The Power of Cost Transformation: Shaping the Future of Your Business

The Power of Cost Transformation: Shaping the Future of Your Business

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In times of economic uncertainty, leaders often resort to cost cutting as a means to navigate the challenges ahead. While it is true that costs are within our control, focusing solely on short-term savings can be shortsighted. Instead, leaders should view every expense line as a valuable investment in their business and recognize how their decisions regarding increasing, decreasing, or maintaining costs will shape the future of their company.

Danaher, a successful global conglomerate based in Washington, DC, understands this concept well. Rather than simply reducing costs, Danaher focuses on identifying poor investments and eliminating them while preserving the good ones. This approach is ingrained in the company’s Danaher Business System, which draws upon lessons from its diverse portfolio of businesses to continuously improve operational efficiency.

Many companies, however, take a reactive and one-off approach to cost cutting, often sacrificing important investments in the process. This risk has become more prevalent in recent times, with a PwC survey revealing that 42% of senior executives prioritize cost cutting in 2023. However, hastily implemented cost-cutting programs without strategic intent can leave organizations weaker, imbalanced, and directionless.

To gain a better perspective on managing costs while achieving growth, a study was conducted on the 1,500 largest global public companies based on 2021 revenue. Among them, 201 companies implemented a cost transformation strategy from 2015 to 2018. These companies achieved above-industry median EBITDA while experiencing below-industry median revenue growth. However, only 76 of these companies, including Danaher, sustained higher revenue growth and profit margins in the subsequent three-year period. The question arises: What did these 76 companies do differently to achieve success?

Connect Costs to Outcomes: Treating Every Dollar Spent as an Investment

To succeed in cost transformation, it is crucial to view every dollar spent as an investment in creating value for customers and developing cross-functional capabilities to deliver that value. Costs should not be siloed within organizational boundaries but should be discussed and prioritized with the leadership team to support strategic goals and achieve them.

IKEA provides an excellent example of connecting costs to outcomes. The company has always aimed to save its customers money while maintaining quality and efficiency. This philosophy is evident in every aspect of its operations, from packaging design aimed at reducing materials and size to executives choosing to dine in IKEA cafeterias rather than expensive restaurants. By aligning strategy with execution and considering cost implications at every step, IKEA demonstrates how connecting costs to outcomes can create a competitive advantage.

Simplify Radically: A Bold Approach to Complexity

Companies often fall into the trap of incremental adjustments instead of taking a holistic view of their business and simplifying it radically. Complexity can have hidden costs that go beyond direct expenses, making it essential to reimagine processes and consider how a new competitor would approach the market. By identifying what truly creates value and streamlining operations accordingly, companies can eliminate unnecessary complexity and focus on delivering the highest value to customers.

Philips, a Dutch company with a storied history in various industries, decided to concentrate solely on healthcare in the mid-2010s. This strategic decision led to divestments and spin-offs of non-core businesses, allowing Philips to simplify its operations and focus on developing innovative health products and services. By embracing radical simplification, Philips unlocked new opportunities for growth and differentiation.

Reimagine Value Chains Digitally: Rapid Sprints for Transformation

Digital transformation offers immense potential for cost savings and efficiency gains. However, many companies get trapped in lengthy technology programs that delay realizing the benefits of digitization. To capture near-term gains, companies should consider rethinking entire processes from end to end and implementing automation on top of or in place of existing tools.

Creating a “digital factory” that drives rapid automation deployment across the organization can streamline the process and deliver significant savings. For example, one global food and beverage company created a digital factory team tasked with reimagining manual and time-consuming processes through automation. By reshaping processes within the existing ERP platform, the team captured immediate savings while preparing for future automation-enabled improvements.

Rethink Work Allocation: Leveraging Your Ecosystem

Investing in powerful new capabilities can be costly in terms of technology, data management, and talent acquisition. Smart companies recognize that they need not own every aspect of their business and should evaluate where they can best leverage their ecosystem partners’ scale and expertise. Outsourcing non-differentiating capabilities or elements of critical capabilities allows companies to focus their investments where they truly matter.

For instance, Apple realized that manufacturing was not core to its strategy or historical strength. As a result, the company swiftly transitioned manufacturing responsibilities to its ecosystem partners, enabling Apple to concentrate on innovation, materials design, and integration across its product offerings. By rethinking work allocation and leveraging external expertise where appropriate, companies can optimize their investments and drive growth.

Build a Sustaining Cost-Focused Management System

Cost management should not be seen as a one-time reaction to economic conditions but rather as an ongoing responsibility for managers at all levels. Establishing a sustainable cost-focused management system requires actively managing budgets based on strategic choices rather than incremental adjustments. By allocating budgets across functions and prioritizing critical capabilities, companies create a culture that values cost-consciousness and fosters strategic decision-making.

HP’s approach in 2019 exemplifies this mindset. Despite a strong global economy at the time, HP recognized the need for a cost transformation to address increased competition and commoditization. The company simplified its product portfolio, streamlined operations by eliminating an organizational layer, centralized R&D efforts, optimized real estate footprints, and implemented an ERP system. These changes resulted in over $1.3 billion in annual cost savings while positioning HP for future growth initiatives.

The Journey Toward Cost Transformation

Embarking on a cost transformation journey is no easy task. It requires significant changes in technology, operating models, ways of working, and overall company culture. To ensure success, leaders must align themselves with the transformation effort and commit to achieving articulated goals. By focusing on early wins, aiming for a two-year journey with clear chapters of change, building dedicated infrastructure for change management, involving middle managers and frontline employees early on, and fostering a culture that enables transformation rather than hinders it, companies can drive sustainable cost transformation.

Ultimately, successful cost transformation goes beyond mere cost cutting; it is about shaping the future of your business. By reimagining your cost structure strategically, connecting costs to outcomes, simplifying radically, embracing digital transformation, rethinking work allocation within your ecosystem, building a sustaining cost-focused management system, and continuously focusing on costs as an integral part of your business strategy, you can create a resilient organization capable of navigating economic uncertainties while driving growth.

The future belongs to leaders who embrace cost transformation not just as a reaction but as a proactive strategy for shaping their company’s destiny. As you embark on this journey toward cost transformation, remember that your investment in managing costs wisely is an investment in building a stronger future for your business.

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