Category Archives: Cost Reduction

Cost Leaders Do Not Sacrifice Quality or Customer Focus, Part II

Yesterday’s post talked about the principles of cost leadership and how cost leaders do not compromise quality and customer focus. It’s only low cost if quality, service, and other factors stay equal. Otherwise, it’s low cost up-front, higher cost (and loss) later on. If an organization is not on the cost leadership track, it should be. However, like any other initiative, there are a number of show stoppers and initiative killers that can prevent the organization from becoming a cost leader if they are not identified and addressed as soon as they materialize. As per the recent article on why businesses should shift from cost management to cost leadership in Chief Executive, these include:

  • Complexity
    If the initiative is not easy to explain and not easily understood by the stakeholders, it may stall before it starts.
  • Lack of Cross-Functional Support
    If there is no buy-in by key stakeholders across the board, failure is likely eminent.
  • Impatience
    Stakeholders will want to see actionable recommendations from any initiative quickly, and these actionable recommendations will need to be capable of being implemented in the near term.
  • Under-Resourcing
    Don’t attempt to build equity or buy-in by under-resourcing the initiative (to keep costs low); as the authors of the article note, this is equivalent to crippling the racehorse at the starting gate
  • Education
    Training will be critical for the success of a cost leadership initiative. A training component will need to be included. Moreover, training is often the best tool to reduce the fear and apprehension that goes with any new initiative.
  • Under-Communication
    Communication is critical for any initiative, and early wins must be publicized and recognized to maintain the support necessary for success.
  • Over-Hyping
    No initiative is perfect and all-encompassing. Don’t overestimate the potential impact of the initiative, and never, ever, say that the new system will fix everything.

Cost Leaders Do Not Sacrifice Quality or Customer Focus, Part I

I was pleased to see that this recent article over on ChiefExecutive.Net on why businesses should shift from cost management to cost leadership, that emphasized the need to control cost in the current economy, clearly stated that cost leaders do not compromise quality or customer focus. Every time I see a headline or article on cost management that emphasizes the need to identify low-cost producers, I get worried because, as many manufacturers who jumped on the outsourcing bandwagon have learned, low cost does not always translate into cost savings if quality is not maintained.

The article defines cost leadership as the:

  1. recognition as the lowest cost producer in one’s industry, without compromise in quality or customer focus
  2. realization of a long-term cost-centric culture where cost consciousness is a strategic and leadership preoccupation across functional lines
  3. dissemination of cost information with regard to customer, product, distribution channel, and the like that is timely, understandable, credible, and actionable to fuel continuous improvement
  4. establishment of aggressive and balanced performance targets across the value chain

And it’s a good definition. With costs rising across the board, cost control is very important, but cost control must take into account quality, customer needs, and continuous innovation. If quality is bad, costs will add up in repairs and returns and profits will drop as customers leave for your competitor. If the focus is not on the customer, market share will slowly decrease as your competitors begin to offer products and services that better serve the customer. And if continuous innovation is not employed, costs will creep back up.

The article also noted three practices of costs leaders that are worth diving into:

  • Less Is More
    Simplified products and services, even if they cost a little more up front, will usually cost a lot less over the lifetime of that product or service.
  • Customer Profitability
    Each customer should be profitable, and, more importantly, if you deliver a product or service to businesses, it should make them profitable.
  • New Formula
    If a product requires costly raw materials, or contains raw materials that are heavily regulated, or produces hazardous waste in its manufacturing, reengineering the product to use less costly raw materials, less regulated raw materials, or production processes that do not produce hazardous waste will significantly reduce costs while maintaining, or improving, quality in the process.

The article also highlighted a number of cost leadership initiative killers that you need to watch out for and address as soon as they are encountered. But that’s the subject of Part II.

To Maximize Value, Don’t Overlook Tail Spend

A recent article in the Sourcing Interests Group Newsletter on “understanding tail-spend management” noted that while ROI for tail spend categories will generally be lower than for core categories, those companies that keep their eye on the efficiency/effectiveness equation and approach tail-spend intelligently can still find significant savings that make the effort worth while. So how does an organization properly approach tail spend, which:

  • rarely includes direct materials
  • contains a disproportionately high percentage of spend from the furthest-flung subsidiaries
  • contains suppliers that no one in procurement has heard of
  • contains large percentages of non-compliance and maverick spend

Intelligently. And iteratively. Data must constantly be reviewed in the light of changing business requirements to determine the best course of action using the following process:

  1. Spend Analysis
    Focus in on the tail-spend data and figure out what is being bought, from whom, where, and for how much compared to market value.
  2. Filtering
    Focus on commodities that can be reclassified into a category that will have enough spend to be worthwhile.
  3. Sourcing Strategy
    Once the category with the biggest opportunity has been identified, determine the right sourcing approach. If a sourcing project is the right approach, accelerate it with standardized templates, RFX, and/or auctions.
  4. Spot Buy
    If the right strategy is to spot-buy in a weak market, then aggregate demand across the organization and spot-buy through e-RFX or automated auctions.
  5. P2P
    And, regardless of the right sourcing strategy, drive as much spend onto technology platforms, like P-cards, so that it can be tracked and analyzed.

And, most importantly,

  • use procurement technology
  • simplify processes and increase controls
  • establish resources and manage performance

Value Add is Taking Precedence Over Cost Cutting — This is a Good Sign

The Summer issue of the CPO Agenda summarized their most recent six month survey in “growth curve” which found that a broader focus on value adding instead of cost cutting alone is emerging, highlighting once again that businesses are gearing for growth. This is a good sign. As SI has been repeating again and again over the last few months — a Supply Management organization will not advance to the next level unless it adopts, first and foremost, a focus on value and advances beyond operational excellence to a state of strategic business enablement.

There is still a pressure to reduce and control costs, as 2/3rds of organizations are reporting an intensified pressure to reduce costs, but this is down 25% from six months ago, which means the leaders (who never compromise more than the top 20% of organizations) have shifted their sights back to value. Plus, only 1/4 of the organizations are reporting delayed investment decisions for new technology or expert consulting, down from 1/2 a mere six months ago. Plus, 41% of organizations said they are preparing for growth and recovery and 2/3rds of organizations have either undergone a transformation program in the past 12 months or are planning one with the number one goal to achieve greater alignment with the business. Good news indeed. Let’s hope that these organizations follow through!

Cost is Just Another Component of Risk (Bonus NPX Take Away 3)

One of the most useful, and possibly controversial take aways, from the NPX exchange put on by The Mpower Group is that a Next Practice organization should not have cost as part of its value equation as a focus on cost has not only not served the Supply Management community well, but has destroyed incalculable value over the years. This is especially true in high-value or strategic categories.

Cost should be viewed as just another component risk, and in particular, the risk of cost increase beyond an acceptable level is what the organization should be focussed on. Furthermore, once the organization has established that cost is in an acceptable band, the organization should remove cost from the equation entirely in high value and strategic categories.

The reality is that for some categories, a +/- of up to 5% is insignificant when compared to the critical factors of stability of supply, quality, and flexibility. Consider the Apple iPad. While it is obviously in Apple’s best interest to drive down cost as much as possible, it’s more important that Apple be able to guarantee supply, quality, and flexibility in its supply chain. The extra savings of $2 on each unit will not make up for the loss in profit if Apple fails to deliver on 100,000 orders. Nor will it make up for the warranty costs if the quality drops to the point where Apple has to make 25% more repairs under service contract.

So if you really want to focus on value, band cost, and then remove it from the top-level value equation altogether as cost control then becomes simply another component of risk management in the overall value equation. The organization just might see better results in its high-value and strategic categories.

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