When we hear the phrase “cost control,” most of us flinch inwardly. The idea of implementing cost controls brings to mind a kind of austerity, and the operational constraints that come from negotiating a fiscal bottleneck.
It doesn’t have to be that way. When cost control measures support long-term strategic initiatives, they can help preserve a company’s core operations and drive its prospects forward in a way that is acknowledged and appreciated by all.
Here is what you will learn in this article:
I have led three cost-control initiatives in my career. Two of those initiatives succeeded, and one, I freely admit, failed. I learned as much from the failure as I did from my successes and have emerged with a solid understanding of why and how strategic cost control works best. This article is intended to dispel some myths about strategic cost control, and to demonstrate how it can succeed without impeding operations or curtailing growth initiatives.
Cost control is the process of managing costs in the immediate term to safeguard the economic viability of a company, division, or team, and/or to prepare it financially to pursue new initiatives. It seeks to trim the fat without touching the bone and muscle: to optimize a business entity’s financial performance without unduly impacting the resources on which that performance depends.
It is sometimes confused with cost reduction, which measures cost savings per unit. Cost control measures cost savings more broadly, against industry norms. Austerity is another creature altogether, focusing exclusively on ensuring the business entity’s short-term survival.
Even the C-suite can mistake cost control for austerity. Some leaders take a too-simple and overly enthusiastic approach to reducing costs and impose restrictions that may improve the bottom line in the short term while compromising the business’s medium- and long-term prospects. These measures are often implemented by accountants rather than professional finance managers.
Five myths surrounding cost control:
Along with the occasional confusion of terms, some myths tend to surround cost control. Managed properly, cost control need not impede normal operations, slow progress, or damage employee morale. Nor is it a caprice of bean-counting CFOs. Cost control is a necessary fact of business life, and in the long run a healthy one.
Properly implemented, strategic cost control proves the old adage that a penny saved is a penny earned. In today’s economic climate, that wisdom rings truer than ever. Among cost control’s advantages is that it can be implemented entirely internally, sidestepping the investments often needed to pursue increased revenue generation.
Before we delve into the nuts and bolts of strategic cost control, I want to highlight one of the most important and frequently neglected aspects of the exercise: the change in mindset necessary to accomplish an effective cost-control initiative. Before any specific decisions are made about budget lines or resource optimization, the organization should inform all employees of why cost control measures are being considered, and how they support the company’s future plans. Change is naturally unsettling unless we know why it is happening and how we can make the most of it.
With that in mind, the cost control process itself typically involves the creation of an ad hoc committee, with a few members designated as liaisons with the rest of the company. Typically, the CFO and Head of Procurement are named as liaisons, along with a high-ranking manager.
This team assesses every item in the organization’s accounts to determine whether it is funded appropriately. To get a better idea of how this process unfolds, I’ve drawn up a case study. This is a mock-up representing my experience in the field, not a report of an actual cost control initiative at an actual company.
For our purposes, let’s consider a medium-sized manufacturing and contracting company that operates several facilities. The pandemic-fueled economic downturn has significantly affected the company’s bottom line, and the CFO anticipates significant losses into the next fiscal year. Rather than weathering the storm for an unforeseeable stretch of time, the board decides to implement cost control measures.
The CFO joins the company’s CEO and president in a task force charged with designing and implementing the cost control initiative. The team’s first order of business is to examine every expenditure on the company’s books. They know that employees are already talking about the possibility of cost control, and they are aware that both they and every one of their employees will need to adjust their mindset a bit in the coming months. But it may be even more unsettling to announce a cost-control program before the task force is ready to provide details about its scope and nature, and to answer questions.
After a careful review of the company’s finances, the task force identifies four areas of significant potential cost savings:
Here is how we treat each of these areas.
The average per-unit cost for all items produced by the company’s manufacturing division is currently $87. A careful look at the operational overhead incurred by the company’s current manufacturing process reveals opportunities to consolidate some infrastructure and achieve a savings of $9 per unit without affecting their composition or quality. Specifically, the task force plans to temporarily close two manufacturing facilities and to centralize their operations in a single factory.
Before the economic downturn, the company had negotiated leases to two warehouse properties that were now only lightly used. The task force recommends against renewing these leases. It also places hard limits on business expenses throughout the company, and suspends all travel not related directly to sales functions.
The basis of properly analyzing administrative costs is an expense management system that records appropriate data. It ensures that all the expenses are in line with corporate policies. Additionally, managers can collect sufficient data on these expenses while keeping administrative and processing costs at a low level. More proactive management of your expenses means staying on top of your cash flow.
Updated and automated expense management process reduces the burden of managing and controlling employee spending. Automating your expense reporting increases your control of all transactions.
Unlike the other measures taken here, reducing the cost of supplies requires negotiations with third parties. The task force begins by seeking sole-supply agreements with select vendors, reducing costs in exchange for long-term commitments to single vendors for some supplies. It also negotiates payment terms with suppliers that allow the company some breathing room, eventually agreeing to pay a small premium for the right to extend payment dates for some large invoices. Although the company does not go so far as to substitute critical supplies for less expensive ones, it prepares for such a move.
Inevitably, the task force looks closely at employment levels throughout the company. With manufacturing operations slated for consolidation, fewer managers are needed, and the task force follows through with a comprehensive review of all other business units to identify non-essential personnel. This is a deeply unpleasant task, but one that is necessary to fulfill the board’s directive.
Before acting upon its findings, the task force brings them before the board, which approves a new business plan reflecting the new cost control measures. It then announces the plan to the entire company, framing the cost control initiative as a medium-term adjustment of the company’s direction, designed to see it safely through the current recession and to prepare it for aggressive growth as soon as the economy recovers.
The plan results in greater efficiency throughout the company, and a greater sense of common purpose among its employees. It also uncovers some untapped opportunities for more cost-effective sourcing and manufacturing functions.
Recommended reading: How Better Expense Management Drives Better Decisions
Cost controls often fail not because they go too far, but because they lack focus and accountability. Any cost control plan must include measurable goals and regular monitoring of the plan’s status.
Reasons why cost control exercises fail:
When company officials lack discipline, conviction, and persistence, they are prone to making decisions that diminish productivity while failing to meet necessary cost-cutting goals. When they lack patience, they may cut expenses rashly, limiting a company’s ability to sustain revenues while limiting overhead.
When managed properly, strategic cost control restores an organization’s sense of common purpose and prepares it for dynamic growth in the future. It may be uncomfortable in some respects, but strategic cost control is often the key to corporate resilience in difficult economic times.