cost_controlling_tool

Cutting costs is the simplest way to improve your profitability. However, introducing a comprehensive cost controlling system can bring immediate savings as well as make sure that you remain and even increase your competitiveness in the longer term.

Johnson, Scholes and Whittington define 4 main sources of cost efficiency:

  • Economies of scale – basically this means that the cost per unit will decrease as the size of your activity increases. In more technical words, the fixed element of the cost will be spread across a larger number of units.
  • Supply Costs – the prices paid for purchases from suppliers have a significant impact on your overall cost structure. Here we can identify two important elements that should be analysed: the costs of transportation and the possibility to negotiate with supplier for more favourable costs. The ability to negotiate with suppliers usually come from the size of the quantity purchased, this being basically another form of economy of scale. In practice, companies with similar requirements (for example for specific materials) sometime work together and combine their orders to suppliers to benefit from larger quantities and thus lower costs)
  • Design of product and processes – well designed and operated business processes can be a source of cost efficiency, minimising both direct and indirect costs. For example, you can reduce costs by achieving a greater labour productivity, you can reduce costs by reducing the materials waste, you can achieve economies through improved working capital control).
  • Experience – what it means it is basically that once a process is repeated, it is expected that over time costs would be reduced due to increased efficiency. For example, outsourcing may allow organisations to benefit from the experience of their suppliers.

Usually the role of focusing on the cost controlling process is assigned to the finance manager in a company. However, this process is a companywide one and everybody needs to be involved.

You need to start by identifying costs at departmental level. Thus you need to define the key cost centres (production, sales, marketing, logistics, finance, HR, IT etc).

Within each cost centre you need to identify the major type of costs (utilities, maintenance, consultancy, salaries, training, transportation etc).

Once these costs are clear you can start planning which to focus on and the order to do it (start with the quick fixes and prepare a plan to attack the rest of the costs).

Some of the quick areas for savings may be reducing inefficiencies (identify other suppliers with lower costs, reduce waste, reduce unnecessary costs, avoid frequent small orders, etc).

Next you should look for more complex opportunities to reduce costs. Some of them may require the way you do things such as:

  • Reducing your payroll costs by outsourcing your non-core activities, using consultants, redesigning processes to avoid duplication etc.
  • Increase purchasing efficiency by switching to cheaper suppliers or negotiating lower prices, create alliances with businesses in your area to gain economies by ordering larger quantities etc)
  • Implement more efficient ways to run production
  • Review your financing costs and working capital.

Cost controlling does not mean only cutting costs. Normally it is an intrinsic part of your activity and must start form your business objectives. When you plan for your business you also plan for some operating costs. Therefore, it is important that you implement a system that allows you to manage your costs. This will include:

  • Establishing standard costs for your activities so you have an ideal base
  • Set-up a budgeting process at cost centre level, thus identifying running costs in specific situation and assigning responsibility and to departmental managers.
  • Implement across the organisation a clear purchasing policy and also procedures, including the approval of purchase orders.
  • Record actual costs against assigned cost centres
  • Monitor costs against budgets on monthly level and
  • Implement a periodic review of budgets to ensure latest developments are identified and addressed.

You may also consider benchmarking your costs base against other organisations with similar size, activity or within your area to see how you compare and potentially identify more opportunities.

As showed, cost controlling is not the role only of the finance manager or the general manager. It is the responsibility of the entire organisation. You should aim to involve employees in the process as well. They are more likely to cooperate with your cost controlling initiatives if they get the full picture including the reasons for change and the benefits to the organisation. Suppliers should also be involved. Once they know you are targeting your costs, they might be more open to offer you better solutions, especially if they know that other options are available to you.

And most important, don’t see the cost control as a one off process. Discipline in spending, focus on doing things smarter and monitoring and understanding spend needs to be an on-going process in the organisation. This is one of the ways to ensure a healthy business environment and you ensure you follow objectives.