Articles

Reducing Overhead Costs without Crippling the Business

Introduction

Organizations under pressure to keep overhead costs low also face demands to increase resources to improve quality and customer service. Typically, a properly conducted Overhead Review will identify cost savings of between 20% and 25% of all controllable overhead costs. While in some areas, costs can be heavily cut; other areas may receive extra resources to meet business imperatives more effectively. As a result, resources are re-balanced.

Choosing the right approach to an overhead review at one end of the spectrum is radical cost cutting – often urgent resulting from market place changes? At the other end is continuous improvement – the long term pursuit of incremental gains. The approach described here pursues a middle way; one that tackles a very difficult task – reducing costs and improving service levels at the same time!


Involve people

In most businesses, countless improvements in overhead effectiveness can be identified, but a limited number of specific changes will often suffice to win most of the available benefits. Solutions to the vast majority of business problems can – and should – be identified by the organization’s employees. They know their business best; individually and collectively, they have years of experience. But the pressures of business life may erode their ability to pool knowledge and share experience. Managers and staff may find themselves working in functional isolation and unable to see the big picture. To unlock the overhead value they need a vehicle to bring people at all levels together in a rigorous process of cross-functional analysis; jointly exploring opportunities for improvement and setting priorities for change.


An Overhead Review should aim to:

  • Ensure that the services provided are what customers, external or internal, require;
  • Ensure that costs (of all types) are actually providing profitable products and services to profitable customers;
  • Eliminate the root causes of process failures that lead to excessive wasted activities (we call them ‘Noise’)
  • Re-balance resources, to support those areas of the business that are critical to its success at the expense of those areas that are less critical.

Many techniques are used to uncover improvement opportunities, the key ones being:

  • Identifying critical success factors – Removing highly negative net margin business;
  • Re-balancing resources In any one case, certain techniques will be powerful; others will be less relevant.
  • Overhead activity analysis
  • Value for money analysis

Identifying critical success factors

A sensible start for an Overhead Review begins with a question – how reliable are the organization’s assumptions about customer service level requirements? Using customer feedback, it ranks the elements of service by criticality in the customers’ eyes and assesses how well the organization meets those requirements in comparison with the competition.


Internal service level change

Many costs may be sitting behind providing services that in reality may not be needed at the current level of service or may not be needed at all. Rarely do businesses actually check to see if the ‘internal customer’ of the services rates the importance of the service as high and if so then rates the level of service given. Everyone makes assumptions about the services they provide. A simple check might cut out many costs that are wasted on providing services that nobody now needs.


Stop supporting unprofitable business

It’s hard to contemplate actually dropping business as a means to reduce costs and improve profitability. But it is often the case that though conventional measures of performance such as gross margin may suggest things are all well there may be many factors that are eroding the gross margin and leaving the firm with products and customers that really only deliver negative net margins. This loss generally lurks hidden in the business. It may even be a high volume customer – everyone’s favorite!


Overhead activity analysis

Essential to the Overhead Review, therefore, is an understanding of the activities that take place and their alignment with the critical success factors. We classify overhead activities as either core, support or discretionary or noise.

Core activities add direct value to the business: They are the activities which build the future.

Support activities deliver the current business: purchasing, selling, making, distributing, invoicing and so forth.

Discretionary activities are to do with risk: checking, reporting, seeking approvals.

Noise accounts for a large percentage of time in most organizations. It is the result of process failures: sorting out problems caused by late or incomplete deliveries, fixing errors, product redesign, urgent order processing, special delivery and so forth.

Core activities are ‘important’. Noise activities tend to be ‘urgent’; they take precedence over the important things you should be doing. But if can fix the root causes of noise then we can increase our capacity to do more of what we supposed to be doing to grow the business.


Rebalancing Resources

At the heart of the approach are three ways of managing the cost of overhead activities and outputs. By thinking about activities in different ways it makes it far easier to make changes across an organization in a structured manner, looking at the relative merits of making reductions in some areas and increases in others.


Method change

This applies where an activity can be performed at lower cost by changing the method used – for example, through automation, staff training and process simplification or by re-sequencing tasks or moving activity to other parts of the organization.


Process change

Most noise activity is driven by process failure upstream of the function in which it occurs. So the process failure which requires an accounts clerk to raise a customer credit note is likely to have occurred elsewhere, not in the accounts department. When the failures are strung together along a process it is often the case that a simple enhancement at the start of the process can cause a cascade of improvements in every function downstream.

The Overhead Review encourages people to think hard about the way they operate and to suggest radically different ways of doing things. How could they manage with significantly reduced resources and yet adequately accomplish the key tasks the business demands of them? What could they avoid doing if others did their jobs better? What important business needs could be met if they had more resources? What improvements to systems and processes would benefit the business?

The outcome is not merely an overall reduction in cost. A shift from noise to core activity occurs, as the organization reduces failures and the number of unnecessary tasks, and concentrates instead on meeting key business and customer needs.


Key benefits

The Overhead Review delivers a significant and rapid reduction in overhead costs – at least 20%, normally identified within a timescale of 10 to 14 weeks. It achieves a major re-balancing of resources to meet the most pressing needs of the day. In addition, it provides:

  • Improved delivery of services critical to customers;
  • Increased awareness of the cost of noise activity caused by failures along processes;
  • Cross-functional understanding of business processes and the collapse of functional barriers;
  • Management and staff commitment to and ownership of the proposals for improvement;
  • A new and enduring attitude, which seeks to minimize wasted effort and meet the key needs of the business.
NR Doshi

NR Doshi