COST REDUCTON

AND COST CONTROL

Control your costs before they control YOU!

ITM XMBA 26: Economics Term III

Presented by: Ajay Upadhayay , Rajesh Barik , Ashish Srivastava , Bhoomika Udeshi Nitin Nanaware , Mallikarjuna, Partha Sadhak

COST REDUCTION

Cost reduction refers to the real and permanent reduction in the unit cost of the goods manufactured or services rendered.
Means of Cost Reduction (i) By reduction in unit cost of production: This is usually brought by elimination of wasteful and non-essential elements in the design of products and from techniques and practices carried out. (Any reduction in costs due to changes in Government policy like reduction in taxes or duties or due to price agreements do not come into the area of cost reduction as these are not real and permanent reductions in costs).
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(ii) By increasing productivity: This refers to increase in the volume of output with the expenditure remaining the same. But this should not be achieved at the cost of the characteristics and quality of the product.

Areas of Cost Reduction 1. Design 2. Factory organisation and method 3. Product planning 4. Factory layout and equipment 5. Utility services 6. Marketing 7. Finance
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Cost Control
Cost control is concerned with keeping the expenditure within acceptable limits. Its major assumption is that costs are in control unless costs exceed budget or standard by an excessive amount.
Difference Between COST CONTROL 1. Controls costs towards achievement of predetermined target or goals. 2. It is a routine exercise. 3. It is a preventive function. COST REDUCTION Represents real and permanent decrease in costs. It is a planned process. It is a corrective function.
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COST CONTROL IS EFFECTED THROUGH

BUDGETING & STANDARD COSTING
Budgeting: A budget may be defined as a comprehensive and coordinated plan of action, expressed in monetary terms. It is prepared and approved prior to the budget period and may show income, expenditure and capital to be employed to attain the objective.

Standard costing:
In this, standards are set and actuals are compared with the standard. Corrective measures are undertaken for any discrepancy found between the standard and actuals.
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TECHNIQUES OF COST REDUCTION

1. VALUE ANALYSIS: Value analysis is the identification of unnecessary cost i.e. cost that neither provides quality, nor use, nor life, nor appearance, nor customer satisfaction. Thus value analysis attacks costs at production stage. 2. ECONOMIC BATCH QUANTITY: (EBQ)

EBQ is that point where carrying costs equals set up cost approximately. At this point the total cost will also be minimum.
3. ECONOMIC ORDER QUANTITY: (EOQ) EOQ is the quantity fixed at a point where total cost of ordering and the cost of carrying the inventory will be minimum.
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4. ACTIVITY BASED COST MANAGEMENT

ABC (Activity Based Cost management) assumes that resource-consuming activities cause costs. Its aim is to directly control the activities that cause costs, rather than cost. By managing activities that cause costs, costs will be managed in the long run.
Cost causing activities designing, engineering, manufacturing, marketing, etc.

A CASE STUDY IN ABC

Under ABC in a direct mail printing firm, cost reduction occurred by developing plans to eliminate idle time and reduce the total set-up time rather than layoff employees. The firm was reporting decreasing profit although operating at capacity. Its short-run solution was to reduce the labour force, which is a cost the company can control in short run. A study of activities in the printing process, however, indicated a set-up time of 35 hours on complex orders with employees being idle 25% of the time during set-up. ABC demonstrated that this idle time was costing the firm approximately US$.41000 in wages per complex order.
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5. JUST-IN-TIME APPROACH: (JIT)

The aims of JIT are to produce the required items, at the required quality and in the required quantities, at the precise time they are required. JIT helps in cost reduction by a. elimination of non-value-added activities,

b. zero inventory,
c. zero defects, d. zero breakdowns,

e. single batch ordering.

Though the above goals are unlikely to be achieved, it represent targets and create a climate for continuous improvement and excellence. 9

6. TOTAL QUALITY MANAGEMENT: (TQM)

TQM works on the philosophy that all business functions are involved in a process of continuous quality improvement.
TQM reduces cost by producing the products correctly the first time rather than wasting resources making substandard items and incurring additional expenditure on inspection, rework and scrapping.

It helps organisations to achieve their quality goals by providing reports and measures that will improve quality.
TQM aims at a customer-oriented process of continuous improvement that focuses on delivering products or services of consistent high quality in a timely fashion.
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7. SUPPLY CHAIN MANAGEMENT: (SCM)

SCM attempts to build a cost effective chain beginning with the ultimate customer and links all the previous suppliers under one platform. An effective SCM eliminates most of the activities in between customers and raw material suppliers along with associated costs. Most of the non-core activities are outsourced and hence fixed costs are kept minimal. Close interaction between the corporate R&D and the suppliers facilitates continuous improvements in product design, process methodologies, etc. resulting in customer value enhancement and cost reduction. A rupee spent on the supply chain can give more value than a rupee spent on marketing. The supply chain is part of the service offering.
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8. PERT ANALYSIS
Programme Evaluation Review Technique (PERT) reduces cost by giving an optimum schedule for the activities necessary to complete a project.
Other Cost Reduction techniques 9. Simplification and Standardisation 10. Design analysis 11. Substitute material utilisation 12. Production planning and control 13. Technological forecasting 14. Market research etc.

