Suppose you are an executive of a company that needs to improve your business’ profitability quickly. What would you do?
Selling more products? For example, you could do market research to identify unmet needs in the market, and then develop a suitable proposition to win those demand gaps. But that would take some time – the precious time you don’t always have. Also, as in any venture, there would be no guarantee whatsoever that it will work – that your new proposition will be a big hit. In FMCG, product innovations are regularly launched. And guess what is the success rate? 76% of products launched fail within a year! (Source: www.marketingweek.com)
Increasing prices? Assuming you have pricing power, it is the easiest and fastest way to increase your profitability. But what if you don’t? Furthermore, there are indirect competitors to consider (e.g., when Mondelez increased the prices of Cadbury chocolate, we saw consumers switch to chocolate biscuits). Even when you have strong bargaining power, in most B2B settings, the contract negotiation will take some time, and the customers’ heads of procurement will push back hard. I know it, because I have been a Head of Pricing in the past.
Change the product mix? Of course, you can try up-selling, convincing the customers to switch from low- to high-margin offerings. But in reality, it depends on the customers. They might not need it/not interested. Or they simply cannot afford it. After all, Executives often need to increase profitability in hard times – when the customers themselves are trying to cut costs.
Offering price promotion? You may try to boost sales by discounting your prices. However, the higher sales will come with a lower margin, diluting your overall profitability. It’s not a wise move unless you have high margin or a lot of dead stock sitting in your warehouses. Furthermore, it’s not a trick you can do often. Look at Udemy, due to their frequent price promotion, they “train” the customers to wait for promotion sessions.
Increase your production? This can increase your profits, assuming: 1) you have a lot of spare, idle capacity; 2) your marginal costs (e.g., overtime salary, higher stocks, more delivery) will be lower than your marginal revenues – companies often don’t realise that marginal costs aren’t linear; 3) your suppliers can supply; and 4) you have a lot of customers ready to buy more. Sadly, those assumptions aren’t met in most cases – after all, if you could do it, you would have done it.
Be creative with fancy accounting? Fake accounting is clearly criminal (and stupid, too). There are many other ways to present the book better without resorting to fake accounting, e.g., ‘adjusted EBITDA’ and all other creative financial measures. These tricks may buy you a quarter or two, but they won’t really save you or your company.
So, if all of these don’t work, what would you do?
Sometimes, the easiest thing to do is simply exploit the hidden profits within your company.
What are hidden profits? They are inefficiencies in your company that eat up your profits. When you remove these inefficiencies, your profits immediately increase.
This is really like alchemy, where you turn expenses into profits. But, unlike alchemy, you can quickly and easily do this. Because they are 100% within your control (i.e., don’t need your customers’ approval) and you already budgeted the money (so the money is up for grabs).
How do you do so? As mentioned in my course, there are 9 ways to exploit hidden profits in your company.
1. Portfolio Refocus (Typical Savings: 20-30% of total costs)
In companies, you often have many businesses, brands, products, or customers. However, not all these businesses, brands, products, or customers are profitable. As a result, we often see the profit-making products/customers subsidising the loss-making products/customers. If you remove these loss-making products/customers from your portfolio, you can quickly see profit improvements.
Of course, not all loss-making portfolios can be removed (due to strategic reasons and other considerations). But, for the majority of the time, if you look at it closely enough, there is a lot you can do to these loss-making portfolios. For example, a previous client of mine saved $10m simply by deleting the loss-making SKUs.
Simplifying your portfolio also comes with other collateral advantages, such as: 1) It removes the complexity and lowers the costs; and 2) It forces the company to find creative ways to make the loss-making portfolios profitable. Once, a client of mine changed the way they serve customers and successfully reduced the cost-to-serve by 60%.
2. Strategy-Driven Budgeting (Typical Savings: 20-30% of total costs)
A lot of inefficiencies are often hidden in the company’s budget. And since the company has gotten used to its way of operating, it doesn’t even realise these inefficiencies. In most companies, the next year’s budget is this year’s budget plus or minus some percentage increase. Since the costs are already there, no one questions these costs anymore. So, year on year, they carry these inefficiencies.
But, if you base the budget to zero and start the budgeting process from scratch, where every single cost item needs to be justified and challenged hard, you can clear a lot of these inefficiencies. For example, a client of mine managed to remove 31% of their previous year’s budget by setting everything to zero and building everything based on the strategy.
Detoxifying your budget also brings long-term benefits, such as: 1) It helps you to question the cost-drivers and assess whether they are really necessary, and 2) the freed cash can be invested in your ‘Spear’ of Competitive Advantage – securing your company’s future position too. For example, a small manufacturing company freed a significant amount of cash from its budget and reinvested a considerable portion.
3. Operating Model Redesign (Typical Savings: 10-20% of total costs)
A significant portion of costs are driven by the fundamental structure of how the company operates. Often, these costs can be reduced by choosing another more effective operating model. For example, a client of mine successfully released $20m by changing from centralised group structure to a decentralised model.
