SW Defined Vehicles, what's next!

Last week I wrote about what are SW defined vehicles. If you haven't read that, I would highly recommend that you check it out. This week I try to go a bit deeper into what is the point behind SW defined vehicles and what the OEMs are trying to achieve with that.

Customer perspective

To understand a bit more how SW defined vehicles are part of transforming the industry, let's look from the perspective of a car buyer. Previously when you buy a vehicle you are pretty much buying a piece of hardware with a specific set of features. The features could range anywhere between engine power, number of seats, alloy wheels to even rear vipers. And if you have noticed how they sell vehicles now, it is usually packages. A low variant, a mid variant and a high variant. And the differences are in the form of engine capability, automotive or manual etc.

These are more hardware-bound features. In the last 10 years, the amount of software in each vehicle has drastically increased and so have features that are bound to SW capability.

Differences between selling HW and SW features

Here are 2 key differences in how HW capabilities differ from that of SW.

1. Scalability: SW features scale better and are more variant-friendly than HW features.

2. Granularity: For the hardware options they are usually among a handful of options. Manufacturers want to minimize the number of variants as this adds other overhead costs in production, logistics, distribution etc. While SW functions (thanks to the well abstract SW platforms that cars ship with these days and the lower marginal cost) can be much more granular that it could be tailored to your personal taste.

How would the performance steps for SW features look like? If we go by the parallel from the smartphone world, you would buy the hardware which is the phone. And then decide which software features, aka: apps, you want to install and pay for. In a way that is exactly what OEMs are moving towards.

You pay for the hardware upfront, as you already do today. And depending on what SW functions you want you pay for it in addition. But you buy them differently and also pay for them in different ways.

Where SW Defined vehicles fit in?

SW defined vehicles and the "transformation" that the industry is going through will unlock the second part of this equation. Although OEMs have proven themselves that they are able to produce complex, intricate and high end hardware products serially and sell across the world, the industry is recalibrating to the additional set of skills needed to ship SW at the same caliber. Customers want new features, similar to what they experience in their own digital ecosystems. And OEMs are willing to deliver, but at a price.

OEM Perspective

Now let's look at this from the OEM's perspective. What does it cost the OEM to develop, test, release and maintain a function. There are functions that are only a one-time cost for the OEM. On the other hand there are functions that have a recurring cost attached to it. Take for example a function that is data driven. This requires the OEM to update its data models from time to time to ensure a good experience for the user.

Apart from costs specific to certain features there are indirect costs sustained by all SW functions alike. A good example is the Over-the-air update (OTA) feature. It takes considerable upfront investment and a good lifetime recurring cost for the OEM to ensure that all vehicles get an OTA function irrespective of what functions they have chosen or paying for and which market they are in. Now the OEMs have to get creative with different kinds of recurring business models to breakeven with these kind of features. So they can make up for these indirect costs as well in their pricing strategy.

Glimpse of what's to come

We are beginning to get a glimpse of how OEMs are actually manifesting this as product offers.

1. Regular Subscription: A feature where you pay a monthly or annual fee as long as you need that feature. Ex: BMW Heated Seats and Remote Start

2. Pay as you go: A feature where the amount you pay is based on the extent to which you use the feature. Ex: Stellantis Pay As you go

3. Freemium model + Subscription: Where you get a feature for the first few years after buying a vehicle for free, after which you have to pay a subscription to keep using the feature. Ex: Tesla Connectivity Package

4. Lifetime model: More of a traditional approach, where you pay a certain upfront cost when you buy the car, for a feature that you have for a lifetime. Ex: Tesla SW Locked Battery Pack

These subscriptions are not to be confused with the other programs for the HW. For example maintenance plans that you would usually purchase either from the OEM or a third party. They are primarily plans to keep the HW (vehicle, its components etc.) keep working as it should over the years accumulating mileage.

The big picture and the future

Coming back to SW subscriptions, one of the surveys show that people are not particularly happy with these subscription costs. This article cites that multiple OEMs like Ford, BMW, Cadillac and Mercedes Benz started out different kinds of subscription services but have pulled the plug on them since it wasn't receiving much traction from it's customers.

But what if majority of the OEMs are selling subscription services in the next 5 years (if they haven't already). Consumers are not left with much of an option in that case. It becomes the new norm, just like it is normal to pay for apps in smartphones. Now let's look at the minority for a minute. How are the minority OEMs able to sell similar SW function to customers and remain competitive in pricing. The one-thing (apart from the obvious economies-of-scale advantage that a few OEM’s enjoy) that needs to be true in order for that to happen, where an OEM can undercut major other OEMs is if they are able to produce the same SW features at a much lesser cost than other manufacturers. The overhead is real, even with SW development. But to undercut it, would be a disruption. And this is what all OEMs are racing towards. Excelling their SW capabilities across the organization to ensure they don't get outrun by a relatively new OEM.

It is for sure possible for a new player to enter the automotive market, with much more SW prowess than any of the incumbents and undercut them in their pricing strategy. Consumers are aware by now (with all kinds of subscriptions services on the internet) that these costs add up. And soon they would do the math of whether they are better off with a lifetime-set SW that they are ready to pay a premium for upfront or pay a monthly subscription for the chosen set of features. So if such an option exists from any player, then they would definitely have an advantage.

The next part of this puzzle is the changing ownership model of vehicles. Which I will cover in my coming articles.