Cost reduction through productivity allocation

A serious and widespread mistake is to focus primarily on costs. Their origin is determined, controlled, and reduced to the absolute minimum. This could be an error for two reasons:

• First, cost should not be decoupled from performance. Reducing costs as an objective itself inevitably results in reduced performance. This results in decreased productivity in the long run. Second, an increase in costs must sometimes be admitted to reach an important performance goal.

The allocation of productivity to costs is a technique to redistribute the budget corresponding to the different activities in such a way as to increase total productivity. This technique opposes traditional linear cost reductions that eliminate the good along with the bad.

The proposed technique will determine the cost items that are essential, as well as the amount of money that is needed to improve productivity.

The theoretical basis for this technique is the analysis and redistribution of the four cost categories:

• Suppressible costs: They are all those activities that can be avoided or eliminated because they only consume resources and do not generate added value either for the company or for its customers and consumers. Examples: inspection activities for purchased inputs can be eliminated to the extent that quality control is transferred to the supplier and they are selected based on their capabilities to manufacture inputs within certain specifications. We can also mention by way of example unnecessary activities, duplications, activities that do not correspond to the main mission of the company. Reducible costs: Corresponding to those activities that through continuous improvement, redesign, use of new technology or outsourcing are feasible for reduction. The simplification, combination, rearrangement or elimination of parts of the activity, the redesign of the processes or of the products or services, make up different possibilities in order to reduce the costs assigned to these activities in the budget. Controllable costs: Used in activities that are not subject to elimination or reduction, we must be subject to systematic control. The best way to control the evolution of these costs is through the use of Statistical Process Control (CEP). The use of CEP allows to determine effectively when cost variations are normal to the operation of the process and when they are attributable to special causes.

Through the use of CEP and the application of the Deming Circle consisting of Plan - Perform - Evaluate and Act (PREA), systematic cost reduction can be achieved.

• Effective or efficient costs: They represent those activities that, due to the high returns generated by each monetary unit invested or consumed, constitute segments of the budget to be increased in order to produce more than proportional increases in profits or benefits, especially in the medium and long term. An example of this are the budget items for training or research and development activities in companies dedicated to high technology. Not dedicating sufficient funds to these activities surely implies the loss of competitive advantages and therefore of markets.

If these activities were represented according to their productivity, they would be shown approximately as the following figure:

Productivity Level

In the implementation of said work methodology, both the activities actually carried out in the past, with their respective productivity levels, or the activities budgeted for the next fiscal year, can be graphically represented.

The first step consists of making a list of all the activities carried out by the company, assigning each of them the respective costs and productivity levels.

Second, these activities should be ordered according to their productivity levels.

Third: graph and classify the activities and their levels of productivity according to the types of costs mentioned above (suppressible / removable / avoidable; reducible; controllable; and effective).

Shift costs (redistribute) from removable activities to high-performance activities. Differences resulting from cost reduction should also be allocated to high-yield generating activities.

	Budgeted items
Types	Activities	Costs	Levels of	Costs
Costs		Budgeted	Productivity	Reassigned
Costs	A1	C1	P1	C1 + ce + cr
Effective	A2	C2	P2	C2 + ce + cr
	A3	C3	Q3	C3 + ce + cr
	A4	C4	Q4	C4
Costs	TO 5	C5	P5	C5
Controllable	A6	C6	Q6	C6
	A7	C7	Q7	C7
	A8	C8	Q8	C8 - reduction
Costs	A9	C9	Q9	C9 - reduction
Reducible	A10	C10	Q10	C10 - reduction
	A11	C11	Q11	C11 - reduction
Costs	A12	C12	Q12
Avoidable	A13	C13	Q13
	A14	C14	Q14

This activity should be carried out as a group and participatory activity, not only to take into account the experience and knowledge of all the personnel, but also to make its implementation more plausible, avoiding resistance and lack of commitment.

In order to avoid fears on the part of the personnel whose activities are eliminated, they must be made aware not only of said need for change, but also ensure a destination for more productive activities.

One way of approaching this work from the point of view of activities is to classify them as necessary and unnecessary based on the added value for the company or for customers and consumers, and into productive and unproductive based on how well the resources are used.. The first thing to keep in mind is always the need for a certain activity, because it does not matter how efficiently it is developed if they are not intended to achieve an increase in added value.

How the methodology in question can be observed is easy to interpret and apply. Its main secret when it comes to putting it into practice is the work of raising awareness, ensuring that the staff keep their jobs.

The other way to apply it is directly from the organizational top and through the support of internal (staff) or external consultants, although in this option it will have to be faced with resistance from the staff, for which the methodology of “ force fields ”in order to previously identify the driving factors (favorable to change) and restrictive factors (that restrict and slow down change), in such a way as to strengthen the former and reduce the strength of the latter.

It should be clear that the main objective of the methodology in question is the systematic reduction of costs per monetary unit of income. That is why this methodology constitutes an indispensable complement in the Zero Base Budget.

Bibliography

Improving total productivity - P. Mali - Editorial John Wiley - 1978