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Today's Insights: Don't Wait for a Crisis to Reduce Costs
Achieving Cost Competitiveness: Five Key Actions for Executives
Table of Contents
- Introduction
- Dynamics that Drive Up Costs
- Cost Discipline Principles for CEOs
- Implementing Principles
- Conclusion
Introduction
Leaders who take a hard, comprehensive look at their company's cost base will identify opportunities for growth, but they must act boldly and decisively to achieve cost competitiveness. This article discusses five key actions executives can take to address cost challenges; these actions can help organizations maintain efficiency and direct resources to drive innovation, growth, and value.
For years, the corporate world has increased spending in response to high-stakes and sometimes unprecedented global events, but now the pendulum has swung back toward cost prudence and efficiency. Still, companies all too often wait until the next crisis to begin cutting costs, and the approach can be quite abrupt and radical, leading to deep budget cuts, closures of operations, and layoffs focused solely on immediate gains and losses. Most of this direct response approach only produces short-term results.
A Boston Consulting Group (BCG) survey of more than 600 senior C-suite executives found that while most leaders can meet their near-term cost targets, 35% say cost reductions will rebound within 18 months. Two key factors drive cost recovery: Most organizations are unable to address the root causes of their own cost challenges, and most organizations lack the discipline necessary to comprehensively and continuously manage these root causes.
In fact, we have better ways to achieve cost competitiveness, maintain efficiency in the long term, and bring significant additional benefits to the company. Leaders who understand the forces driving rising costs and respond decisively will free up more resources to develop and support strategic priorities. These leaders then go on to build leaner, faster, and stronger organizations.
Dynamics that Drive Up Costs
Leaders must recognize and address several key dynamics that make it difficult to maintain cost competitiveness and have long-term consequences.
The first dynamic is that for most executives, there is no incentive to pursue cost performance. Mechanisms such as profit and loss accountability prompt managers to evaluate the return on investment of expenditures; in the absence of such mechanisms, managers will increase team budgets regardless of broader cost goals and efficiency requirements.
The second dynamic is that indirect costs beget more indirect costs. A common approach for leaders to face business challenges is to add roles, organizational layers, and committees. Each approach leads to gradually higher costs and more complex operations. This model creates a vicious cycle: companies must build more complex systems to manage rising complexity.
The third dynamic is that companies add resources to respond to emerging priorities and fund new capabilities without giving due consideration to the company's existing operations. Many companies are not redeploying staff or reducing spending on less important legacy practices.
The final dynamic is that companies are making large technology investments but have difficulty fully grasping the return on investment. While the rapid adoption of artificial intelligence (AI) and other capabilities has led to significant productivity gains in some areas, these advances have often come from secondary activities within enterprises rather than higher-value business priorities. For example, a company that uses AI to review and vet resumes may be able to downsize its talent acquisition department, but the company keeps its headcount unchanged and assigns employees to less important recruiting tasks. In fact, the correct approach is to redeploy employees to important areas of human resources work, such as diversity and inclusion, strategic talent management, or reallocate relevant funds to business units.
Cost Discipline Principles for CEOs
We looked at a variety of industries and markets to identify five key actions CEOs and other senior executives can take to address cost challenges. Overall, these practices help companies maintain operational efficiency and reallocate resources to drive innovation, growth, and value.
1. Adjust the design of the organization. Review the profit and loss accountability mechanism to ensure that managers are accountable for performance and have the ability to help the company reduce costs. Establish measurement and governance processes (and incentives) for executives without direct P&L responsibilities to hold them accountable for clear, value-added benefits. To improve profitability, a manufacturing company deepened its profit and loss responsibility mechanism in business areas and pooled engineering resources. The company has also adopted a more flexible funding process, making it easier and faster to reallocate capital into digital, AI, and other systems when priorities and needs change. When market changes force the company to adjust product development, the company can also seize business opportunities and redeploy engineers and investments to various units without increasing overall costs.
