Monetizing the Connected Home Perspective by Waterstone Management Group Singu Srinivas, Partner Steven Michalkow, Associate February 2015 Chicago San Francisco (877) 603-1113 www.waterstonegroup.com
Monetizing the Connected Home Following the 2013 Consumer Electronics Show (CES), Waterstone proclaimed that the dawn of the connected home had finally arrived, given the speed of offering proliferation and market entrants at the time. In the two years that have followed, nothing has challenged that assessment in the slightest. The speed of market entry seems even faster now, with investments being made by venture capitalists, private equity funders, and established home providers. Indeed, at this year s CES, Internet of Things (IoT) was the dominant theme for the 3,600 exhibitors and 170,000 plus attendees, removing any doubt as to the reality of the connected home. The governing question in the connected home market is no longer should I play in this market? but rather how can I best monetize this opportunity? In fact, the proliferation of market entrants and sheer volume of dollars being thrown at the connected home have greatly increased market complexity. There seems to be as many business models, ecosystems, and pricing strategies as there are offerings and players in the market, with no immediate sign that simplification is soon to arrive. Based on Waterstone s experience in the connected home space and the trends evident during this year s CES, three key questions are emerging as players try to translate opportunity into revenue. The governing question in the connected home market is no longer should I play in this market? but how can I best monetize this opportunity? 1. What Is My Ecosystem Strategy? There was no shortage of connected home platforms on display at CES this year. In addition to SmartThing s center-stage presence in the Samsung Keynote, Nest, ADT s Pulse, Lowes Iris, and Belkin s Wemo platforms occupied significant floor space along with several other smaller platform providers. Nearly all announced significant expansions to their portfolio of compatible devices in essence announcing the expansion of their ecosystem. Nest alone announced over a dozen new device partnerships, including smart locks, lighting, and appliances. Though not present at CES, Apple made more details public about its HomeKit platform and announced the first batch of compatible products. Each of these platform players is hoping to win by creating an ecosystem of multiple devices and use cases that allows it to become the home s natural and singular The race is on to build the ecosystem that will be able to capture the mass adoption use case whenever and wherever it occurs. control point. Even the Nest thermostat and ADT Pulse home security systems, which have achieved the greatest market traction to date with about 1.0 to 1.5 million US homes each, have been aggressively enticing ecosystem partners to integrate into their increasingly open platforms. This makes sense if you believe the consumer wants to build a holistic connected home experience across all devices and appliances. This strategy also makes sense when you realize that a single killer app has yet to emerge in the connected home market. Copyright 2015 Waterstone Management Group LLC. All rights reserved. Page 1
In essence, the race is on to build the ecosystem that will be able to capture the mass adoption use case whenever and wherever it occurs. Despite this rapid expansion of ecosystems, complications still exist for consumers due to the lack of a single communication standard across devices. Zigbee, Z-Wave, and WiFi are just three of the standards in use today. As the oldest standards, the Zigbee vs. Z-Wave debate used to suggest that consolidation might begin once the market began observing and adopting one communication standard over the other. It is now evident that no single standard will emerge anytime soon. Device makers have avoided choosing a winner by making their devices work with as many communication standards as possible. At CES, connected home product manufacturers were popping open device hoods and pointing out the WiFi, Zigbee, and Z-Wave transmitter chips inside. This multi-standard functionality means ecosystem builders will be burdened with the extra cost of supporting all of these standards helping consumers integrate devices, getting them to work, and troubleshooting when issues arise. 