While the idiom says that ‘you got to spend money to make money’, businesses depend on controlling their expenses. Cost-cutting is not just something your business should practise when you are in a financial crisis. It is something that should be done all the time. However, cutting costs should not mean that you should decrease the quality of your products or services as a result.
It is natural to be wary of a company that is offering something much cheaper than its competitors. There must be something wrong with it, right? But, it is possible for businesses to cut costs efficiently and provide high-quality products or services. In fact, it should be every company’s goal to do so. This book summary of Cut Costs not Corners will show you how.
In this summary readers will discover:
- The two types of costs in a company
- Understanding cost management
- The capital cycle
- Motivating employees means increasing productivity
- Financing costs
- What to do when in crisis
Key lesson one: The two types of costs in a company
Boosting revenue is usually the most common way to make maximum profits. However, there is another method – Costs leadership – and it involves managing expenses. In order to implement costs leadership you first need to understand the difference between the two main types of costs. Fixed costs and Variable costs.
Fixed costs are costs that are independent of production. It includes furniture, telephones and other equipment. It can also include things like rent, insurance and even labour as these are also costs that are independent of production but necessary to the company.
Variable costs are costs that are dependent on production. The higher the level of production, the higher consumption and the higher the cost. Variable costs include materials, packaging and storage.
Careful and intelligent management of these two costs can lead to products that cost less. This will ultimately lead to higher revenues and it can be done without compromising quality levels. The important thing to remember here is to be smart about the cuts you make. Making sweeping cuts across the board will likely lead to a decrease in the quality of the products or services you provide.
An example of making the wrong cuts would be something like getting rid of your customer support team. This will just lead to disgruntled customers and the loss of their business in future. In contrast, an example of getting it right would be when IKEA’s founder Ingvar Kamprad. He cut costs by selling unassembled furniture which was cheaper to manufacture, saved production time and took up less storage space. This cost-cutting strategy led to his 235 store empire!
Key lesson two: Understanding cost management
You need to understand cost management prior to getting involved in any business venture. Why? Because most new entrepreneurs tend to make the mistake of spending more money than they have. This can lead to serious problems and even the complete failure of the business before it ever gets a chance to start.
Understanding cost management is thus crucial. A good place to start is by looking at property. Property is a cost that can be easily decreased. The standard requirement for space is 11 cubic meters per employee. If the space you rent has more than this requirement, you are probably paying too much. Another option is hot-desking whereby employees use whichever desk is available and are not assigned individual desks. This maximizes workstations and the concept has become popular in recent years due to its cost-effectiveness. However, keep in mind that it works best in companies where not all employees are in the same place at the same time.
Another option to manage your costs is to cut all other non-essential costs. If you have tasks that are non-essential and will cost more to handle internally, find an external contractor to do the job. Outsourcing can be cheaper so you have to test which is more financially viable. You must also remember that although you are outsourcing, you must still maintain the same quality of work that you would receive in-house.
Key lesson three: The capital cycle
The capital cycle refers to the cycle from the beginning of production to the end. You start off with cash in hand which is then used to buy capital assets and raw materials that will be used to produce the finished product or services. These products or services can then be sold and the money you get can pay your suppliers and ideally be enough for you to repeat the cycle.
Cost-cutting within this cycle should be focused on cutting back on time. Take for example if you have stock that has not been sold. The longer it remains unsold, the more it costs in terms of storage. To minimize this cost, you have to ensure that the stock does not remain in your possession for long periods of time. Wal-Mart does this by having a limited inventory. The stock that they keep in storage is 2.5 times less than the average of other businesses in the same industry.
Other ways in which to cut costs in the capital cycle is to negotiate with customers and suppliers. In terms of customers, if you offer products or services on credit, the long waiting period for payments directly impacts the money you make. If they had paid up-front, that money would be collecting interest already. You can deal with this by setting shorter payment periods (less than the 90-day standard) and fine late payers. When it comes to suppliers offering you credit, it is more beneficial for you to pay up-front in exchange for a lower cost.
