Implementing a Cost Reduction Strategy
By Stephen Machin, CMA
The business environment faced by Canadian companies continues to be difficult. Exporters have been hit hard by the rise of the Canadian dollar, energy cost have pulled back somewhat from their record highs but still have added significantly to the cost structure and the risk of further increases remains. Labour costs are another major issue especially when your competitors are taking advantage of low offshore labour costs.
In order to compete, Canadian businesses need to execute a strategic approach to their cost reduction programs. Many businesses take a shotgun approach to cost reduction. They implement across the board cuts such as reducing all budgets by 10% or cutting a certain percentage of staff. For public companies this is especially attractive as there is so much pressure on meeting the quarterly numbers. Unfortunately, all too often this type of action cuts not only the fat in the company but into the muscle. The result, over the longer term, is that the company’s ability to compete is damaged.
E-commerce is another factor in the cost pressures facing business. Although e-commerce allows for increases in productivity, the other side of the coin is that it makes cost competitiveness a key competitive advantage. The advances in the internet and communication technologies empower both buyers and the sellers making business transactions easier. For example, ordering problems and delays, searching costs or other imperfect information situations allow businesses to charge higher prices for similar quality of products and services. As e-commerce continues to develop, few profit margins will be protected from these improvements.
To avoid this outcome, senior management needs to develop a strategic approach to cost cutting. This also means taking some of the savings generated and reinvesting them in the parts of the business that can generate future growth such as research and development and marketing.
So what is a strategic approach to cost reduction? There are five components that will help to ensure that your cost reduction program delivers the desired outcome:
- Set clearly defined objectives: The first step in the process is to clearly identify what you want this process to achieve. This can be accomplished by developing both quantitative and qualitative objectives. That is, the process needs to be about more then just numbers. It also needs to be about improving your employees work environment, instituting better and more cost effective processes. The nature of the particular situation will dictate the degree of cost cutting that is required. For example, a developing company that has a cash burn rate that exceeds its current resources will need to implement drastic changes quickly until it can secure further funding. Companies that are more established will set objectives that are designed to remain competitive, while healthy businesses will look to improve their competitive position. Whatever your particular situation is, you need to be very up front about why the process is necessary and exactly what will be involved.
- Communicate, Communicate, Communicate: Nothing kills this type of process faster than employees who don’t understand why it is necessary and what the objectives are. One of the first steps is to establish a cost reduction committee. This group should draw it members from across the organization and have the direct support and involvement of senior management. Regularly update all staff on the successes that have been achieved and solicit feedback.
- Align the Cost Reduction Strategy with your Business Strategy. The cost reduction objectives must be in harmony with the overall strategy to ensure that any cuts do not reach the muscle of the business. The process must enhance the strategic vision and the ability of the organization to reach this vision. This can be done by aligning the company's vision and objectives with its resources to determining the financial gap between current capabilities and the future needs of the company. With this information, the company can recognize and prioritize the areas that need to be strengthened and those to be restructured or eliminated. Aligning the strategies is a critical part of the process. Failure at this stage can put the company on the road to ruin, from which it may never recover.
- Set Goals and Prioritize. Now that the objectives have been determined, the strategies aligned and the process has been communicated it is important what not to do. That is, as mentioned earlier, you must resist the temptation to make arbitrary cuts across the board. This approach assumes that all parts of the organization are equally inefficient and have equal input into the companies future success. As this is clearly not the case, the next step is to prioritize using the insights that have been learned throughout this process. Commence the implementation, evaluate the results and prepare for the next priority.
- Reward your People for a Job Well Done: Let your staff know how the company has been successful as a result of their cost reduction efforts. Also, share some of the savings with those who have contributed to the process because you would not have gotten to where you are without them
Cost reduction is something every organization needs to be thinking about. You cannot rely on your past successes and old technology cannot protect companies from shrinking margins and strong competition. Building an organization with a strong cost control culture now will reap rewards for many years to come. The days of implementing cost reduction programs will be over forever as it will be part of the companies DNA and everyday will bring new ideas on how to reduce or eliminate costs.