All-inclusive contracts are mostly found in facility management companies and commercial buildings because the building manager wants to know what the cost of maintaining a building will be beforehand.

{audio:0:34:44} How do you work that out?

{audio:0:34:48} That is a different calculation and depends on the type of equipment at the start of the contract. Price depends on the number of maintenance visits which is an hourly wage, but you also need to estimate what equipment and parts need to be changed over time, and amortize that over the five-year contract period. Professionals prefer all-inclusive contracts because it helps them understand their annual expense when they know their budget. They also don't require internal approval processes when things break down and replacement parts are required. A hotel would want that, as well as the elevator company being proactive in replacing parts before it breaks down. There are SLAs and KPIs on the number of breakdowns, replacement of parts and breakdown periods.

{audio:0:36:27} Which contract is typically higher margin for the elevator company?

{audio:0:36:35} Residential contracts have higher margins because many are one or two elevators in a building, so the negotiation power of that customer is different. KONE and Schindler's French maintenance portfolios consist of many small contracts, which bring in more margin, but they also have large customers who negotiate up to 1,000 contracts at a time. French retail stores will drive to centralized procurement in Paris and negotiate contracts together. That is a strategic decision and margins will be on the lower side, but you consolidate your portfolio by having a healthy mix between both.

{audio:0:37:55} What are the switching costs if a customer moves their maintenance contract from KONE to OTIS or Schindler?

{audio:0:38:04} From a customer perspective, there is no switching cost, but there is a handover period and some discussions, to avoid being trapped between two elevator providers discussing the responsibilities at handover. One would advise customers not to change their elevator maintenance contracts on an annual basis, and if they do it repeatedly, they will demand a two-year contract period instead of playing this game every year.

{audio:0:38:53} Will the retention of maintenance contracts change for KONE in Europe?

{audio:0:39:01} Churn or retention rate is a major KPI and KONE invest into account management and customer experience. They map the customer journey to see how they feel during a breakdown and how we communicate, because if you maintain things, things can go wrong, but how you solve or deal with things is a major aspect of customer retention. 

{audio:0:39:49} I have described the two major classic contracts, but KONE and some competitors have had a new offering on the market for several years. I piloted this in one country, and actually split the contract down in all the aspects you would want. Most contracts have number of maintenance visits, uptime, and 24/7 break down coverage, but you don't always need the same SLA on weekends in buildings which are only occupied during weekdays. We could also discuss specific SLAs. We bring a tailor-made contract and take out what you do not want. If you don't occupy your office building in the weekend, we can lower the price which makes the customer happy, but it also means we don't lower that margin. We might bring the margin up slightly and find a sweet spot into what brings value for the customer but revenue streams and better margins for us. Doing that avoids competition because they do not offer tailor-made contracts. This is similar to fire insurance which is also tailored to a building. Comparing fire insurance between three insurance companies is not easy.

{audio:0:42:00} How could that impact the retention of KONE going forward?

{audio:0:42:07} They already have several KPIs and it is impacting the retention rate. From a sales perspective, it has been raising the hit rate, but these contracts have higher retention rates.

{audio:0:42:21} KONE mentioned 90% for that.

{audio:0:42:28} That is exactly their objective.

{audio:0:42:31} What is the conversion rate for winning new maintenance contracts?

{audio:0:42:39} The rate is over 95% for many elevator companies, because it is a given in Europe. This is an elevator secret, but in the first period an elevator is used there are always hiccups. Within the first year you need a satisfied customer and if you are close to them, the retention, turnover and conversion rate is high.

{audio:0:43:25} What about after three years?

{audio:0:43:28} There are some exceptions in the conversion rate. A general contractor might have installed new equipment into a building which is occupied by a hotel chain who have a frame agreement with another party. In that case, they run away after the first year, which is difficult.

{audio:0:43:50} What is the conversion rate after three years?

