Published In:
Keeping Good Companies Date Published:
15th March 2002 Author:
Fred Marfleet
Cost cutting. Could there be two less glamorous words in the English language?
Now try 'profit adding'. Much better.
The truth is that cost management and profit increases can amount to much the same thing, if handled correctly. Cost cutting does not necessarily mean the slashing-and-burning of budgets on a 'let's-see-if-this-works' whim, nor does it mean the intense scrutiny of entertainment expenses in September, before reverting to three-hour lunches in December.
But what if a company could save 20% a year on its stationery spend? Or 26% a year on its courier costs? Or 76% annually on its printing bills?
Wouldn't that represent real savings - and an increase on the bottom line?
The truth is that a significant cause of poor business performance in Australian companies is the lack of attention given to the cost of running the business. The reasons for this lack of attention are many, but three stand out:
the process of cost management and review can be difficult to manage
tough minded resolve is usually required
cost-reduction initiatives are not always positively received by colleagues and staff.
Any executive who chooses to undertake a program of cost-management, then, is probably going to find himself or herself out on a limb
and needing to show true leadership skills. And he or she is going to have to do it in today's business world, when the buyer is often at a disadvantage.
The seller, or supplier, possesses vital market knowledge that the buyer, or company, does
not have because of a lack of resources, time, expertise - or a combination of all three. Consequently most, if not all, organisations overspend significantly on their business operating costs.
Experts estimate that 90% of Australian businesses are overspending on day-to-day expenses, by as much as 75%!
How does a company know if it's one of the 90%? The Expense Reduction Analysts (ERA) web site (www.expense-reduction.com.au) suggests that if it can answer 'yes' to any of the following there's a good chance a company can reduce its business operating costs and free up profits:
YES/NO - There is no centralised purchasing system. Each department seems to have its favourite suppliers and its own purchasing processes.
YES/NO - We always seem to be purchasing in an ad-hoc, as-needs, manner, instead of benefiting from bulk purchases.
YES/NO - We seem to stick to the same suppliers and trust that they're giving us value for money.
Where to begin? So how does a company implement a plan of effective cost-management? Consider the following:
Caring is a prerequisite to effective cost-management If company staff are complacent about financial performance and cost control, there is little chance a costsaving project will succeed. Executives must find the time to take an interest in reviewing expenses and reducing costs - staff generally mould their behaviour to match that of their leadership. Taking the 'if it ain't broke, then don't fix it' route will produce mediocrity and will become a problem in times of economic slowdown.
Cost-cutting should not be allowed to become the 'flavour of the month' Remain motivated to keep costs in check on a regular basis. If a costmanagement 'culture' is not established, employees will quickly allow your 'push' to fade away. It's important to instigate measurable strategies for cost reduction.
Over-confidence can be a killer Companies that assume their costs are under control based on historical trends, or assume their market knowledge is watertight run the risk of overspending through arrogance. You know what you're paying, but do you know what your competitors pay for the same products? Never assume you know the market as well as your suppliers - and never assume they're doing you the best deal possible. Compare your cost-management performance to others in your industry and region. Gather the data from outside agencies, consultants or benchmarking services. Be careful you understand the data as it applies to your situation - data is useless unless it is interpreted correctly.
Understand what you're buying Determine your product and service requirements. Don't purchase premium services unless absolutely necessary. Sales people will often use bait-and-switch tactics to move you on to their higher margin items. You end up buying unnecessary extras or addon services such as maintenance agreements. Also watch for relationship-building tactics - do you really want to pay higher prices for the occasional lunch or rugby game?
Talk to your suppliers Companies that buy the same product and the same quantities year in, year out, are probably paying way too much. Suppliers will price their offerings according to what the market will bear. Having done your research, inform suppliers you are reviewing your costs, which have to be reduced. Then prepare to negotiate and to comparison shop.
Stay aler. Monitoring your cost-management strategies is vital. You need to watch that staff members don't slip back into old habits, the supplier charges correct prices, and service matches the agreed specification. Phew! Yes, the projected savings might look great, but the amount of work involved can be enormous. It's about this time that many executives might consider calling in a consultant.
Calling in the experts
Most Australian companies do nothave the staff resources to be able to regularly review expenses and reduce costs. Neither do they have the staff resources to put aside time for monitoring the market place and their suppliers. Management executives are under pressure to increase revenue and grow the business, not to ensure the marketing department is getting the best deal on its stationery. So a company might consider using a cost management consultant to expertly manage the situation. The question that executives might ask themselves, however, is whether or not the savings will justify the sometimes substantial fees that may be charged?
Choosing the right consultant for the job is important, and the fee should not be the only criterion. ERAsuggests the following checklist for a company considering the use of cost management consultants:
Does the consultant have a demonstrated track record of achieving cost reduction?
Does the company have the resources to deal with your size ofcompany?
Is the consultant completely independent, with no payments being received from suppliers?
Then there is the question of the fee and how it will be paid.
Arrangements can range from a fee for service to a contingency fee (a fee that is based on results). A consultant who receives his or her fee entirely from the supplier cannot be assumed to be independent.
Where a contingency fee is charged, it is generally expressed as a percentage of the savings obtained over a period of one year, although shorter or longer periods can be involved. Percentages vary. The usual figure is around 50%, although lower percentages can be found.
While 50% might seem a large figure, it pays to examine exactly what is being received for that fee. Remember, from the consultant's viewpoint, he or she is bearing all the risk in proposing a contingency fee. If no savings are found, he or she does not receive any payment, and, even so, he or she will need to undertake a lot of work 'up-front' before being entitled to any fee.
As an example, the steps a consultant might need to undertake where a change of supplier is deemed necessary are as follows:
The company's spend in a particular area is analysed in detail to form the basis for selecting an appropriate supplier. This ensures that suppliers asked to quote do so with a full understanding of the company's needs.
Management executives are under pressure to increase revenue and grow the business, not to ensure the marketing department is getting the best deal on its stationery.
2 The preparation of tender documentation aimed at ensuring there is full understanding of what is required from suppliers and that suppliers have sufficient information to be able to offer the most favourable rates.
3 A detailed review of tenders received to enable a decision to be made.
4 Actively working with the company through the implementation process, which typically takes 6-8 weeks.
5 Checking bills, once the new supplier is in place, to ensure the correct rates are being applied,
and helping to resolve any other 'teething' problems.
6 Working with the company and the supplier, over a period of one year, to ensure the company receives all that it expects from the new arrangement.
7 Finally, helping the company to understand movements in prices over the one-year period so that
prices can be re-negotiated with the supplier in accordance with general movements in the market.
It's important the consultant chosen is totally accountable, keeping the client fully updated at
every step and sticking to agreed sdeadlines where possible.
Checklist for fees
The following checklist for fees is suggested:
What is the fee structure to be charged? Is it a contingency fee or a fee for service?
If it is a contingency fee, what percentage of savings will be claimed as a fee and over what period?
Is any proportion of the fee to be paid 'up-front' and, if so, how much?
Has the consultant demonstrated to your satisfaction how savings will be calculated?
Is there a clear understanding of the services that the consultant is to provide and over what period?
While there is no doubt that where significant savings are involved - for example, savings in excess of $1 million - a 50% fee may well be excessive, it will generally be found that consultants will be prepared to accept a lower fee in those circumstances, provided that is negotiated in advance. Whether Australian businesses choose to undertake a program of cost management under their own steam or choose to call in expert help like that provided by ERA, the benefits to their bottom line can be immense. After all, when you know exactly where the money is going, it's easy to tighten the belt a notch, if necessary, to weather an economic downturn, and to know how far to let it out when the good times return.
