In an industry as traditionally conservative as security, making changes tends to always be an uphill battle. There was – and remains – integrators who needed time to be convinced that IP cameras were the right way to go; or that the smart home would be a viable entrance path for residential security adoption...and the list goes on.
Have we reached another of those crossroads in the security industry today? Perhaps we are standing there now, or maybe it is a few months or years down the road, but according to some very astute members of our industry, we are facing a remarkably similar issue that the mobile phone industry faced a handful of years ago.
Remember the beginning of the smartphone era? Consumers had two options – they could buy a phone for upwards of $700...or, they could simply sign a two-year contract with a carrier, get a free version of the same phone, and build that equipment cost – and then some – into 24 monthly payments. Sure, it reduced sticker shock, but it also gave the carriers license to continually charge for equipment long after it was paid off…and consumers had few viable options to end the two-year contract. When the contract was up, they signed on for another two years and (sometimes) upgraded their phones.
Sound familiar? If you are a residential security integrator, it should, as this closely mirrors the home security/alarm financial model that has dominated the industry for decades. Consumers were promised a “free” system, and they paid a fixed amount for what alarm dealers hoped was years and years to come.
Chris Johnson remembers those days; in fact, as the co-founder and President of LiveWatch for nearly 10 years before being acquired by Monitronics, he led a team that transformed the way home security is delivered. Now, as Chief Strategy Officer for Brinks Home Security (formerly Monitronics), Johnson sees another transformation coming: Changing the way consumers finance and pay for residential security and smart home systems.
And while change is often difficult to embrace or even envision in security, changing the financing model may be just the weapon that residential integrators are looking for in their battle against DIY, customer attrition and more.
Evolved Consumer Expectations
As the smartphone penetration rate in the U.S. has skyrocketed to more than 70 percent, AT&T, Verizon, Sprint and T-Mobile – the big four – have all moved away from “free” phones; and because of this, consumers have been conditioned by the wireless companies to expect to have to pay at least something for their equipment.
“It is necessary for us to change with the customer expectations,” Johnson says. “We are going to lose market share as an industry if we don't adopt a different model. Traditionally in the industry, we have essentially lumped in the financing of the equipment into the monthly rate. If we think about this as an industry, we can adjust the monthly rate vs. the upfront cost…What we can’t do is ask the customer to pay for everything up front and get the same monthly rates that we have been used to.”
Thanks to the cell companies, consumers are becoming more educated about the tried-and-true method of building the costs of free equipment into a monthly payment; thus, security customers are starting to realize that if they are paying for monitoring and equipment because they got a system on the front-end for free, then at some point they will have paid for that equipment and that cost should drop off their bill. If the cost never goes down, then they expect some upgrades or more free equipment. In turn, consumers are now accustomed to expecting to pay at least some amount for new, updated equipment.
“As we know, the cost of the equipment has grown, as has the feature set and the consumer expectation for the hardware,” Johnson adds. “Consumers are now conditioned so dealers are able to say to customers: ‘I would like to give you a fair deal with transparent pricing, and you will make monthly payments just like you do on your wireless phone, with no interest.’ That's really important – customers expect no interest. In our industry, we have been tempted to find the extra buck here and the extra angle there…we just need to be really transparent.”
The Role of Financing
As Johnson alluded to, today’s residential security industry is dominated by some really innovative and interesting technology advances. A decade ago, a typical residential customer put a panel on the wall and a few motion sensors throughout the home. Today, those customers still exist, but they are atypical.
“The majority of the folks want to have a more powerful system that includes intrusion and some level of smart home functionality and cameras,” Steve Trundle, President and CEO of Alarm.com, said during the company’s Q3 2018 earnings conference call. “There's just a higher up-front cost, and that cost has to be borne by someone – the service provider, the customer or potentially the customer through a financing mechanism.”
Instead of this being an obstacle, many experts agree that it is an opportunity. In lieu of free systems, residential security integrators can get, for example, $400 up front and go to a zero-interest subsidized model. That’s where consumer financing partners – of which there are several – will be a new tool in the integrator’s chest.