2. How Should I Price My Product? As with ecosystems and use cases, the connected home market lacks a dominant pricing strategy. Managed service providers like smart home security providers (ADT, Vivint) and the telecom and cable companies (AT&T, Comcast) have adopted a monthly subscription and long-term contract pricing model. These providers have already used this model elsewhere in their portfolio (i.e., smart phones, traditional home security, video, etc.). Alternatively, single use-case connected home devices (or point solutions) and multi-use case device platforms that don t offer managed services (like SmartThings and Lowes Iris) have until now adopted a transactional Current market adoption of connected home solutions hasn t dramatically favored one pricing model over the other. approach to pricing. This makes sense given the productized nature of their offerings. The challenge right now is that current market adoption of connected home solutions hasn t dramatically favored one pricing model over the other. In fact, both have achieved similar market traction despite having opposite pricing strategies. Though managed service providers have been historically successful selling subscription pricing, they will face challenges pushing adoption into the mass market. Managed service offers can be quite expensive for the average consumer, costing $50 per month or more depending upon desired feature sets. This focuses their offerings on the market s middle and upper income tiers. Additionally, there will always be a significant portion of the consumer market that is resistant to long-term contracts. Indeed, mobile providers have recently moved away from the traditional subsidized hardware plus long-term contract Copyright 2015 Waterstone Management Group LLC. All rights reserved. Page 2
approach to selling smart phones in favor of a pay as you go pricing and payment strategy. Unfortunately, reducing price or moving away from long-term contracts is a difficult proposition given the nature of these offerings. Service providers will typically offer the consumer a package of hardware components either heavily or completely subsidized. In fact, these subsidies can be so great that customers won t become profitable until well over the first year or two of ownership, thus necessitating the long-term contracts. Point solutions face their own challenges in delivering on the connected home value proposition. Connected devices are quite different from typical products. They are not consumed as isolated items, but as web-enabled devices that can be monitored and managed through computers and mobile devices. Providers must offer an integrated solution of user interface applications, cloud infrastructure, and analytics to deliver on this recurring series of consumer interactions. This is not an inexpensive proposition, and it requires a continual level of investment above and beyond the typical product. It is the recurring series of consumer touch points that supports the connected home as a recurring revenue opportunity. It s not surprising that we are now seeing many of the point solution providers experiment with subscription service tiers. Lowe s has experimented with service tiering since inception, and SmartThings recently introduced a premium service offering of advanced monitoring, control, and video recording features beyond their base product. The difficulty with this added-service pricing approach is finding a sufficient willingness to pay for it in a submarket of consumers used to spending money just once on the product. Still others in the connected home space are looking for alternative approaches to product pricing. At Parks Associates Connections Conference at CES this year, one There is something to be said for thinking through alternative business models that don t see end-users as the sole source of income. panelist in particular pressed hard on the industry to explore creative alternatives to pricing. He stressed that Google and Facebook are extremely valuable companies and have achieved this without directly charging end users for their services. While the immediate business model overlap between online search, social media, and the connected home is a bit tenuous, there is still something to be said for thinking through alternative business models that don t see endusers as the sole source of income. One obvious source of value to third parties is the data collected by a connected home device or system. Theoretically this data can be used to create more targeted advertising campaigns, to improve product service delivery, to fine-tune product R&D, etc. The market is exploring the idea of selling this information to third parties, which would take the burden off of consumers as the sole source of revenue. There are challenges to this of course. Consumer adoption needs to be larger for the datasets to be more robust; the datasets need to be presented in a manageable and intelligible format; and consumers have to be comfortable letting their data be used in such a fashion. Copyright 2015 Waterstone Management Group LLC. All rights reserved. Page 3
There are other situations in the home services ecosystem where consumer adoption will enable the economic interests of third parties. The overlap between home energy management and utility providers is an excellent example. Due to their own energy cost constraints and a desire to better manage the energy flow across their power grid, utility providers have been driving consumers to participate in demand-response programs where consumers limit energy usage during peak demand periods. Smart home energy management systems like smart thermostats are potential enabling tools to help push users to opt into demand-response programs. Indeed, Nest and other smart thermostat providers see the utility providers as a natural channel for their products, and many utility providers are offering these smart thermostats to customers either heavily or fully subsidized. 