As economic uncertainty persists and the possibility of a downturn looms, businesses are under pressure to drive growth and uncover competitive advantages. During previous downturns, companies that pursued resilience strategies like cost optimization performed better than the competition. The right cost optimization strategy can help organizations navigate a downturn while positioning them to grow when conditions improve.
Here are four key considerations for CFOs exploring cost optimization approaches amid economic headwinds:
1. Prioritization is the first step
To determine where opportunities for cost optimization exist, you’ll need to divide all business activities into three categories:
- Activities you cannot adjust at all (such as regulatory compliance)
- Activities you cannot stop, but can adjust
- Activities that you can adjust or stop as needed
Next, identify the highest impact activities that offer the areas of greatest opportunity. “Highest impact” is determined by the size of the activity and the percentage change in value that you can expect to achieve in the form of cost reductions, efficiency improvements, or another metric. Once you identify areas of meaningful impact, you can build a cost-optimization plan to achieve those goals.
2. Measuring the right KPIs is critical
When it comes to measuring success, consider two kinds of benchmarks: financial and functional. Financial benchmarks are key enterprise KPIs on outcomes or costs, while functional performance benchmarks measure the performance of a process or set of processes. Cost savings are one important metric, but depending on the project, your KPIs may also include metrics related to efficiency, profitability, and customer service levels.
For example, pausing a product or service will yield different results and require different success metrics than a more complex action, such as modernizing a legacy IT system. Pausing a product or service may boost supply chain efficiencies while modernizing a legacy IT system can help improve access to data to facilitate better decision-making.
For CFOs and other decision-makers, analyzing the organization’s Cost to Serve per customer can be an innovative approach to reducing costs. Understanding this important metric and making adjustments accordingly can lead to significant margin impact through customer segmentation, delivery model changes, and pricing improvement.
Companies that do not already track relevant benchmarks should look to industry standards and competitors to determine which metrics apply to their activities. Public company data includes financial benchmarks, while functional benchmarks may require a benchmarking study.
3. Don’t overlook the long-term ROI of process improvements
Ideally, cost optimization supports long-term goals, including scaling down and scaling up. If a business only focuses on cost-cutting, it may miss other opportunities to drive value, such as process improvement. Improving processes requires some upfront investment, but it pays for itself over time by freeing up employees, enhancing decision-making, and improving efficiency.
For instance, we recently had a client who needed to accelerate cash collections. Over several decades of growth, the organization had not implemented common processes, optimized its delivery model, or invested in digital transformation. In other words, it was still relying on processes designed for a business one-tenth of its current size. In this case, building the right foundation for updated processes was more critical to achieving long-term success than cutting costs.
4. Customize cost optimization strategies to reflect current conditions
CFOs and other leaders need to adapt their cost optimization strategies to reflect changing economic and market conditions. Some activities become more critical during a downturn and others make more sense during periods of growth.
In times of growth, businesses should take bold action to increase revenue and profitability such as expanding geographies, targeting new customers, and adding new products or services. Some businesses may build these capabilities in-house, while others use M&A to acquire new capabilities. But even in good times, businesses should be mindful of cost optimization opportunities. When integrating a new acquisition, for example, look for ways to streamline costs and improve efficiencies.
In a down market, focus on financing strategic investment opportunities. If you can spot changing customer behaviors or emerging demands, for instance, you can grow revenue or gain a competitive advantage – even amid unfavorable market conditions. A downturn is also one of the best times to innovate or pivot your business model. Major innovators – such as the sharing economy and streaming organizations – were born out of the 2008 financial crisis. Stay in close communication with your customers to understand their issues in the current market and see if you can spot patterns in their needs and pain points. Then, build new products or services to meet those needs. Finally, a downturn is an opportune moment to reconsider previous experiments in products, services, and delivery models. Does it make sense to give them another shot under new market conditions? At the same time, it’s crucial to remain strict about project performance. If an experiment is not working, don’t be afraid to cut it and try something else.
To finance investments in growth and process improvement, businesses need to free up capital. Consider reducing fixed costs and moving to a more variable cost base. This can help you quickly scale up or down and reallocate cash to new opportunities. Tax optimization, including R&D tax credits and other available incentives, can also offset investment costs.
No matter what’s going on in the broader economy, achieving long-term goals and strategic resilience requires balancing improvement initiatives across people, processes, technology, and data. An effective cost-optimization strategy is one-way CFOs and business leaders can strengthen their organization during moments of uncertainty.
