Cost Cutting Vs. Cost Optimization

The latest buzzword in any business is budgeting and forecasting. A little bit of introspection and we find that budgeting practices are often aimed at cost reduction. Nothing but business environment is to be blamed for this. Growth rate of economy is dismal meaning consumption is not really increasing. Thus businesses are finding it difficult to increase top lines. RBI has refused to cut interest rates and inflation is shooting through the roof. This means improving bottom line whilst sustained pressure on topline seems to be a pipe dream.

Thus businesses across the globe are trying to identify means to cut costs in order to sustain bottom line.

Cost cutting is often taken up very aggressively within an organization. The most impacted function is often Human Resources. This coupled with reduced services and bringing redundancies in operation often have drastic side effects. Cost cutting program are the most difficult form of organizational change to maintain. It disrupts daily work rhythms by dampening morale, particularly when head counts are cut.

So what should be done?

There is a different philosophy than cost cutting called cost optimization. In short cost optimization is the process of determining the most cost effective solution under the given constraints without effecting the performance of business.

Cost optimization is a micro tool. The idea behind cost optimization is to sieve each element of cost to understand its impact on operation of business. These sieved costs are then prioritized against the constraints like capacity, demand and productivity.

Cost optimization entails a systematic and sustainable method to manage priority costs to ensure that operational capabilities of functions are not affected. A company’s growth is reflected by its capability to efficiently manage costs while ensuring optimum productivity.

Typically cost reduction programs deliver short-term tactical gains and do not deliver long-term sustainable improvements.

Cost optimization should be a priority for all businesses. Any businesses competitiveness depends on how well it manages its value chain relative to competitors. What differentiates any two businesses in this respect are scale of activities, technology, and resource intensity. More controllable factors are inherent process of business like continuous improvement, quality set up, efficiency matrix, capacity utilization, effectiveness of business processes, vendor/customer relationships.

The most popular tool for cost optimization is ZERO BASED BUDGETING. Under this technique, all the historical patterns of costs are ignored and costs are defined afresh, reworking the priorities and necessity for same. Other tools are Value Stream mapping, Benchmarking, Break Even Analysis, Shut down cost analysis and fixed cost analysis.

In the recent past, the focus for optimizing costs has moved to a more intrinsic resolution. Organizations routinely expect all functions to contribute to annual strategic targets by improving operational efficiencies.

In nut shell cost optimization is a much broader agenda than cost cutting. The exercise has permanent and sustained impact on working of organization rather than cost cutting the impact of which is temporary and most often detrimental. Cost optimization in effect encompassed cost cutting and further effective demand management, better skill management and better product quality.



About bsbasan

Professional with over 20 yrs of experience managing business. A strategist, A thinker and an innovator. Experience in cross sectional functions in various industries like Chemicals, Apparels, Retails,Hospitality, Construction, Manufacturing, Services. Proven experience in Business Development, P&L,Finance, Risk Management, Strategic planning and organizational transformation. 20+ years record of success managing corporate finance & business operations for growing manufacturing companies with multistate and international operations. Made break-through improvements in business processes utilizing lean methodologies and Six Sigma principles. Currently designated as Chief Executive Officer of Texport Syndicate India Limited
This entry was posted in Business, Finance, Governance, Management, Performance and tagged , , , , , , , . Bookmark the permalink.

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out /  Change )

Google photo

You are commenting using your Google account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s