COST MANAGEMENT. Why cutting costs is a priority for businesses

During recession, a recurring narrative was of organisations undertaking a slew of cost optimisation measures to remain relevant. Today the practice of implementing cost management has evolved — from adopting tactical and, at times, desultory measures to evade insolvency, to making it a part of core, strategic initiatives. While many executives cite the economic downturn as one of the primary drivers for adopting cost reduction measures, companies today are employing total cost management techniques in a more disruptive fashion for new product development, solution differentiation and better customer experience — all with the objective of enhancing competitive advantage.

In a recent survey conducted by EY, 27 per cent of Global CFOs cited cutting costs and driving efficiency as the single most important priority for businesses over the next three years. Maintaining cost competitiveness was also cited as one of the top 10 risks perceived by CFOs in another survey conducted by EY. While cost reduction has been a priority since 2008, companies have not been successful in realising the benefits of measures adopted, in line with their expectations. Failure to achieve savings targets is often attributed to reasons such as insufficient monitoring or tracking, allowing tactical cost reductions to push out strategic reductions, making the size of cost-savings a higher priority than profitability and losing focus on cost reduction as expansion gets under way or the business model changes.

With the improved economic environment, however, many organisations have adopted a more holistic approach to cost management. Specifically, they have focused on reducing support costs on the one hand, and on reinventing the “core” on the other.

Such initiatives typically include setting up of shared service centres (SSCs) for processes such as finance and accounts, human resources, IT support, and customer support. A US-based manufacturing company with finance operations in over 40 countries, for instance, set up a finance SSC in India. Over a three-year period, it realised savings of over 30 per cent. In addition to centralising functions in this manner, organisations are also focusing on indirect cost heads to achieve bottomline benefits. For instance, several companies are reengineering functions such as recruitment, facilities management and administration. For example, a leading BPO company achieved a 25 per cent reduction in its employee transport spend by optimising working shifts, leveraging technology to optimise routes and redesigning the model for payouts to cab service providers.

A number of companies are also leveraging “green” technologies to reduce costs. A global IT company in India, for instance, has constructed 12 platinum-rated green buildings spanning 3.4 million square feet across the country. Another 11 buildings spanning 3.6 million square feet are under certification. These have resulted in a power saving of 60 per cent over traditional buildings. These buildings — constructed at 20 per cent lower costs — have reduced the company’s carbon footprint and delivered employee productivity related benefits as well.

Leading organisations have innovated their operational processes to achieve significant bottomline benefits. In this regard, the emergence of smart industrial devices and sophisticated data analytics are serving as critical levers that can enable organisations to make intelligent decisions that facilitate cost reductions. For instance, a Fortune 50 company’s new airplane engine has more than 200 embedded sensors that generate multiple terabytes of data every time the air-plane flies. By analysing fuel consumption patterns in diverse flying conditions the company has been able to make aircraft 15 per cent more fuel efficient.

Similarly, a global metals and mining conglomerate is using a network of smart, interconnected trains, trucks, drilling rigs and drones to get real-time updates regarding the status of ore-extraction. This has enabled the company to optimise its extraction process, resulting in enhanced productivity, reduced waste and energy savings of up to 40 per cent. Companies have also achieved sustainable savings by innovating their operational processes. For instance, a leading jewellery company in India transformed its manufacturing processes to reduce the lead time from 56 days to 10 days for studded jewellery and 30 days to six days for plain jewellery. This performance improvement was achieved through simplification, automation and deskilling repetitive jobs from artisans to machines.

Successful cost management approaches focus on three key elements: a clear vision and definition of success, and triggered only after a carefully crafted business case that documents the value potential of the initiatives. Second, the pace of such initiatives is clearly established via effective sequencing, project management, and balancing tactical and strategic wins. Third, they embed sustainability by reducing the right costs and redeploying expenditures to areas that can drive market differentiation.

A balanced approach – by tackling both basic cost management as well as making strategic changes – is therefore, critical. This will ensure that a total cost management programme generates value that is aligned with an organisation's business strategy, creating competitive advantage.

Bhaskar Bhat is MD, Titan Co Ltd; Nitin Bhatt is a Partner with EY Advisory practice

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