Virtually every company is familiar with the broad challenge of improving work efficiency and streamlining costs to boost profitability. By simplifying operational procedures and focusing the product ranges, companies can reduce complexity in specific areas and increase revenue while reducing costs. Companies can also achieve long-term structural improvements by, for example, optimizing plant networks, and managing and distributing inventory.
One clients’ diagnostic involved a thorough screen of key performance dimensions, including procurement, production, service, distribution, and administration. The result is a dashboard of the most important cost and improvement potentials across the entire company. The diagnostic is based on a sound understanding of the four critical parameters of operational improvement: cost, market position, customer trends, and complexity, which is probably the most underestimated.
Industrial companies with whom we have worked have saved an average of 8% to 12% of their material procurement costs. At many industrial companies production has not been systematically optimized. It is often attractive for companies to outsource to suppliers in low-cost countries, particularly for labor-intensive component production. To identify the outsourcing scope, manufacturers need to calculate the true production costs for each component or operational step in question to estimate the outsourcing cost based on a quantification of the above described levers.
This process usually yields outsourcing savings of 10% to 20% of total production costs for the components and products concerned. Production costs are frequently too high because there are too many plants, an excessively complex interplay between plants, or an abundance of labor-intensive processes at high labor cost locations.
Specialization: In cases where all plants produce all products, typically unit costs are higher compared with a situation where each plant is specialized on certain product lines with optimized processes and equipment. A clear specialization of plants on product types allowed a significant reduction in manufacturing costs. Cost reductions from plant network optimization generally can range from 10% to as much as 30% of total production costs.
Industrial companies often do not apply and manage lean production systematically. A set of KPIs to measure the operational performance of each plant at short notice in the categories of safety, customer service, quality, cost, and inventories. Even if certain plants consistently implement lean production, other facilities will still need support to redevelop the production layout and work flow, boost statistical measures of quality, or significantly reduce inventories in production. Companies that adopt all of these lean production measures can typically reduce production costs by 5% to 15%.
In this way, clients with previously complex warehouse networks achieve cost savings of between 10% and 20% for warehousing and transportation costs. This can be a good option if current warehouse locations are too small to operate efficiently, if the company needs a cost structure with maximum variability, or if there are significant gaps in internal logistics competencies.
For companies that have not optimized their distribution processes, a structured lean approach frequently leads to cost reductions of 5% to 15% and inventory reductions of 30% to 50%. For this reason, industrial companies that seek to optimize profitability in the service business should concentrate on improving staff efficiency. Many companies estimate potential overhead reductions by benchmarking their overhead costs as a percentage of revenue.
As a rule, “functional costs as percentage of revenue” is a useful benchmark to identify potential cost reductions. For question mark products, a detailed analysis must be carried out to establish whether production costs are too high or whether product pricing is too low. These include product elimination, product replacement, price decisions, or reduction of production costs. Industrial companies can frequently achieve significant cost reductions by applying so-called Design-to-Cost or Design-to-X approaches.
Structured discussion and brainstorming sessions can help companies identify product-distinguishing features and cost optimization opportunities. Our Design-to-X projects typically achieve cost savings in the range of 5% to 20% of product costs. In many cases, the key is to improve operational procedures or reduce product complexity before addressing inventory reduction directly. By applying these methods, industrial companies can typically achieve working capital improvements of 20% to 50%.
Companies with very high Capex relative to benchmarks are generally deficient in the principles of investment cost management. Production improvements are generally found in the bottom left quadrant due to the low addressable cost base but comparatively high one-time costs and Capex involved in the implementation. A recent study from a client of operational performance improvement programs at several hundred companies revealed the following: areas that tend to show rapid and significant improvement include procurement with its high cost impact, a reduction in working capital (cash management), and a critical examination of current Capex.
Projects that display performance improvement in the medium term include outsourcing, new plant networks, inventory management systems, and measures to reduce complexity. Projects that typically need more time include the introduction of lean management, reducing product complexity, and systematically trimming product costs. One clients diagnostic identifies potential short-term improvements as well as longer-term improvements that can result from changes in production or product configuration.