Key lesson four: Motivating employees means increasing productivity
If you can increase productivity, you can cut variable costs considerably. In order to increase productivity, you have to get your employees motivated to get more done. The recommended method to achieve this is to use the company’s profit margins instead of their turnover. To explain this as an example, if you tell your sales team that they will be rewarded for the sales they achieve, they will focus on the sale and not how much it costs to achieve it. In contrast, if you let your team know that their commission is based on the company’s profits, chances are they will be more focused on saving money whilst achieving their sales. Everyone will be on the same page when it comes to cost-cutting and will be aiming for the same goals.
Motivation in the form of salary increases is often not enough though. Employee satisfaction in the workplace often involves cashless motivators. Most employees appreciate the recognition of their achievements no matter how small the gesture is. A simple email to thank them for their efforts or a dinner to celebrate the completion of a major project can be highly motivating for employees. Showing appreciation is a great way to let employees know that they are valued and this will be reflected as they continue to work harder to maintain your regard for them.
Key lesson five: Financing costs
Financing costs refer to the cost of raising money. It is crucial to get a handle on these costs before they start chipping away at your businesses profits. Identifying ways of getting money at little cost is the best option to achieve this.
There are three strategies which you can consider.
Firstly, you can approach your family and friends. Whether this is the easiest or hardest approach is debatable. However, either way, it is highly beneficial for you to get finance this way as it is quicker than most other procedures and you could negotiate more flexible terms. You also will be more likely to cut costs because you are more aware of whose money you would be using. The important thing to remember here is to be upfront with your family and friends about the risks involved with investing in a company.
Secondly, you can look out for awards offered by other businesses, banks or newspapers. They usually have awards for specific fields of business and choose the recipients based on their business plans. HSBC, for example, has something called Start-up Awards which awards grants of up to £25 000.
Lastly, you can negotiate more favourable terms with banks. In order to do this, You have to have your ducks in a row. A solid business plan and a clear idea of how you will pay back the money. You should also pay attention to the financial section of the newspaper to keep track of interest rates and the best bank to approach.
Key lesson six: what to do when in crisis
All businesses hope that they never have to deal with a financial crisis but a good business will prepare for one nonetheless. Knowing what to do in these situations is crucial to your company’s survival.
Strategies to consider include trading debt for equity and relocating your business to a different country with low business tax rates. In terms of trading debt for equity, it is always beneficial to get rid of debt but it can sometimes take a big chunk out of your company. Samsonite, for example, traded 60 per cent of its shares to CVC Capital Partners to pay off a debt of approximately $175 million! Relocating your business can work when you consider the difference in business tax rates in different countries- it can range from 9 per cent in the Maldives to 86 per cent in India. But it is not always feasible when everything is considered.
Cutting back on employees is never the best option when in a crisis. The employees who are left behind will be left in fear of losing their jobs and this will result in decreased productivity or even worse, they will seek employment elsewhere to avoid being next in line. Either way, it’s bad news for your company.
You can, however, ask your employees to make sacrifices that can save the company money. They will be more receptive to this idea because it will save jobs. For example, British Airways convinced 6940 employees to take voluntary unpaid leave which saved everyone’s jobs as well as $16.7 million!
The last thing you should remember is that sometimes it’s best to cut your losses and close the business. There is no use that you stay on board a sinking ship. Failure is a part of business, and sometimes stepping away from an unprofitable business will prepare you to start the next one more knowledgeable and prepared.
The key takeaway from Cut Costs not Corners is:
Cutting costs should be considered right at the start of a business and not only later on when it is needed. This mindset will allow your business to be more profitable and will put you in better shape if any crises arise. There are numerous costs, both fixed and variable, that you can cut back on without compromising the quality of your product or service. You have to be smart about how you cut costs and understanding your business is key to this. Cutting costs without decreasing quality is easily achievable if you follow the lessons from this book.
How can I implement the lessons learned in Cut Costs not Corners:
Whether you are starting a business or are already a business owner, having a firm understanding of the costs associated with your business is crucial. Figure out where you can cut costs in your capital cycle and start implementing them now. Cutting costs continuously is a better option than making major cuts out of necessity.