3. How Can Technical Support Help Accelerate Product Adoption and Usage? Connected home offerings in theory lend themselves well to technical support. Web-enabled products that are tied to a cloud infrastructure should allow for greater flexibility of system triage and quicker diagnostic and response times. Additionally, the overlap between connected end devices, mobile devices, and the home WiFi/communication network opens up the opportunity to provide holistic support across all of these home systems. That being said, this level of support capability is more aspirational than typical at this point. Given how early-stage the market is in terms of adoption, the primary support needs are fairly basic: ensure the connected devices are installed and make sure consumers know how to use the offerings. At the Connections Conference, we came across pretty dramatic statistics on this topic. Sutherland Global Services (a BPO provider of tech support services) stated that if a consumer is not able to set up a connected home system or device within 30 minutes of opening the box, the likelihood of this product being returned increases by 3X. If the consumer has the device set up, but uses the system infrequently, the likelihood of return goes up by 2.5X. Given these statistics, it s not surprising to see where the tech support market has been focusing its attention. At this stage in the evolution of the connected home market, simple device education can play a vital role in helping drive greater market adoption. At this stage in the evolution of the connected home market, simple device education can play a vital role in helping drive greater market adoption. This will likely require a multi-channel approach to communication. At the Connections Conference, several technical support providers indicated that they are now trying to leverage online video media and social networks to connect with the consumer above and beyond the traditional support call. This will no doubt continue to evolve as attempts are made to drive consumer interest to a level commensurate with business investment in consumer IoT. Copyright 2015 Waterstone Management Group LLC. All rights reserved. Page 4
Given these market dynamics, providers must address the following issues when seeking to monetize a connected home opportunity: Questions to Consider When Monetizing A Connected Home Opportunity What is my offering s value proposition? What gaps do I need to fill to effectively deliver it? Ecosystem Considerations Pricing Considerations Support Considerations If an ecosystem player, what adjacent product or market opportunities exist that having an ecosystem will help address? If a point solution provider, where can my solution fit in the market s various ecosystems? How flexible can I be when it comes to ecosystems I want to play in? Can I play in multiple ecosystems and at what cost? What risks do I incur by limiting myself to one ecosystem or another? If I am building an ecosystem, how much can I incentivize potential partners to stay in my ecosystem exclusively? What are my priority target segments, buying behavior, and ability to purchase? What pricing strategy will most effectively reach and penetrate my target segments? Is there opportunity to create value to other stakeholders outside of the end consumer? Would it be possible to get these players to subsidize my core offering? What hidden costs may exist by assuming all purchasers can effectively set up, integrate, and start using my product? Do I have a handle on my no-fault-found returns or my 30/60/90 day churn rate? What else can be done to promote an outstanding out-of-box experience? Can my product economics support a premium install (remotely or in person)? Conclusions and Next Steps As the coming years unfold, we re going to see some dramatic actions taken to capture the value in the growing connected home market place. Navigating the complex web of market dynamics, creating and managing an ecosystem of partners, setting and refining your pricing strategy, and evolving your end-toend customer experience will be key to effectively monetizing this growing opportunity. The sooner that players build and test their strategies, the better positioned they will be to capitalize on connected home opportunities as they emerge and avoid being left behind. Copyright 2015 Waterstone Management Group LLC. All rights reserved. Page 5
Waterstone Management Group helps technology and technology-led services companies create measureable value by identifying and capitalizing on disruptive growth opportunities. For the past several years, Waterstone has worked collaboratively with senior management, corporate boards, and investors to build their strategic path to the connected home market, and then to turn those plans into market resonating offerings. To learn more about Waterstone Management Group and access more of the firm s insight publications, please visit our website at www.waterstonegroup.com, or contact: Singu Srinivas, Partner (617) 719-7169 ssrinivas@waterstonegroup.com Steven Michalkow, Associate (312) 508-6172 smichalkow@waterstonegroup.com Copyright 2015 Waterstone Management Group LLC. All rights reserved. Page 6