One of the most effective ways to improve profitability is to control expenses. Cutting costs and managing margins can maximize profits; time invested in cost control is often a high-return activity; and some owners are more comfortable managing costs than going on sales calls. As long as cost management is important to the company, either to maintain a competitive edge in cost position or as a way to ensure efficient use of limited capital, it is a good place to start.
A thorough cost management approach starts with three steps:
Step one: Perform an expense analysis
Business owners often agree that the best single action they can take to save their businesses money, improve cash flow and increase their overall profit is to create and adhere to a tight monthly budget. You cannot manage what you cannot measure. With that in mind, analyze your income statement looking at every line item in operating expenses and comparing monthly and quarterly figures to identify any jumps in expenses. Based on product mix and market pricing and pressure, ask yourself:
What are my biggest expenses?
What expenses are growing fastest?
Where might there be changes (new technologies, competitive market dynamic) in the supplier market that might allow me to lower my costs?
Challenge every expense and assume your business is spending too much. Spend the time to research costs and use comparative shopping sites to re-source them. Whether health insurance, business liability insurance or a myriad of supplies and services, the power of internet research and the increasing amount of comparison buying information can help you zero in on cost savings.
Determine your strategic costs - the things that make or save the most money - and try to aggressively cut everything else. Your strategic costs may include those related to product quality, excellent customer service, profitable new sales or your defined competitive edge. You should consider everything else overhead and determine ways to reduce or eliminate those costs.
Step Two: Use the latest efficient techniques and technologies
The digital age has created opportunities to bring more efficiency and convenience to operations across all industry segments. Whether your business is in the service sector, consumer goods, retail or manufacturing, many new technologies exist that can save your company money and pad your bottom line.
Outsourcing: Sometimes outsourcing portions of your operations to professional freelancers or contractors is the best answer, particularly in areas where workload fluctuates or doesn’t warrant a full time employee. Professionals working for themselves will have already developed the skills you need for tasks, thus also saving on business training costs. Services such as Elance, Freelancer or oDesk help you search for trained professionals who will work remotely for less pay than a traditional employee, reducing recruitment, training and salary costs even further.
Telecommuting: Instituting a work from home program for employees can allow your business to reduce its on-premises space, thus reducing lease or rent payments, as well as utility costs with fewer employees physically located in the office. Employees realize the benefits of telecommuting with improved work-life balance, not to mention savings from not physically commuting to work (i.e., transportation costs, parking, food/beverages out of the home, etc.).
Cloud-Based IT: Moving software and digital files to a virtual environment can eliminate the need to upgrade equipment every few years, saving IT money. It also provides telecommuting employees, traveling sales staff or any employee who is not physically in the office access to important files from any location equipped with a computer and Internet access.
Go Green: Printing fewer documents and conducting more business electronically through email, web sites or social media is not simply environmentally friendly - going green can save money as well. Reducing your company's reliance on paper saves on obvious expenses - less paper, toner, ink cartridges, copying and printing machinery maintenance/upkeep. Going green can also save storage and filing space, possibly allowing you to downsize your office facility or utilize the newly-available space to support more profit-generating tasks.
Automate support systems: Identifying new ways to automate or combine support systems can be a saving source. Look at telecom systems (VoIP based systems could save up to 50 percent on equipment costs); office machine systems (leasing vs. buying could save on future upgrades and monthly holding costs); HR administration (outsourcing to HR providers, or simply converting to an online payroll function can save money and free up employee work hours for other strategic projects); freight/delivery systems (consider bidding out freight services or partnering with other companies who use similar services to negotiate for bigger volume discounts).
Step Three: Make sure you don’t cut productive spending
Cutting the wrong expenses can cost your business money, not save it. Review your budget to identify items that will do more harm than good if drastically reduced or cut completely out of your operating expenses.
Salaries and Commissions: Reducing pay can be hazardous to the health of your business. While your bottom line may initially appear to improve, salary reductions reduce employee morale. Your employees will feel devalued which could have a disastrous impact on production and quality of work product. Instead of reducing pay, consider delaying raises and/or bonuses.
Marketing/Advertising: It is very easy to cut marketing out of your budget, but remember that advertising today is laying the groundwork for future sales. Instead of cutting out advertising, rethink how to market to prospects using lower cost methods, such as social media. If you know your customer, you can extrapolate those demographics to focus marketing efforts on like-minded prospects using social media or targeted web sites.
Safety: Expenses that keep your employees safe should be considered sacrosanct. However, that is not to say that your business cannot reap the cost benefits from using technology-based software tools to increase training on safety topics, monitor processes, improve organizational efficiencies and decrease injury rates.
Materials: Quality materials equal quality products. Trying to manufacture a product faster by taking short cuts or more cheaply by using lower quality materials can lead to inferior products that, in turn, will affect your company's reputation and customer service. Instead of looking for lower quality materials at a cheaper price, consider bidding out existing contracts to create competition among vendors. You may find that you can obtain the same high quality materials you need at a much more favorable price and/or payment plan.
Research and Development: R&D, often characterized by a few winners for many unsuccessful attempts, can fall prey to cost cutting. There could be plenty of opportunity in reworking the way projects are selected, funded, evaluated and monitored through the R&D cycle. But indiscriminate R&D cuts can sacrifice future innovation for current gain. Proceed with caution.
Ongoing: Be vigilant in reviewing “routine” expenses
Understanding which expenses are strategically necessary to grow your business profits, and which can be reduced or eliminated will add cash to the coffers. Remember though, expense review is not a one-time task. Continue to review, appraise and periodically dive into non-strategic costs to find savings, searching a couple of non-strategic expense accounts each month for expenses you can remove or slash.
One last word about enthusiastic cost cutting: always remember that costs generally come after revenues. You would not have the opportunity to cut costs if you had not growth sales to their current levels. While cost management and a resulting low cost producer position can give you a strategic advantage, you have to sell, first. So:
Make sure that your don’t focus on cost cutting – which for some personality types may be easier – at the expense of time selling.
Reach out to key advisors – CPAs, lawyers, bankers and peer owners – to help you keep your strategic priorities in balance.
Remember that most smaller businesses depend on growth to meet their goals. Cost cutting is not often the catalyst for growth.
Cost cutting is often a leveraged activity. You can structure cost cutting analyses and research for others to do. Closing the sale to a large client requires the most senior managers who can articulate the company’s strategy and cement the relationship.
In short, use cost cutting to support your profits, but be careful that it does not detract from your sales goals and growth.
This content is general in nature and does not constitute legal, tax, accounting, financial or investment advice. You are encouraged to consult with competent legal, tax, accounting, financial or investment professionals based on your specific circumstances. We do not make any warranties as to accuracy or completeness of this information, do not endorse any third-party companies, products, or services described here, and take no liability for your use of this information.