How to Develop an Effective Cost Reduction Strategy
As a business leader, you are under constant pressure to increase your profitability.
Broadly speaking, there are two primary pathways to achieve this goal: increase your prices or decrease your costs. While both options are viable, many businesses opt for the cost-cutting approach, thinking it is easier. And yet, according to Gartner, “Less than half (43%) of organizations achieve the cuts they set out to in the first year of cost reduction.”
Many businesses’ strategies fail because they set the bar too high and then act without a cohesive cost reduction strategy.
Put simply, cutting costs successfully requires a clearly defined roadmap.
#1 Set Feasible Goals
How much savings do you hope to achieve? What percentage of your original costs do you want to drop?
The purpose of a goal is to establish short-term motivation and a longer-term vision for the business via measurable targets. In this case, your cost-cutting goal will be the financial barometer you use to chart your company’s growth and progress with cost-cutting initiatives.
Naturally, every business owner would like to cut their costs in half. But is that actually feasible? Probably not. In fact, even a 10% cost reduction could significantly impact profitability.
When setting goals, you need to find the nexus between what you hope to achieve and what you can achieve. It is admirable to establish lofty aims, but not if you are simply setting yourself up for failure. Instead, set SMART goals:
- S – Specific
- M – Measurable
- A – Attainable
- R – Relevant
- T – Timebound
For instance, an actionable SMART goal might be cutting variable overhead costs by 5% over the next six months.
#2 Evaluate Your Company’s Expenses
Do you know where you are spending the company’s money? Do you know what areas are providing ROI? Or where you might be spending too much?
To answer questions like these, you need complete visibility and control over your business finances, including fixed and variable costs. Here, the quality of your bookkeeping plays a significant role.
A high-quality accountant could review your financial records to identify:
- Places to optimize
- Areas within the business that provide the strongest returns
- Expenses that cannot be changed
- Expenses that can be changed
#3 Outline Your Cost-Cutting Strategies
The optimal cost-cutting course will look wildly different from one business to the next. Depending on your company and industry, there will probably be particular problem areas that require the most attention.
Once you have identified your weak spots, your team must determine the ideal technique for dropping the costs. For instance, common ways that companies control costs include:
- Vendor Management – Procurement teams must evaluate existing vendors to determine whether it would be advantageous to switch to a new supplier or negotiate the existing contract. As Gartner notes, this practice not only helps to control costs but can also drive service excellence and mitigate risks.
- Standard costing – This is an advanced accounting method that manufacturers use to create more accurate production budgets by comparing standard costs to actual costs. If managers see a variance between the two, they can take actions to fix these discrepancies.
- Automation – Practically every company has areas of inefficiency. The goal should be to identify those weaknesses and find digital tools capable of automating and streamlining tasks. Even something as simple as automating expense reports could dramatically cut down on labor and waste associated with manual accounting and approval processes that tend to be prone to errors, duplication, and fraud.
- Overhead control – Your business has fixed, variable, and semi-variable overhead expenses. Although fixed expenses are somewhat more challenging to reduce, these costs should still be evaluated and, if possible, addressed. For instance, when it comes to office space, it may be a wise decision to:
- Rent rather than buy
- Rent a smaller space or in a less expensive area
- Convert more employees to remote workers
These are but a few of the strategies you could deploy to start reducing your company costs.
#4 Everyone Must Buy-In
Cost reduction does not just involve a behavioral change. Achieving success over the long term also requires a mindset shift.
Everyone in the company needs to be aware, involved, and committed to achieving this goal. For that to occur, it must be embraced top-down, with company leaders modeling this ethos.
If you want to maintain momentum, you will need to regularly meet with employees to discuss progress, gather feedback, and provide ongoing training and education so that they can continue improving in their roles.
Outsourcing is a natural feature of business optimization. And it is one of the easiest ways to immediately reduce your overall costs, particularly regarding labor.
Specifically, outsourcing is incredibly valuable when it comes to specialist roles, such as IT, HR, marketing, or accounting. Instead of paying for the salary and benefits of an in-house employee, you can hire an outsourced specialist, allowing you to save time and money. According to the consulting company, Sia Partners:
“Outsourcing helps companies experience significant savings in cost reduction in the rates vendors offer outsourced employees compared to in-house employees. In 2018, 62% of companies reported 10% to 25% savings when they outsourced and the remaining 38% of companies reported savings as high as 40%.”
Why go through the hassle of finding, interviewing, hiring, and onboarding a full-time employee when you could have an outsourced expert hit the ground running from day one?
CFO Hub: Finance and Accounting Experts You Can Trust to Reduce Your Costs
Effectively cutting your company’s costs won’t happen overnight. It takes time, dedication, and a well-thought and -executed strategy.
But what if you lack the financial or accounting expertise to implement these cost-reducing initiatives?
Then outsource that task to experts who provide the requisite skills and knowledge.
At CFO Hub, we provide outsourced CFO, controller, and accounting services to growing businesses. If your goal is to reduce your costs, your customized team can review your finances (or get them in order) and then translate that financial data into actionable, cost-cutting intelligence.
Want to drive your company’s profitability?