Cost reduction in companies is always a goal, but it is becoming an urgent need as organizations’ margins shrink worldwide. Some contributing factors include government pressures, rising taxes, new competitors, increasingly demanding customers, issues now such as ESG (environmental, social, and corporate governance), shortages of skilled labor, and supply chain problems.
Therefore, reducing costs and expenses is the top priority for companies. And when we talk about reducing costs, we immediately think about laying off employees.
Before we start, let’s clearly understand the differences between costs and expenses. Then, we will discuss the reasons why we are looking to make a cost reduction in companies.
Cost is any value applied in producing a product (in the case of manufacturing companies) or in providing services (for service organizations). Some examples of costs are labor, raw materials, inputs, as well as the amount spent on the production of this product or the provision of this service with electricity, maintenance, depreciation of machinery and equipment, cleaning, and conservation materials, among others.
In addition, costs can be classified into:
Expenses include all the amounts spent by the company to keep it running.
Usually, the expense is related to everything spent in the area of sales, finance, administration, human resources, systems, marketing, and the BackOffice in general. Therefore, expenses are a type of expenditure that has no direct connection with the company’s “core” activity, such as producing goods or providing services.
However, even if they do not contribute directly by generating new items to be marketed, expenses play an important role and certainly their use can have an influence on increasing the company’s revenue.
And in turn, expenses can be classified as fixed or variable:
In this context, it is worth noting that expenses are costs and expenses in general. And typically, when someone talks about reducing costs they are talking about “reducing expenses”, but in a “colloquial” way. Thus, it is worth remembering that it is also essential to analyze the possibilities of reducing expenses in the organization.
Want to understand in more depth? Click here and read 5 tips to improve your expense and spending control.
The question above is very simple, right?
But its answer is inversely proportional, proving to be extremely complex.
Reducing costs is one of the greatest allies of profitability. Every company seeks to reduce costs without measuring efforts, but as we mentioned, it is a very complex task. We must be aware that when reducing costs, we must always be cautious not to cause negative impacts and end up in deficit.
To better understand how to adopt a cost reduction strategy without negatively impacting your results, click here and read our full article.
Were companies that attempted cost-cutting satisfied with their initiatives?
Not always: research by the US Conference Board found that of all the companies that have tried to cut costs:
A study by Deloitte showed that 75% of companies that laid off employees to reduce costs had to rehire others for the same positions within one year.
Another survey, this time by McKinsey, showed that only 10% of cost reduction projects were successful three years after implementation.
But why did these reduction initiatives fail? Surely because of the lack of a better understanding of how resources were consumed in organizations. The natural consequence of not measuring properly is the inability to manage well.
To solve this problem, see 8 actions that will reduce your costs and, consequently, increase your profits:
But the main lesson of all is: understand your costs.
Not understanding exactly how much a product, service, customer or channel costs ends up damaging the entire decision chain of companies! Definitions such as what prices and tariffs to practice, which customers to serve, what discounts we can grant and what commissions to pay our salespeople among many others go through a real understanding of costs and the ability to measure them properly!
Did you know, for example, that between 20% and 40% of products and services make a loss? And that 20% of customers are loss-making? See more on the subject in this article dedicated to service costs!
So, it raises the question: what actions will we take immediately after identifying bottlenecks in our organization?
Sergio Marchionne, the former CEO of Fiat/Chrysler, played a significant role in the company’s revival in the 90s. Besides being a great manager, Sergio Marchionne has always had a great sense of humor. After the launch of the Fiat 500e electric car (better known as the “cincoecento electrico”) Sergio went public and asked, “Please don’t buy our cincoecento!”.
A few months earlier the Fiat 500e had been launched with much pomp and circumstance, consuming many millions of Euros with the promise of being the great European competitor of Tesla and with the advantage of being extremely economical. The product launch experienced many delays, and when it was finally ready, only a few units were sold. Studies showed that the loss for each unit sold was 20,000 euros!
Undoubtedly, understanding costs and establishing strategies to control them are significant challenges in company management. And this cannot be overcome if we do not have a clear ability to make the best decisions, with well-defined methods, processes, and appropriate methodologies for the significant challenges that lie ahead.
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