#1: Improve Cost Discipline

Reduce COGS And Capital Use, Not G&A Spending

Reduce Cost of Goods Sold and Capital Use, not General & Administrative Spending.

Sometimes, the most effective strategies appear at first to be counterintuitive. For example, it’s natural to seek cost discipline by attacking the close-in and relatively fixed area of General and Administrative (G&A) expenses. While organizations should attack G&A to get rid of the fat, if they focus only on G&A then they risk cutting beyond the fat to “muscle and bone.” In fact, G&A cuts can actually make a company less efficient by shifting direct costs to indirect costs (e.g., automated work becomes manual). Moreover, unlike operational improvements, cuts to overhead often prove unsustainable. Most importantly, companies focused only on cutting G&A risk are missing out on the far greater cost-reduction opportunity that exists in Cost of Goods Sold (COGS).

Making cuts in COGS enables companies to achieve lasting operational efficiencies. CEB finds that not only do cost leaders focus on COGS, they actually maintain higher levels of G&A than their peers, leveraging selective G&A investments to reduce the cost of ongoing operations. This enables companies to create a far stronger long-term cost position.

Incorporate capital costs into SKU reduction efforts.

After years of relentless focus on sourcing and operational efficiency, the next generation of COGS reductions will come from eliminating unprofitable products. How do you optimize the cost-benefit? The answer is to look beyond conventional approaches to measuring individual SKU profitability. Many companies fail to include the cost of capital in their calculations of SKU profitability—usually because traditional cost-accounting systems do not measure capital costs. As a result, economically unprofitable SKU's (which earn less profit than the cost associated with funding them) are systematically retained. This phenomenon becomes increasingly important as capital costs rise due to tight credit markets. The best companies make a point of including capital costs in their assessment of SKU profitability, calculating and subtracting the marginal cost of funding from SKU profitability.