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Non-Conventional Approach
Material Cost reduction
Manpower Cost

(outsourcing / contract/seasonal/automation)
Cost Management Initiatives

(Selling and Distribution)

Funding Cost (leasing / hiring/BOT/PPP)
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Non-Conventional Approach (Contd)

Material cost Cost reductions thru E-sourcing Discovery of new sources Competitive pressures Rationalisation of suppliers Thrust on Value Engineering Re-Visiting Designs Application oriented engineering Product Life Cycle Management
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Non-Conventional Approach (Contd.)

Manpower Cost Right-sizing of Employees VRS Schemes Optimum utilisation of Manpower Transition from Machine engagement time to ManEngagement time. Productivity-linked wage settlements

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IMPORTANCE OF COST CONTROL AND COST REDUCTION FOR CORPORATE TURNAROUND

The importance of cost control and reduction in a manufacturing organisation can never be overemphasized. These phrases that were mere clichs not too long ago, have now come to acquire a new meaning in the last few years. In fact, it may not be an overstatement to say that the revival and subsequent boom in the corporate sector in the last couple of years was primarily driven by the conscious efforts towards controlling costs. Whether it be manpower reduction, controlling overheads, reducing input costs or bringing down finance charges, Corporate India has done it all in the effort to stay profitable in the new milieu. There have been basically two drivers behind this emergence of cost consciousness in the corporate sector.

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First is the compulsion to stay profitable, which is the basic instinct of any company. As the demand cycle goes through a dip and sales begins to shrink, companies typically look inward to keep afloat. And the time-tested way of doing this is by slashing at the cost structure and save money. However, it is the second reason that is the more significant one. In a highly competitive market place increasingly populated by multinationals, the best way for Indian companies to survive and grow is by offering better quality products at cheaper price. The only way to do this is by constantly chipping away at the cost structure to eliminate unproductive expenditure so that the company will have the pricing freedom in the marketplace.
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The old equation of COST + MARGIN = SELLING PRICE has now been turned on its head to mean that MARGIN = SELLING PRICE COST. Of this, only one variable, cost, is under the control of the company while the market dictates selling price. Margin therefore is a function of how efficient the company is in controlling costs.

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CHANGING PERSPECTIVE OF PROFIT

COST + PROFIT = SALES In a sellers market cost and profits are reimbursed by the customer. SALES - COST = PROFIT With more players in the market place, Selling price is determined by the market forces ; having locked to a level of cost , focus is on cost control and reduction . Cost information is for tactical decision making. SALES -PROFIT = COST Selling price is determined by market forces: Profit is determined by the risk/return profile of business with a focus on cost management to achieve the targeted results.

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TATA MOTORS TURNAROUND FROM Rs.500 CRORE LOSS TO Rs.500 CRORE PROFIT IN 2 YEARS! Tata Motors presents a classic case study of how studious efforts at cost control can pay rich dividends. The company reported a historic loss of Rs.500 crore in 2000-01 when doomsayers said that the company would be history soon.

But the company bounced back and proved them wrong by registering a Rs.510 crore profit in 2002-03 literally rising like Phoenix from the ashes.
How did the company manage this? Of course, the business environment improved and sales of commercial vehicles, its primary product, began to grow.
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But there was also some silent work done in the background that helped the turnaround in Tata Motors fortunes.That was cost control. The company managed to eliminate as much as Rs.900 crore in costs in just two years time. Instead of concentrating on any one aspect of cost, the company slashed them across the board. Thus, there was a reduction in material costs, staff costs through VRS, interest costs and in other expenditure. Of course, it did help that interest rates during the period were low but there can be no doubt that the company showed exceptional financial management skills to overcome the dark phase.

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FIVE FORCES OF NEW ECONOMY

Globalization of both markets and sources.
Open for business 24 x 7.

The rapid expansion of internet.

Continued evolution of transport services.

Service economy.

Control your costs before they control YOU!

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CHARACTERISTICS OF NEW MODELS

Focus on core activities.
Automation/integration. Complexity of relationship. Ubiquitous and real-time information. Organisational structure.
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KEYS TO SUCCESS

The Supply Chain

The Balance of Power

The Competitive Landscape

Service not Product Future Cast
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THANK YOU !

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