- Cost Transformation
To plan effectively, a business should analyse and understand the opportunities and risks – particularly the competitive forces at work – that are prevalent in all its markets. Whether its strategic positioning is to be a low-cost leader or to own a unique market position, a business must have strategies to improve and sustain profitability by controlling costs.
Any analysis should therefore include comparisons of the costs and prices of equivalent competitor products and of the business’ cost structures with those of competitors.
Only by capitalising on the knowledge gained from this analysis of its competitive landscape will it be in a position to devise strategies to succeed in the face of its competition.
Profits are a function of sales and costs, but the drivers of sales are often different to the drivers of costs. Strategy should therefore be two-pronged, comprising strategies to drive or maintain sales and strategies to drive or hold costs down.
The cost strategy should explain how the business will maximise profitability by driving or holding costs down relative to sales. Strategies should explicitly identify their target customer segments, describing the value to them of existing products and presenting their profitability. The strategy should also explain how the profitability of the whole product portfolio will be optimised over time (Profit = Price – Cost), which may mean dropping certain products or exiting certain markets.
The strategy should also clarify gaps (such as unmet customer needs or market opportunities) and decide whether or not the business is fit to fulfil them; if so, it should describe products to exploit the gaps at targeted prices.
The philosophy is that the maximum costs of new products are limited to the prices that can be charged in the face of competition, less the required margin (Cost = Price – Margin). Such costs are not just direct product costs but all costs, including capital costs.
The strategy must therefore explain how strategic cost objectives cascade throughout the business into all aspects of the business’ cost structure, including: product and product family, process, department and cost centre. In this way, it provides line of sight for employees to link their personal goals with the cost strategy. The strategy should clarify how the business’ reward philosophy tangibly encourages a cost-conscious culture that drives continuous improvements in cost-competitiveness.