Note: This isn’t advice to decentralise. Changing the company structure has implications for the operating model. By decentralizing the structure, the company shifted from an ‘active management’ to a ‘direction only’ operating model and incurred some duplications. It only makes sense because: 1) the company’s business units have the capability to take over; and 2) the company’s business units have limited synergies in the first place. At other times, centralisation is the way forward.
Sometimes, people are reluctant to change the operating model because they think it has to be a massive change. No, that is not true. We can make partial changes in the operating model. For example, another company has to centralise its energy procurement to save costs due to capability differences of its business units. By centralising its energy procurement, the company successfully saved $2.4m.
The main takeaway is that looking hard at how your company operates and rethinking how to do it better can save you a lot of money.
4. Strategic Outsourcing (Typical Savings: 10-20% of total costs)
This is the question of Make vs Buy. To deliver the objectives, your company consumes many services. Many of these services are produced in-house (i.e., make). Some of these services are bought from outside (i.e., buy).
So, if the cost of producing these services in-house is higher than the cost of purchasing them externally, it’s better to outsource them (i.e., Do Buy because it’s cheaper). For example, a global B2B company saved 45% of in-house costs when it outsourced its back-office operations (from cheaper costs, process improvement, and best practices).
What is the source of saving? For the company, back-office operations aren’t its core business. But for the vendor, back-office operations are its core business. Therefore, by outsourcing, the company can benefit from the economies of scale, innovations, and best practices pursued by the vendor.
Furthermore, we can combine outsourcing with off-shoring (not all outsourcing is off-shoring) to benefit from lower costs. A few years ago, I helped a small apparel company to outsource their production from London to Turkey and the Far East. Due to the significant difference in unit cost, it was a no-brainer decision.
Of course, you only outsource if the following assumptions can be met: 1) The services aren’t related to your company’s competitive advantage; 2) Some reliable vendors provide these services effectively at lower costs; and 3) The company still can retain control via contract/incentives.
5. Footprint Optimisation (Typical Savings: 10-20% of total costs)
In many companies, their footprint is a result of historical accidents instead of proactive design. As a result, there are many opportunities for efficiency improvement here. For example, by consolidating smaller and outdated facilities into a larger and modern facility, a manufacturing company successfully reduced costs by $15m. The source of savings comes from economies of scale and lower overheads.
Footprint optimisation isn't all about cost reductions. It's also about providing the future foundation for growth, either in terms of new capability, additional capacity, or access to key resources and key markets.
Of course, you don’t always need a new site. Often, you can optimise your footprint by simply changing the roles each site play. For example, a client of mine can increase utilisation and reduce costs by $3m by doing so.
6. Process Re-engineering (Typical Savings: 10-20% of total costs)
Many companies, including the large ones, have a lot of inefficient processes. By looking at these processes, you will be able to save money via better processes.
Of course, there are so many processes in the company. Don’t kill yourself by trying to fix all of them. Focus instead on the most important processes. For example, a client of mine, a multi-billion dollar petroleum company, saved millions of dollars by tweaking the process a bit.
Technology can often improve processes. For example, changing a manual process into an automated process can yield big benefits.
7. Organisation Delayering (Typical Savings: 5-15% of total costs)
Organisation delayering isn’t about random headcount reductions. It’s about optimising the span of control and the number of layers in the company. In other words, it’s about efficiency (fewer meetings, fewer complexities, less micro-management) and effectiveness (faster decision-making, empowerment, more responsibilities).
Having said that, organisation delayering does cause headcount reductions (and overhead savings). See the example below.
However, the headcount reduction isn’t supposed to be random. It is supposed to be systematic based on the optimum spans and layers – and fit-for-purpose organisation structure.
8. Procurement Optimisation (Typical Savings: 5-15% of total costs)
People often mistakenly think procurement optimisation is about negotiating hard with suppliers and squeezing every penny from them. While price negotiation is important, it’s not the only thing that matters. There are many ways to improve your procurement besides pushing for the lowest price. For example, see the slide below: by optimising various levers, the company successfully saved $25m.
So, next time you think about procurement optimisation, consider also the non-price levers. You can often collaborate with the suppliers to achieve lasting efficiency improvements.
9. Digital Transformation (Typical Savings: 5-15% of total costs)
Technology is game-changing. They can help you to save costs and improve efficiency. For example, a client of mine successfully reduced costs and increased capacity at the same time by leveraging automation.
But don’t think it always has to be expensive and cutting-edge technology. Most of the time, simple and cheap technology works – as effective as, if not better than, expensive technology. For example, a simple barcode technology can solve a big headache for my client.
Also, not all technologies are hardware. Some are software improvements that you can quickly embed in your systems. For example, a multi-billion-dollar pharmaceutical company uses a low-cost web-based AI solution to improve processes and reduce costs.
But I have to warn you that many technologies aren't plug-and-play. Be very careful of what the vendors promise you. If possible, always choose the easy-to-implement solutions over the complicated solutions.
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In conclusion, by using these 9 techniques, you will be able to become a Master Alchemist who can quickly transmute expenses into profits.