Improve Financial Results by Focusing on Value, Not Costs

When managers want to improve financial results, they turn first to trimming costs.  This is the logical first place to look if balance sheets are your primary view into how the organization functions.

Many cost cutting measures do have an immediate effect on the balance sheet.  A layoff reduces labor costs immediately.  Cutting travel, training, and conferences is less dramatic, but also shows immediate effects. There are more targets deep in the budget detail lines:  unplugging the break room coffee machine, rationing pencils, paper, markers.

But the cost of cutting costs rarely shows up on the financial reports.

A small engineering firm axed the company lunch room and eliminated over $200,000 per year in costs. That gave an immediate boost to the bottom line.

One side-effect was visible immediately. Without the lunch room, some people at ate their desks, and some left the building for lunch. That was probably a wash, with the longer lunches canceled out by quick lunches gobbled while catching up on email.

A more insidious side-effect was invisible (at least on the balance sheet) for several months. The lunch room had been a hub of informal, cross-department communication.  People who didn’t meet in the normal course of business ran into each other over lunch.  Someone from environmental remediation might learn about a new potential project from someone working on a run-off project in the mining division.  Someone working on a mine project might learn that one of the landscape architects was looking for more work, and bring him in on a site remediation project.

Middle managers lost the big picture of what was going on in the company—which made it more likely they make decisions that were good for their group, but bad for the company. Specialists lost opportunities to gain the perspective of other disciplines on their projects though informal means.  Formal consultation required a billing number, so they didn’t happen.

That led to poor decisions, and disappointed customers.  It took half a year before the communication gaps started showing up in project cost over-runs. Finally, the company lost a customer.

That captured management attention. The immediate response was to make more cuts—including a layoff.  Fortunately for the company, one of the partners insisted on a systemic analysis to explain what had changed before taking drastic measures.

Focusing on costs almost always increases costs, even if the balance sheet looks better (at least in the short run).

If you want to improve financial results, don’t just look at the balance sheet.  Look at how your company creates value for the customer.

For a start, follow a product from the idea stage all the way to software on a customer’s computer and money in the bank. There are almost always ways to make value creation faster and more effective.

You can start with a simple flow sketch.  As you make the sketch, notice:

How much coordination overhead is self-inflicted?  One organization I know had trouble developing by feature.  The company was organized by component groups. Each group had it’s own set of requests and it’s own schedule—which by some mechanism resembling a miracle—was planned to come together in a working release every six months.  Managers spent weeks negotiating, cajoling, and demanding time from various component groups to get a feature out the door.  Once they gained agreement, it was  full time job to facilitate meetings, track  tasks across multiple groups, and manage dependencies. When decided to try a cross-component team as an experiment, most of the coordination overhead disappeared.

How much rework might be avoided?  Another was developing by feature, but waited until all the functions with in the feature were coded to start testing, usually a period of three to four months.  Then they began the process of discovering misunderstood requirements, infrastructure that didn’t work as anticipated, and errors that started in one part of the feature and were then perpetuated through-out the feature. Most companies can’t afford (and don’t need) a process that eliminates all rework.  But there are methods that can reduce rework and find and fix errors early, before the rest of the software is build on a shoddy foundation.

Where are the delays in the process?  Delays in knowledge work often center on decision making and approvals—involving the wrong people, excessive sign-offs up the chain, processes where the rigor doesn’t match the risk.  (A friend told me about an approval process in this company that cost over $50,000 in management time to okay purchasing a $300 piece of software for one desktop.)

These are just three of the areas for opportunities to enhance value creation. And when you do that, costs will go down. Focusing on how you get products out the door and making that process effective will improve financial results in the long-run more than any one-time cost-cutting measure will.

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If you are ready to explore value creation in your company, I am here to help. Curious about how we might work together?  Start here.
© 2010 Esther Derby