“If I were to spend $5,000 on a system in my own home, I could choose to finance that,” Trundle explained. “Dealers are increasingly making that financing more available and easier to obtain for the consumer. The financing element makes it more attainable and more possible for our service providers to sell a complete system to a customer without sort of wrecking the balance sheet by giving away a much bigger system today for free than what they may have needed to do 5 or 10 years ago.”
“Financing is the way to go,” agrees Joe Nuccio, President of Dealer Partnerships for ADT and a 30-plus-year veteran of the industry. “It is good for both parties – the dealer, because they are getting their cash up front, so it is better for cash flow within the business structure; and it is good for the consumer because they are able to buy more and get more of what they need.”
By getting money for equipment up front, it dramatically changes the economics in a positive way for a security business. But there’s more – the consumer financing model may be a way to enable integrators to offer upgrades more often, as well as have a positive impact on attrition rates.
Impact on Attrition and Business Valuation
For a residential security integrator, a good customer is a sticky customer; a good customer is someone who uses their system often. The consumer financing model helps facilitate this by enabling customers to add as many bells and whistles as they would like to their security and smart home system, which, in turn, enables them to interact with the system more often.
“Our service providers have told us for a long time that if a customer makes an investment in their system up front, those are typically better customers than customers who received the system for free and now are basically repaying for the up-front capitalization cost in the form of a monthly service bill,” Trundle said. “We like to see customers that are invested up front.”
Adds Nuccio: “The more components that consumers can touch and feel – garage door opener, lights, locks, etc. – the more they have, the more they use them. That they own the equipment means they have more skin in the game…the consumer financing model opens that up.”
The fast acceleration of smart home and security technology innovation – like smartphones – makes the ability to refresh the equipment more frequently attractive to both consumers and providers. “I think it would have a positive impact on attrition,” Nuccio adds. “It probably won’t have a gigantic one, but when the consumer has skin in the game, I think it would have naturally have an impact (on attrition).”
The customer will stay sticky initially while they are paying for the equipment on a monthly basis, as it has been in the industry; however, “once they have paid for it, they will want to continue to utilize that investment,” Johnson says. “They have skin in the game now (by owning the equipment) – it is not easy to throw away something that you paid $1,000 for, whether it was over time or up front.”
So, with stickier customers, logic says it should lead to better business valuations; in fact, changing the financing structure may have an even greater impact.
“The industry has been built on certain valuations and multiples of recurring revenue, and I think that as long as (banks and investors) understand that we are moving the economics to the front of the deal, I think that will actually be attractive to them,” Johnson says. “They know that having a monthly rate that is too high is an attrition risk; thus, the lower the attrition risk, the more stable the RMR. I hope the banks will see this as a very healthy change in the industry.”
Another key component of the mobile companies’ use of consumer financing is the desire of a significant percentage of its customers to upgrade frequently. While innovation in the security industry is certainly not up to the pace of smartphones, there is still a path for integrators to provide more frequent upgrades in a smart home – or at least touch customers by offering them.
“We really have the ability to upgrade customers to something that they want,” Nuccio says. “It's not like you have to keep upgrading and keep upgrading, but there are so many good products out there today that are affordable, and (consumer financing) helps to fit it into the operating expenses within a household.”
“I think all the manufacturers have been put on notice that they need to have a renewed investment in innovation,” Johnson says. “As an industry, we need to think more about what the customer is going to value…and how we go from a 7-year lifespan to an 8, 9 or 10-year expectation of the customer. We have to do a better job of innovating.”
Adds Nuccio: “The reality is there are so many consumers out there who need security and home automation – everything – on one platform. There’s a whole world out there that we are not all going after, and I think consumer financing enables us to be able to do that. I think it is a very positive thing, and I think it will help in market penetration rates.”
Paul Rothman is Editor-in-Chief of Security Business magazine. Email him your comments and questions at [email protected]. Access the current issue, full archives and apply for a free subscription at www.securitybusinessmag.com.