CFOs and costs

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Five ways CFOs can make cost cuts stick

Successes in cost cutting erode with time. Here’s how to make them last.
Ankur Agrawal, Olivia Nottenbaum, and Andy West

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Optimism is on the rise that a solid economic recovery is taking hold around the world, but the cost cutting so prevalent during therecent recession looks to remain a strategic priority for some time. Indeed, the number of executives reporting steps to reduce operating costs in the next 12 months increased significantly between February and April, even as confidence in the economy grew.1 Yet any successes companies have at cutting costs during the downturn will erode with time. Many executives expect some proportion of the costscut during the recent recession to return within 12 to 18 months2—and prior research found that only 10 percent of cost reduction programs show sustained results three years later.3 On either schedule, any programs initiated in the early months of the downturn are already beginning to fail—just as savings would be most useful to finance growth. Sales, general, and administrative (SG&A) costsprove to be particularly intransigent. While manufacturing efficiencies have enabled an average S&P 500 company to reduce the cost of goods sold (COGS) by about 250 basis points over the past decade, SG&A costs have remained at about the same level (Exhibit 1). Why is it so difficult to make cost cuts stick? In most cases, it’s because reduction programs don’t address the true drivers of costs or aresimply too difficult to maintain over time. Sometimes, managers lack deep enough insight into their own operations to set useful cost reduction targets. In the midst of a crisis, they look for easily available benchmarks, such as what similar companies have accomplished, rather than taking the time to conduct a bottom-up examination of which costs can—and should—be cut. In other cases, individualbusiness unit heads try to meet targets with draconian measures that are unrealistic over the long term, such as across-the-board cuts that don’t differentiate between those that add value or destroy it. In still others, managers use inaccurate or incomplete data to track costs, thus missing important opportunities and confounding efforts to ensure accountability. While there’s no single silverbullet to ensure that cost-management programs will stick, large, multibusiness unit organizations can better their chances by improving accountability, focusing on how they cut costs, drawing an explicit connection to strategy, and treating cost reductions as an ongoing exercise.
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Fifty-four percent of the executives surveyed in April indicated that they would take steps to reduce operatingcosts in the next 12 months, compared with 47 percent in February. In April, two-thirds of the respondents rated economic conditions in their countries as better than they had been six months previously, and another two-thirds expected further improvement by the end of the first half of 2010. See “Economic Conditions Snapshot, April 2010: McKinsey Global Survey results,” mckinseyquarterly.com, April2010. The online survey (in the field from April 5, 2010, to April 9, 2010) received responses from 2,059 executives representing the full range of industries, regions, functional specialties, and tenures. See “What worked in cost cutting—and what’s next: McKinsey Global Survey results,” mckinseyquarterly.com, January 2010. Suzanne P. Nimocks, Robert L. Rosiello, and Oliver Wright, “Managingoverhead costs,” mckinseyquarterly.com, May 2005.

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MoF 2010 Granularity of cost Exhibit 1 of 2 Glance: While total costs of goods sold have declined over time, sales, general, and administrative costs have not. Exhibit title: Intransigent costs

Exhibit 1

Intransigent costs

Median cost of goods sold (COGS) and sales, general, and administrative (SG&A) costs for S&P 500...