Cost Cutting vs. Waste Reduction

As hard as it can be to cut costs in this tough economic environment, it’s harder to sustain the reduction once it’s achieved. “Five ways CFOs can make cost cuts stick” (McKinsey Quarterly May 2010) illustrated exactly this challenge and concluded that “Companies must improve their processes and capabilities if they hope to reduce or contain costs in a sustainable manner.”

To many continuous improvement (CI) professionals, the problems have been well known. For example,

“Importantly, the process planners who run such programs as Six Sigma improvement efforts are generally the wrong choice to manage cost-cutting programs. Typically, they lack both the content expertise and the authority to make difficult trade-offs in areas that often require more detailed knowledge of where costs occur and the ability to make keen subjective judgments about which costs to cut.”

  • Management by numerical objectives in functional silos

“We have seen too many cases where managing to a number has resulted in flawed decisions, such as delaying critical investments, shifting costs from one accounting category to another, or even cutting costs in a way that directly undermines revenue generation.”

  • Short-term focus without strategic goals

“Strategy must lead cost-cutting efforts, not vice versa. The goal cannot be merely to meet a bottom-line target. … Yet in our observation, many companies do not explicitly link cost reduction initiatives to broader strategic plans. “

  • Temporary solutions without improved processes

“Yet such hasty cost-cutting activity typically goes into reverse once the pressure is removed and rarely results in sustainable changes in cost structure. In our experience, the reason is that one-off exercises don’t require internal capability building.”

(I am sure you can list many more.)

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One important concept commonly missing in cost cutting discussions is VALUE, the heart of Lean.Although cost cutting is often inevitable, value creation is the real purpose of any business.Value creation requires a global perspective on the value stream, whereas cost cutting naturally leads people to activities defined by cost centers.Cost management should be focused on reallocating limited resources to maximize value creation, not merely cost cutting.Unfortunately in many organizations, managers that are accountable for managing their costs have no responsibility or control over the value creation process.

By differentiating value-added activities from those that are non-value added, many organizations are able to identify and reduce/eliminate waste, and thus, the associated costs, permanently.Building a Lean culture also helps prevent waste from being generated in the first place, and therefore, helps sustain the cost reduction.When additional resources are needed to create value (and an appropriate return), it becomes an investment decision, not a cost one.

It’s my observation that while Lean concepts at the operations level have helped many achieve sustained cost reduction, the concept of value stream and its transformational power at the strategic level remain underappreciated by senior executives. I am curious about your experience in applying Lean in cost cutting, waste reduction, and value creation in your organizations.

Comments 4

  1. LeanLeader15

    One has to ask themselves, why doesn’t this make sense to the senior executives….in my opinion/experience it comes down to the sub-culture they have developed in the C-suite. Most have not been developed or grown up through the ranks with a Lean Thinking mindset…the lean thinking they equated to their career progression is typically "more with less, no matter the cost". Until this sub-culture changes and the students appear, it will be a generational item before Lean Thinking (i.e. concepts) truly permeates the higher levels.

  2. Steve Christensen

    Value creation is the essential life blood of all successful companies. The Blue Ocean Strategy book details out how companies changed elements of their product or service and made its competition irrelevant. Operations should lead the creation of value related to making, storing, selling, delivering, installing and servicing the products in such a way as to make the optimal use of all available company resources: include labor and capital.

  3. Richard Dennis

    Through the "Great Recession" we did some cost cutting and streamlining of our organization. Several positions within the company have been combined to avoid hiring someone else to do the job and also to keep employees working.

    Now that we are coming out of the recession (at least in our industry) we are adding employees and positions but only positions that we feel bring value to the organization.

    5 years ago we were a company of 40-50 employees. Now we are doing the same work and have ncreased our monthly gross margin significantly with a workforce of about 20-30.

  4. SF Lau

    I agreed with you.

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