{audio:0:44:10} Retention becomes an issue between seven and 10 years. You need to overcome the first cycle but then things are okay. Customer satisfaction and account management is not only a sales job but the job of a technician, who is the first ambassador of your company. The difficulty, when maintaining elevator equipment, is that you are providing a service, and the better you provide the service, the less the customer feels he is paying for, because everything is going smoothly, there are no call outs and your elevator is running fine. You need to make service visible by communicating it, which is why there are programs to make the technician an ambassador, trying to talk to the customer after each maintenance visit. That is easier in an office building with a reception desk than a residential building, but it is important to show clients what you are doing.

{audio:0:45:36} How much is the annual maintenance for a €50,000 residential elevator?

{audio:0:45:47} A preventative maintenance contract will range between €700 and €1,200. That figure differs due to market competition and the different hourly wages of technicians.

{audio:0:46:27} Yes, but France legislates you need a minimum of 10 maintenance visits per year, which means the hourly wage is brought much more into the price of the elevator contract than in Belgium, Italy or Great Britain. With an elevator contract, you pay for a service, not an hourly wage for a consultant or technician, but he does need to drive to you 10 times per year.

{audio:0:47:23} How can independent service companies take market share from OEMs?

{audio:0:47:33} That is a very good question because it does happen, but less over time, because elevator technology has become much more specific and computer-driven. The technology of elevators from the 50s to the 90s was straightforward, and three maintenance technicians could separate from a big company and start their own maintenance company, because it would be feasible to find parts. Today, elevator motors and motherboards are like computers which, similar to car technology, has evolved over time. That makes for a closed loop and the cost of maintaining third-party equipment has increased. Independent elevator maintenance companies will find it harder, especially with new technology.

{audio:0:48:44} Is the technology hard to understand or do they not have access to parts?

{audio:0:48:54} Officially, access to parts cannot be a problem because of European legislation. It is more about getting the knowledge and access to programming modern elevators. Local elevator maintenance companies do a good job but they mainly maintain older equipment, and the newest equipment of the past decade they find difficult to add to their portfolio. The best ones will admit that they cannot take the risk because they cannot assure quality.

{audio:0:49:43} What do you think of a company like KLEEMANN?

{audio:0:49:47} That is an example of a great company which is smaller. They are in two markets; they have some maintenance but also provide open-source equipment for smaller companies. If you want to have custom made elevators, they are quite okay on some niches of the market.

{audio:0:50:11} How do they compete in servicing? 

{audio:0:50:18} KLEEMAN are more a provider of new equipment and don't have a European footprint in many countries. Local maintenance companies can compete through customer intimacy, and they exist in some towns in Belgium, France and Great Britain. They only require 50 people but have a portfolio up to 5,000 contracts, so their customer intimacy can be good.

{audio:0:51:11} If a residential building owner has an elevator which you sold him 10 years ago, what is the process of changing his servicing partner? Does it go out to tender?

{audio:0:51:34} The owner must understand their current pains, in order to look at new service level agreements.

{audio:0:51:47} What are the typical pains of customers who churn?

{audio:0:51:51} It is all about uptime and how you address that. Larger customers want several KPIs and to track the status of their equipment. They might also want asset management plans or how to invest into those buildings, but there we're talking about specific larger companies. With residential, your service is about uptime into respectable price, and there you need to understand what provider can provide you with the best price for a good uptime and service. That depends what part of the country you implement it in and what provider can do that. They need to understand your technology and have sufficient personnel in your area.

{audio:0:52:55} Who has the best maintenance business in France, Germany and Spain?

{audio:0:53:07} That differs by country, but overall, the maintenance margins are highest at OTIS.

{audio:0:53:26} The percentage of their maintenance business is the highest.

{audio:0:53:44} Historically, they have always been the major player and KONE and Schindler have grown through new equipment. KONE also grew their side through acquisitions, whereas OTIS is growing less through new equipment. The portion of maintenance is higher at their side. Their maintenance revenues are a couple of percentage points higher, because the efficiency of maintenance has a lot to do with your critical mass. It is more difficult if you are widespread in a country, whereas with a dense portfolio in a certain area, you are closer to your customer.