Many cost reduction projects result in an initial surge in profit margin, but with unsustainable results. A key issue for failure is often the lack of early cost awareness. Instead, companies wait until lightning strikes and cost cuts are inevitable. As a result, companies often fail to align the corresponding cost reducing activities in accordance with its strategy. A cost optimization approach may be the solution.
“Cut the fat and get out on top” or “desperate times calls for desperate cuts” are two quotes connected to cost reduction initiatives. At first glance it may sound easy; analyze the cost structure and cut the unnecessary spending. Activities may include the coordination of sourcing activities to achieve economies of scale in the procurement process, or rearrange the resources needed to operate the business and outsource the rest. However, if not performed properly, history has shown examples of companies suffering from declining organizational performance for years after badly executed cost reductions.
Kraft Heinz – a cost reduction project that went south
When the food giant Kraft Heinz (annual sales of approximately BUSD 26) was created in a merger the hypothesis was that the brand was strong enough to withstand large cost reductions to improve profitability whilst retaining its market share. However, the initial surge in profit margins proved not to be sustainable. Instead, the food market changed dramatically, and Kraft Heinz suffered from declining sales. It resulted in that Kraft Heinz poured spending into marketing trying to turn around the deteriorating sales performance – an effort that drained its profits. Unfortunately, the damage to the brand was severe and efforts came too late. Consequently, years after the merge, the shareholder value is still less than half compared to when the merger was initiated.