Monday, May 5, 2008

The Most Neglected Secret of Cost Reduction: Duh, It's Your People

Companies always ask me to help them reduce their costs. And I am almost always successful.

The common roadblocks to success may surprise you.

They are really asking the wrong question.

What management thinks it is asking is a different question than the one that will bring the outcome they want. They ask the question from the limited perspective of a financial person, rather than that of a business person. From that limited perspective, they are asking me to reduce a line item on their financial statements, and that is almost always either impossible, or of much less significance than what is really possible.

Limits of a "Financial" Perspective

The financial perspective asks something like, "Can you reduce my health insurance cost?" Or, "Can you cut my Workers Comp cost?" They are thinking that they can get the best outcome by simply "beating a vendor down," as they have historically done in the "mechanical" business model they work with.

However, check the costs associated with health insurance, other insurances, energy, taxation and people (line items on financial statements). These business costs are all rising faster than at any time in our history. The cost reduction gains available, if at all, are tiny, especially when compared to the gains available by making changes in systems and performance, as characterize an "organic" business model.

The right question involves going "Organic."

Here is a great example.

I recently worked with a fairly substantial ISP. They had an industry standard turnover rate a little shy of 50%. They used industry standard protocols for supervision and hiring. They felt that their healthcare costs could be reduced. That reduction saved them 15% in that one area, and they thought that was good. With their 150 employees, they could book $70,000 of savings.

They would have missed the greater opportunity.

With $5.5MM in annual payroll, the health insurance savings only amounted to a reduction of 1.17% off their labor costs. It's a mere tweak.

However, I ask a different question related to cost savings. Asked about the "organic" and intangible things at work in the company, I looked for systems inefficiencies and redundancies. I looked for things that might be done differently to achieve substantially better results. I looked at people practices. In this case, I looked at their recruiting and hiring and supervisory practices.

The way this company worked, with the high, although acceptable turnover, their supervisors were capable of supervising 12 people. They spent an inordinate amount of time on recruiting and training their people. By outsourcing this single piece, they could change the capacity of the staff they could supervise. We moved it from 12 to 16. (a mere 33% increase in supervisory efficiency.) And, the improvement in hiring practices decreased their turnover by more than 1/3 within 6 months, which improved employee production and customer service.

The resultant cost savings exceeded 9% on total their labor cost. That was nearly $520K. Without even accounting for the "soft" benefits associated with enhanced performance, or improved customer retention, this "organic' approach netted them a whole lot more profit than they could have ever gained following their "mechanical" and financial approach.

Why don't more companies look past the limitations of their cost reduction models? The answer is simple. Most companies are looking at pure "financial" solutions. These fit their "mechanical" models, and seem appropriate as they are acceptable to the "boards" to which they report. The "organic" approach means that they focus on "non-financial" areas, (people, leadership, systems, culture) areas that are seen as "soft" and therefore, less valuable.

The truth is different; the proof is in the pudding. The areas of greatest impact lie in the "soft" stuff, the "intangible" stuff.

In the inimitable, simple language of James Carville, "It's your people, stupid."

1 comment:

Anonymous said...

I am so glad that you wrote this.