The changing nature of business (pt 7): You can’t shrink your way to greatness

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When a company announces a swathe of cost reductions, there are two ways investors can look at it. Many might cheer: management is making savings - and that means they’re shoring up earnings. But there’s a different way to see it.

For the more inquiring mind, three thoughts come into play. First, what was the company doing with all those apparently unnecessary costs in the business all this time? Second, why are they cutting costs now - what’s going wrong? And third, what does this say about the company’s future?

Of course, most cost-cutting programmes are announced right after a bad set of numbers. There’s been a failure of some kind that needs attention - which answers the first two questions. And while the answer to the third is usually still up in the air, the priority is staunching the wound, not achieving greatness.

The trouble is that the same kind of problem often afflicts procurement functions day-in, day-out. Rather than responding to a poor set of earnings figures, they’re probably being targeted on finding more savings year-on-year. And their decisions might be just as short-termist as the company slashing headcount in the wake of some duff results (click here to find out why).

That’s where the finance function comes in. Just like investors, they have immediate concerns about the financial performance of the business this month and next quarter. But like those smarter shareholders, they’re also keen to ensure it is capable of delivering brilliant results further into the future.

Good CFOs tend to think holistically about their businesses because they see how every part of it works. Every activity appears somewhere in the numbers. So they know that a cut in one area has knock-on effects elsewhere. Take headcount reductions. A CFO planning for uncertain times wants to restrain cost. But reducing the wage bill doesn’t make the environment they’re operating in any more certain - it simply reduces their ability to respond flexibly to that uncertainty.

Ultimately, the value of the business isn’t driven by the raw productivity of its people or a lower wage bill. It’s built on the capability to exploit opportunity. Cuts designed merely to lower costs - regardless of the consequences - could quite easily cripple a company’s ability to do that, whether it’s because of lost knowledge, reduced flexibility, shifting working capital demands or lower quality of a product or service.

That’s not to say procurement isn’t important - nor that efficient spending shouldn’t be a priority. (Proxima is, after all, a procurement services provider). But the starting point for any examination of procurement, and cost in general, should be the ability of the business to achieve greatness. Only by taking that holistic view can companies reassure investors that their lower costs are really designed as a platform to grow.