In the holiday movie classic “National Lampoon’s Christmas Vacation,” Clark Griswold spends most of the days leading up to Christmas eagerly awaiting the arrival of his holiday bonus, expecting enough cash to cover the deposit on a new swimming pool.
But when the bonus finally arrives, it’s nowhere near what anyone expected. Instead of thousands of dollars, Clark receives a membership in the Jelly of the Month Club.
Despite Cousin Eddie’s claim that “it’s the gift that keeps on giving,” Clark is understandably upset -- and lets his boss, Mr. Shirley, know it. Upon seeing the effect that his decision to reduce costs in his company by discontinuing the bonus (and receiving a harsh admonishment from his wife) Mr. Shirley acknowledges that his employees are what make his company great and reinstates the bonus.
Although “Christmas Vacation” is fiction, the effects of cutting the wrong costs are something that real businesses deal with every day. It’s almost never easy to determine where to reduce spending, but when you don’t approach the process strategically, the effects could be devastating to your business.
In other words, while you might not replace bonuses with jelly, making other poor decisions with your cost-cutting measures are just as bad.
Good Costs vs. Bad Costs
Most of the time, cost reduction efforts begin by identifying good costs and bad costs. In the most general sense, good costs are those expenses that add value to the business or contribute directly to the business’s value proposition. These costs may be customer centered or product centered. They support your business in achieving its goals, by increasing capabilities, supporting growth, and allowing you to innovate.
Bad costs, on the other hand, are those that may be necessary, but don’t necessarily improve the value of your business or allow you to reach your goals. These costs don’t align with your business strategy. Often, bad costs are those incurred as a result of inefficiencies or waste.
Good and bad costs can occur at both the micro and macro levels, and across all segments of your business. In most cases, cutting bad costs, even at a very micro level -- for instance, reducing power usage by turning off the lights and computers over the weekend -- can make a significant difference to resource availability. Those resources can then be applied toward good costs, making them more productive and aligned with strategic goals.
Identifying Good and Bad Costs
Unfortunately, identifying good and bad costs isn’t always simple. Once you’ve eliminated obvious areas of waste, digging more deeply takes time and focus. And often, those costs that seem excessive or bad on the surface, like generous bonuses, are actually good and cutting them will do more harm than good.
The key to the good cost/bad cost approach to spending reduction is to focus efforts on those areas where spending can drive profitable growth. For example, in the insurance industry, up to 80% of an underwriters’ time is spent on administrative tasks, rather than tasks that drive additional sales growth.
Investing in automated systems, AI, and digital solutions to manage claims, finance, and underwriting administration frees up time and resources for activities that support business growth. This investment would be a good cost, as it trims the bad costs and supports strategic priorities.
Another example of good cost/bad cost is contracting and procurement. In many companies, procurement is managed piecemeal, with different departments and individuals making purchases without regard to established contracts.
By implementing a spend management platform that provides deep insight into your company’s spending and allows you to manage spending more efficiently, it’s easy to control expenditures and identify those areas where waste and inefficiency are slowing your growth.
Keep in mind that “cost cutting” doesn’t always mean eliminating costs entirely. In many cases, a reduction only requires reframing the expense, optimizing it and making changes to better align it with your company’s goals.
In a time of great uncertainty, reevaluating spending and finding areas to make cuts is on the forefront of everyone’s mind. By focusing on the good and bad expenses and making changes to eliminate as many of the bad as possible, you can maintain a streamlined, productive business and avoid sling momentum toward your goals -- and avoid resorting to cheap, lousy ways to save a buck.