COST
REDUCTION
A strategic intervention for thriving
in the uncertain economy
Talk of Cost Reduction
and managers will be alarmed. The Production Head will be
worried that he will have to produce with less manpower! Marketing
Head will be worried that he’ll have to market with
less advertising! Design Head will be worried that he’ll
have to research & design with less budget! Thus, in such
kind of cost reductions, the first casualty is of course quality
followed by decline in profit.
Recently I was having a
discussion with a client of mine about general business issues
and for all natural reasons “Cost” became the
focus of the discussion. He claimed that he has carried out
cost reduction in his organization on his own and achieved
good results. I was surprised and asked him how did he manage
to innovate, carry out the analyses and bring about the complex
change and achieve results without any external specialist.
He, visibly quite content with his achievement, said that
it was his normal business skills by the virtue of which he
succeeded in controlling the costs of “Telephone”
and “Stationery”. He went on to explain how he
achieved that. He said he reduced telephone cost by selectively
restricting the dialing facility where people no longer had
direct access to long distance / international calls. They
are now required to make request through the operator where
the call will be logged by name and reason. He also mentioned
that he has reduced the cost of stationery drastically. One
method that he deployed was to introduce requisition slips
for photocopying. Thus people became more conscious since
it was being recorded and the cost came down.
Like most other people this
client also thought cost reduction probably only means cutting
costs of telephone and stationery!
But my question is how do
you deal with the other additional costs that creep in? By
restricting calls how do you assess the cost that you are
adding in terms of the time of the managers that is wasted
while going through telephone operator? It is common knowledge
that the operator’s line will often remain engaged and
it is likely that a normal busy manager would unintentionally
forget the issue, if not totally, at least for sometime, in
pressure of other urgent matters. In the event the manager
gets through after repeated attempts, he loses further time
just to state the name, the number required and reason for
calling and then only he gets the connection provided it isn’t
lunch time or end of work-hours already and its time for the
operator to leave!
So the point is, how do
you measure cost of opportunity that comes in due to delays?
A lost order or a dissatisfied customer due to a delayed call-
Is that acceptable? Is that measured and accounted? And how
do you measure the de-motivation of the employees and the
associated loss of productivity due to all these restrictions?
And how do you justify the time in monitoring these call logs
by senior management? You lose more than you gain by reducing
these costs.
Similar is the case with
stationery. A saying “Penny wise, Pound foolish”
best describes these situations. I call these as “Pseudo
Cost Reduction”. Such management gets false satisfaction
since it is derived not from the actual results but from the
process of cost reduction employed and its wrongly perceived
benefits.
The other most dreaded area
is manpower cost. Two out of five companies say that manpower
reduction is the best and fastest way of cost reduction and
hence it becomes the first line of defense during an economic
downturn. But, headcount reduction without fundamental process
change and organizational restructuring mean nothing but a
further profit margin degradation. Statistics show that such
cost reductions lead to stagnation if not declining profit
margins.
Thus, cost reduction is
not individual, isolated & onetime transactional decision
such as reducing head count, slashing advertising,
cutting R&D budget, minimizing training and restricting
travel that too without a proper scientific study.
This only exposes the organization to risks that have broad
and long-term impact like losing competitive advantage and
going extinct.
We as Cost Reduction professionals
view it differently. We take up Cost Reduction Projects (CRPs)
in a balanced way with more focus on improving operational
efficiency through lean manufacturing, strategic sourcing,
supply chain management, use of technology for driving business
value & increasing productivity, aggressive management
of working capital and re-engineering of processes.
And these initiatives improve business efficacy that improves
the bottom line and creates shareholder value.
Why go for a Cost
Reduction Project (CRP)?
There was always a need
to control costs in businesses but it has become all the more
important in the current dynamic or rather volatile business
scenario. Cost reduction through process optimization has
become the key for thriving in this fiercely competitive market.
Thus organizations are increasingly taking up CRPs for the
following reasons;
- To improve profit margin
- Increase market share from price reductions
after cost reductions
- Enhance organizational stability
- Better morale - fewer layoff's
- Base for a stronger future focus
- Improved quality & service
- Meet & beat competitive challenge
- Overcome stagnation or inadequate growth
The other way of improving
profits is of-course to push for higher sales, but that is
a longer way home. Cost Reduction is the quickest and surest
way to improve profitability. Each Dollar removed from expenses
adds on to the bottom line profit. Example: If a company has
a 10% pre-tax profit margin, it means that for every single
Rial Omani targeted for increased profit, the sales team must
sell additional product worth Rial Omani 10/-. On the other
hand, every Rial Omani removed from the cost structure adds
up directly to the bottom line as pretax profit.
Cost reduction is a sensitive
intervention and needs to be carefully implemented after in-depth
research and evaluation of short-term and long-term consequences.
But most companies make fatal mistakes, leading to negative
and irreversible effect on the business, while trying to reduce
costs. It has been observed that most companies:
- Fail to take advantage of cost reduction
opportunities outside the traditional areas
- Make blanket cost cuts ‘across
the board’ with limited regard to relative opportunity
- Make cost cutting decisions without
proper fact-based analyses &
- Cut costs in areas critical for the
future growth and success of the firm
Thus Cost Reduction is a strategic
journey not a tactical exercise. A Cost Reduction
Project needs to be taken up with care and after carrying
out a risk assessment. This will ensure that the organization
gains not only in short term but also in long term.
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