Cost reduction: get ready to profit from recovery

Nick Harrison is a partner and industrial sector specialist at Vendigital. He recently shared his insights with Manufacturing Management.

Despite some tentative signs of manufacturing sector recovery, cost reduction strategies remain a key focus for many businesses and could make the difference between success or failure in the months ahead, says Nick Harrison, a partner and industrial products sector specialist at top-20 management consultancy, Vendigital.

While some are well on the way to rightsizing their cost base, others still have much to do. So where should they start?

The pandemic has had a disparate effect on UK manufacturers across industry sectors. Many high-value manufacturers in the automotive and aerospace industries were brought to a virtual standstill by global lockdown restrictions. They are now faced with a sluggish or non-existent market rebound, which is unlikely to bring much mid-term sales growth. For these businesses, cost reduction strategies are essential, but come with the additional challenge of continuing to invest in sustainable technologies, such as battery tech and other decarbonisation solutions, for use in the development of greener planes and vehicles.

On the other hand, manufacturers operating in areas such as telecoms, automation, medical equipment and food and drink production, for example, have maintained strong order books throughout the pandemic. Rather than reducing their cost base, they are focused on controlling costs as they grow and introducing the systems needed to scale up operations.

The latest industry surveys give a mixed picture of how the sector is faring too. The CBI’s latest monthly Industrial Trends survey revealed that new orders rose only slightly in August, despite the economic downturn easing – the increase was below economists’ expectations. The IHS Markit / CIPS Purchasing Managers Index reported that factory output in the same month rose at the fastest rate for six years, despite businesses cutting a significant number of jobs. Both surveys agree that while some of the pressures on manufacturers are showing signs of easing, trading performances are still far from back to normal.

Despite the pain of managing in a pandemic, there have been some learning points for manufacturers, which they could capitalise on as markets begin to recover. For example, some found they were able to pivot to meet new areas of demand quickly, without the approval of layers of management and restrictive departmental protocols. Now, as many businesses revert to making what they were before the pandemic, they want to become leaner and more efficient, at the same time as rationalising their cost base.

In the short term, the pain of re-starting operations is going to be far greater than the pain of shutting down. Now back up and running, many manufacturers are struggling to keep production lines open and fulfil orders with fewer people due to furloughing. Business managers have realised that significant productivity gains can be achieved by making better use of technologies and using fewer people in decision-making roles.

Instead of tackling people costs in isolation however, businesses must design and implement cost reduction strategies that will improve their resilience in the long term. In many cases, decision makers are spread across multiple locations and there is a lack of visibility about who is buying what from whom. Adopting a more centralised approach when procuring essential supplies and other fixed costs could help to drive down costs and improve transparency. However, greater focus on improving supply chain efficiency and reducing operational costs is needed too.

The key to delivering value in the longer term lies in improving understanding of customer profitability and total cost of acquisition. The starting point is access to accurate and reliable data. For example, it is not unusual for manufacturers to be using multiple IT systems, which have been installed by different departments over a period of time. With data stored on different systems, using different part codes and supplier information, achieving end-to-end supply chain visibility is impossible and true cost understanding is buried in unfathomable data sets.

To reduce costs and improve operational resilience during the recovery phase, manufacturers should consider the following steps:

• Improve data visibility – Before reducing costs, manufacturers should aim to improve the integrity of their management data. A data consolidation programme should be applied to unlock data-based insights to inform their decision making. This is a vital building block to a more profitable and resilient business.

• Align sales to cost – Armed with accurate and reliable data sets and strong use of data analytics, the next step is to make sure the business has a clear understanding of what it is spending and where. This is especially important where there are large buckets of spend, as even small percentage economies of scale could enhance operating margins significantly.

• Be prepared to shift capacity – With further disruption a distinct possibility in the months ahead, maintaining an agile production model is essential. Knowing where capacity lies and where it can be moved, could enable the business to maintain or increase throughput in response to market demands. Informed by robust analytics, manufacturers will be equipped to make the right strategic decisions at the right time, to protect business continuity and optimise liquidity for tech investments.

• Consider centralising procurement – while it may not be appropriate for all areas of cost, essential supplies and commodities should be procured centrally wherever possible as the volumes involved can be leveraged in price negotiations, driving economies of scale.

• Look beyond the cost base – Rightsizing the cost base is a priority for many manufacturers in the current climate, but they should also use the opportunity to review their business models and channels to market. For example, some manufacturers may want to move away from a distribution model to doing business directly with customers. Others may wish to shorten supply chains to facilitate the adoption of an on-demand delivery model.

• Is your footprint fit for the future? – Taking the opportunity to re-evaluate the operational structure of the business could also drive enterprise value. Is the footprint of the business aligned with where it wants to be in the future or could adjustments be made now which would improve resilience in the long term? Bringing skills and capacity together at a single location, for example, could help to streamline processes and deliver efficiencies. Geopolitical risk factors and how these might change in the future, should also be taken into account.

• Review sourcing strategies – Keeping supply chains short and removing complexity will help to improve visibility and mitigate the risk of disruption. Manufacturers may need to consider whether dual-sourcing strategies should be deployed to improve resilience and/or to introduce competitive tension to reduce cost.