2. Address indirect costs. Look carefully for layers, committees, and competing or overlapping tasks within your company that can be removed or optimized. Align service levels with business and profitability needs to ensure that support function expenditures bring substantial value to the business. For example, one of our clients found that 50% of its planning and analysis resources were devoted to creating performance reports that were too detailed and inconsistent with company leadership goals. These reports have limited value to business performance but can add up to a company's bureaucratic burden. Along the same vein, companies should reduce or eliminate internal white-glove services that result in unnecessary overhead and add little or no value to the business. For example, a company's internal function may spend a lot of time visualizing data, but stakeholders are more likely to use raw data spreadsheets. When indirect costs raise concerns, reallocate resources to direct value-creating activities to reduce costs and increase productivity.
3. Do the right thing... Take a step-by-step approach to evaluating your product and service portfolio to eliminate underperforming product lines or low-value initiatives and stick to them. One of our clients invested tens of millions of dollars to promote a digital operations plan, but after 2 years it was still running with the original manual process and could not be replaced. To achieve the desired effectiveness of the program, senior leadership must reexamine the business case and reduce reliance on legacy activities.
4. …Do things the right way. Re-evaluate your processes, footprint, and technology for maximum efficiency. Taking the supply chain pressure caused by geopolitical challenges and trade route disruptions as an example, in order to control costs, companies can adopt lean manufacturing methods and evaluate supply chain networks and inventory strategies to identify opportunities to re-examine the company. Relationships with suppliers and partners. In the face of today's uncertainty, rigid just-in-time supply chains appear ineffective, so companies must invest in more flexible practices, driven by real-time data and digital capabilities, and eliminate old processes as they go. Beyond supply chain issues, companies need to find ways to serve customers without increasing cost burdens. One approach is to take a deeper look at utilization and design to avoid waste. For example, our experience shows that rushing to deploy cloud computing can result in unnecessary costs. In fact, nearly 30% of many companies' cloud expenditures are wasted money due to poor architecture, duplication of data, and idle legacy systems.
5. Future-proof your organization. Any company that ignores the disruptive power of traditional and generative AI will do so at its peril. Enterprises usually regard AI as a force for growth, but it is easy to overlook the huge potential of AI in the fields of cost management and operational efficiency. Companies should examine all internal and external business processes to identify opportunities for self-disruption; transform old and meaningful activities and eliminate unnecessary or ineffective activities. In the meantime, redeploy your workforce from areas that can be automated to more critical business areas. Start experimenting with traditional AI, generative AI, and other emerging technologies to ensure your company remains ahead of the competition in the future.
Implementing Principles
Leaders must take bold and decisive actions to achieve a competitive cost position, a cost position that can drive company growth and quickly bring benefits to shareholders. If leaders adhere to the following three principles, the company will soon have a lasting impact:
1. Use talent to drive change. Create opportunities for high-performing employees to move within the organization based on their abilities and potential. Develop the capabilities needed to assess employee skills (collaboration, financial analysis, data science, programming, etc.); upskill and re-skill employees as needed to flexibly deploy people across the company as priorities change. These practices will strengthen the company's ability to adjust and retain high-performing employees.
2. Planning well pays off. Before executing a cost plan, evaluate the strength and clarity of programs and roles, cost objectives, interdependencies, and risks. Make sure the company has good corporate governance to achieve financial savings when it is needed most. A study by Boston Consulting Group showed that rigorously tested cost transformations achieved an average of 130% of target value, while less rigorous transformation programs achieved only 100%.
3. Corporate culture matters. Leaders must lead by example and demonstrate desirable behaviors. From the factory floor to the boardroom, create a company culture that focuses on efficiency and making decisions based on ROI. Provide substantial rewards to employees whose behavior is in the interests of the company. Over time, cost discipline will become embedded in the company's DNA.
Conclusion
If you haven't reviewed your company's costs and operations in a while, do it now rather than wait until a crisis strikes. Leaders who take a deep, comprehensive look at their own cost base will uncover opportunities. Leaders who take bold, decisive action can achieve long-term advantages in addition to achieving short-term goals.
