What Really Works: Realizing Sustained Cost Reductions
As budget and operational planning season approaches many firms engage in the ritual of finding “meaningful” cost reductions. Far too often these are nothing more than budgetary optics aimed at making “opex” spend look better that it is. However, some of Market Strategy Group’s clients have made serious and deliberate efforts focused on finding and eliminating unnecessary spend on a permanent, recurring basis. By doing this, they avoid cutting spend really needed to sustain the business and its growth plan.
What separates the best from the rest is not their intent, but how they proceed. It is these practices that lead to meaningful, sustainable savings.
One client that MSG assisted exemplifies many, if not all, of the best practices needed to drive out costs. While these practices can be applied to any category of spend, the example here focused on indirect spend in a global manufacturing business.
Indirect Cost Analysis and Reduction
As this company’s size increased, so did its level of procurement fragmentation and the scale of the cost reduction opportunity. They were successful in realizing cost reductions because of five crucial differences in the way they approached the problem:
- Pinpoint and go after the highest impact savings. A one-month indirect spend assessment uncovered an opportunity for literally millions in sustainable annual savings. For this firm, they unlocked savings of 3 cents per share. Even more valuable was the prioritization of savings opportunities. While the conventional wisdom pointed management to one set of savings choices, a clear assessment of the “size of the savings prize” and the ease of attaining it for over 20 spend categories led to a clear and actionable program. This prioritized view of what areas they should attack increased focus, minimized debate and avoided finger-pointing.
- Proceed only after the Management Team has agreed to make the decisions necessary to realize savings. Everyone wants cost cutting as long as it does not come out of their budget or area of responsibility. Making cost-cutting work requires agreement in advance that no one’s spend is sacred and that all must participate without thinking about turf. In this instance, although the initiative was sponsored by the CFO with the CEO’s blessing, they went further. The entire management team reached agreement in advance that the whole package of savings would get support regardless of whose budgets got hit. It was the savings bundle, independent of where the savings lay, that management agreed to embrace.
- Overcome organizational inertia and inability to drive for really significant savings. Most organizations do not put real teeth in their drive to cut costs. Structurally they have procurement managers serving internal customers who expect services. What purchasing manager wants to risk the wrath of an organization by, say, selecting a new lower-cost copier vendor when the current vendor’s performance draws few service complaints? Yet it is just this kind of change that must be aggressively pursued for game-changing savings to be attained. They have an established relationship and a desire to get some level of savings, but not the incentive, category experience or objectivity to get the most aggressive savings achievable without diminishing service quality. As a result, too many companies have watered down savings programs that do not deliver to their full potential. Game-changing cost cutters recognize the likely downside of vendor proximity to their buyers, and provide objective, often third-party resources to drive the process aggressively, size saving potential based on independent histories, negotiate terms and conditions and ensure really sizable savings are delivered. The cost of this external assistance is funded by the incremental savings achieved and is not a budget drain.
- Create quick wins and build momentum. The easiest way to demonstrate the effectiveness of a new approach is to take action quickly and deliver results. The first phase of this company’s sourcing initiative at this company prioritized six spend categories with low complexity and high savings potential. Within the first month, one team saved approximately 40% annually just on multi-functional devices. By the end of the three-month phase they will save one cent per share from indirect sourcing initiatives. This demonstrated value early in the process makes it easier to attack more complex categories later.
- Remove saved spend immediately from the future budget. Money saved can easily be lost if it is allowed to float back into the budget of the affected departments. Smart leaders immediately remove those funds, reducing the operating budgets of the impacted areas so there is fiscal discipline. At this company, the CFO required that negotiated savings were built into budgets. By doing this, he guaranteed that the 3 cents per share became value delivered to his shareholders for the life of the contracts. This also sent a message to VPs, directors and managers that rogue purchases and wasteful spending will be reflected on their P&L statements. As a result, this client has a new corporate-wide discipline around indirect spending.
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