The Dangers of Disguising Cost Cutting as Improvement

"You know something? I think it would have been better on everyone if we had not tried to improve anything. It is tough to experience the way things could be and then have the rug pulled out from under you. It just reinforces the misery,” said Julie. -- from “How Many Times Has Your Company Started (and Stopped) Implementing Lean?”

What is the real reason your company is driving an improvement initiative (lean, Six Sigma, etc.)? Is the improvement effort part of a long-term (multiple-year) strategy that is focused on growing the business by dazzling your customers and exceeding their expectations? Or, is the focus to cut costs? Or, did the effort start as a long-term focus on improving the customer experience and, at some point, switched to short-term cost cutting? This can easily happen if the company executives don’t grasp the real power of doing lean and Six Sigma the right way and they grow impatient to see results.

Employees who work in a company that falls into this last category probably share Julie’s frustration. Julie is a character in my last article, but I have had this experience myself. Earlier in my career, we launched a new improvement effort as part of a long-term strategy to grow the business. The first year was exciting and well received by most of the employees. They were given opportunities to go through training and to participate on improvement teams. Tangible, employee-led changes could be seen throughout the plant, and the customer experience metrics showed steady improvement. Morale was the highest anyone could remember.

Then, the bottom fell out. The company executives began to realize that the improvements were having a real impact. They then decided to shift the focus of the improvement teams to cost cutting in order to meet their short-term financial objectives. Jobs were eliminated. When this happened, employees became bitter, quit participating on the teams and morale suffered. Most of the improvements from the previous year were not sustained, and things quickly returned to the way they were before (or worse).

Several employees shared with me the same sentiment as Julie in the story. They got a chance to experience the way things could be, and then the rug was pulled out from under them. This huge swing in culture resulted in a significant let down, and many employees became extremely bitter.

The book “The Goal” shared that the real goal of any business is to make a profit. So, cost considerations are important. However, why does the focus on pure cost cutting result in improvement failure? It might help to first understand the different types of cost reductions.

1. “Hard” Cost Savings – Hard costs are easy to see and calculate on a spread sheet. The two most prominent hard cost savings are material and employee costs (direct, indirect and overhead). Material costs include price and usage. Most employee improvement teams will have little say in price negotiations with suppliers, and reducing the usage of materials usually requires some sort of engineering design change. For employee costs, when a company eliminates a job and an employee leaves the payroll, it is easy to calculate how much savings there will be in salary and benefits. So, most “hard” cost savings end up focusing on job elimination.
2. “Soft” Cost Savings – Soft costs are all of those incremental changes that improve the customer experience and will eventually help the company sell more product. Eliminating waste, breaking bottlenecks, reducing cycle times and improving the reliability of the product are some examples of soft costs. The reason the financial community calls these “soft” costs is that it is difficult to put an actual dollar amount to these savings. For example, how much money does the company save if a machine set-up time is reduced by 50%? This would result in greater flexibility to meet changing customer needs and smaller batch sizes (resulting in a small amount of savings in the reduction of work-in-process inventory). However, it is difficult calculating the amount of money that actually hits the bottom line. For this reason, some (most?) executives say that soft savings are “smoke and mirror” savings… meaning that they are probably not real or are exaggerated (this is especially true for executives who have not been properly trained in the power of lean and Six Sigma).
3. Cost Avoidances – Your improvement team just identified and permanently fixed a problem that if it had occurred, would have shut the production line down for days, weeks or even months. There will be a huge celebration! Maybe not. The company leaders will probably look at this type of project and want to know when the problem that was avoided would have occurred and how much damage there would have been. Since the answers to these questions are impossible to know with certainty, the savings will never be calculated and little to no credit will be given.
4. Verifiable Cost Savings – This is the most frustrating savings category for improvement teams. A good example is a major scrap-reduction project. At the beginning of the company’s fiscal year, the accountants try to anticipate how much scrap will be generated for the upcoming year. They base this on historical scrap levels and projected volume data. A financial “reserve” of money is put into the budget to cover these anticipated costs. Let’s say that an improvement team is 100% certain that they were able to get to the root cause of a major quality issue and implement a change that will cut the scrap significantly. Data that are tracked monthly clearly show, through November, the impact of this project as the scrap numbers drop throughout the year (See chart 1).