So, you’re in a business turnaround situation. Your email is full of management account packs; you’re up to your eyeballs in Excel spreadsheets, and you’ve started seeing numbers in your sleep. You’re overwhelmed, there are too many numbers and you may not know where to start. In a previous post, I talked about how to know where to focus your efforts. I recommend reading that post first, as it will help you take control and reduce your stress. It will also help you simplify the problem and get clarity on the most important goals. Once you’re clear on the successful outcome you’re trying to achieve, it’s time to get to work on your cost-cutting strategies. In any business turnaround, cutting costs is necessary. It might not be the most popular decision but you have to do what is necessary. That’s your job. Get over it.
3 Cost-Cutting Strategies
In any business turnaround, you have 3 options:
- Increase your turnover
- Decrease your expenses
That’s it. It’s as simple as that.
Increasing turnover can take time and it can be quite erratic. We all know that Sales can be up one month and down the next. Because of the inconsistency and uncertainty, the quickest way to stabilise the ship and buy you some time to increase turnover is to cut costs.
In this post, I will show you the 3 cost-cutting strategies to help you achieve your business turnaround.
We’ll be working our way down the Profit and Loss Account (P&L) mainly but these can also be found on the cash flow statement. (Read my Profit and Loss 101 post to help you understand the P&L in more detail). Below is a very abbreviated set of accounts (P&L). The items marked in bold are the areas we will be focusing on in this post.
- Cost of Sale (COS)
- Gross Profit
- Human Capital
- Operating Expenses
- Earnings Before Interest, Tax, Depreciation and Amortisation (EBITDA)
1. Human Capital
The first of our cost-cutting strategies is human capital. This is can be quite a polarising subject in my experience. However, as I said earlier in this post, you have to do what’s necessary. Your job is to save the company.
Typically, the largest expense in any business is wages (i.e. human capital). Therefore it makes perfect commercial sense to zoom into this area. but if you’re having trouble with the idea of getting rid of people then think of it this way…
If your business is in a state of turnaround, then isn’t it fair to assume that not everyone is pulling their weight? Isn’t it fair to assume that there will be some people who aren’t adding any value? Worse yet – perhaps they are destroying value.
This is an opportunity for you to flush out the bottom performers. Every so often in business, (as harsh as it sounds) you need to do a bit of spring cleaning. Human capital is the first place you should start.
These can be found primarily in the Profit and Loss Account (P&L) and the cash flow statement. They will be split out in some form or another. In some P&L’s the human capital can split as follows:
- Revenue generators
- Support Staff
The terminology may change. In essence, what we are saying is that some of your staff will directly create sales for the business (Sales) whereas others may be in support functions (e.g. Marketing, Finance etc). It’s always a good idea to separate the two as you can see the proportion of your staff.
Let’s look at an example. Let’s say you have a company with 100 employees. Your objective is to increase turnover. But you only have 10 revenue-generating staff and the other 90 are support staff. There’s a clear problem. This is an extreme example of course, but it highlights the need to ensure you have the right roles in the business to achieve the objective.
Look at all the people in your company and ask some key questions:
- What is their role?
- Do you need them?
- Are they hitting target / KPI’s?
- How many times have they hit target in the last year?
- Is there a trend? etc
Use hard numbers to give you a draft list of people you might consider exiting. I say ‘consider’ because there can be other contextual circumstances that may affect someone’s performance. You can’t be so cold. But the draft list will give you a starting point at least.
Improve your commerciality with this quick reference guide for all 3 financial statements. Learn the purpose of each statement, what numbers to look out for and they key questions you should ask when looking at them.
The second of our cost-cutting strategies is Cost of Sale. This can be found in both the P&L and cash flow.
Quite often you can make some savings in the cost of sale. For example, if you’re a manufacturing company then negotiate on your raw materials. It doesn’t hurt to ask. Ask for credit, payment holidays, discounts. There’s all sorts you could do. You don’t ask if you don’t get!
In some cases, the COS savings might not seem massive in one isolated month. However, once you start adding it up over the year, you could potentially make some big savings and free up some much-needed cash.
Never be afraid to negotiate with or ask your suppliers for help. If you’ve worked with the supplier for a long time and they’re a trusted partner then you have some sense of confidence that a deal can be made.
As a standard business practice, you should also be negotiating after a certain period anyway. If you haven’t done this exercise in a while (or ever) then this is the best time to start.
The effect this will have is that even if your sales remain static, your gross profit will increase.
For example, look at the abbreviated accounts below. Your sales are £100K but it costs you £70K to make that. That’s quite high. Therefore your COS percentage is 70% (£70K divided by £100K). That only leaves you with £30K (30% GP) to pay for other operating costs and tax. That’s not a lot when you think about it.
Before Reduction in COS
Cost of Sale (COS) £70,000
Gross Profit £30,000
But if we reduce the COS to something like this:
After Reduction in COS
Cost of Sale (COS) £50,000
Gross Profit £50,000
Now we have freed up some capital, therefore, giving you a bit more to play with when it comes to paying out tax and other operating expenses. Which leads me to the next point…
3. Operating Expenses
The third of our cost-cutting strategies is Operating Expenses. Operating expenses are all the other bits that you need to pay for to run the business. These can include things like rent, rates, utilities, stationery, equipment, software etc.
The best way to tackle your operating expenses is to look at the cash flow statement. In the cash flow you will have an ‘Expenses’ section. In this section, your Finance team will (or should) have itemised every single expense that the business pays for.
Quite often, businesses can end up in a position where they are paying for things that they no longer need. Sometimes, the business is paying for things that they didn’t even know they were paying for. Other times, employees can incur expenses and pay for things without proper authorisation. On and on it goes.
This is why regular reviewing of the expenses is crucial for any business. But in a business turnaround, it is critical to review and chop anything you don’t need.
In your next Finance meeting, put on the agenda, “Expenses Review”. Spend a good hour or so (depending on the size of your business) going through each item line by line and asking the following sorts of questions:
- What is this?
- Do we actually need this?
- What would happen if we didn’t have this?
- If we need it, can we negotiate the price? etc
You’d be surprised how much money you could save by conducting this simple exercise. Not only does it clean up your expenses and save you money, but it’s the perfect opportunity to ensure that you put in control mechanisms to stop expenses being spent without proper authorisation.
There you have it! 3 very simple but effective cost-cutting strategies you can use to help you achieve your business turnaround. Of course, there are more, but in my experience, these are the most common and easiest areas to focus on. Quite often they have significant and immediate impact…and if you’re reading this post, I’m guessing that’s what you need.