Cost reduction is the process used by organisations aiming to reduce their costs and increase their profits, or to accommodate reduced income. Depending on a company’s servicesorproducts, the strategies can vary. Every decision in the product development process affects cost: design is typically considered to account for 70–80% of the final cost of a project such as an engineering project[1] or the construction of a building.[2] In the public sector, cost reduction programs can be used where income is reduced or to reduce debt levels.[3]
Companies typically launch a new product without focusing too much on cost. Cost becomes more important when competition increases and price becomes a differentiator in the market. The importance of cost reduction in relation to other strategic business goals is often debated.[4]
Consultants Deloitte reported in 2006 that over three-quarters of the FTSE 100 listed companies had commenced a cost reduction programme during the preceding 12 months. Cost reduction is most frequently stimulated by recognition that profits and profitability are below expected levels.[5] Some examples of programmes include:
Examples specifically focussed on the use of suppliers and the costs of goods and services supplied include:
In a public sector spending review, an overall target for reduction in expenditure may be identified: for example, in the United Kingdom, the 2010 spending review anticipated a reduction of £81bn in public expenditure over the four year budget planning period.[9] In order to meet the challenges of a significant reduction in expenditure, government departments are expected to look at how they can "take cost out of the business" rather than simply cut services.[10] One of the main principles expected of government departments in order to reduce costs is a "data-driven approach", i.e. ensuring that staff within the department have "a good understanding of the distribution and profile of costs in their business".[10]
Centralisation of procurement activity has been hightlighted as a beneficial public sector cost reduction strategy.[10]: 6
Scott Brown et al, of "Excellence in Business", note that in most cases, a successful approach to cost reduction which aims to maintain service quality "has at its heart an approach based on the principles of Systems Thinking": a fundamental review of the whole service, its purpose and objectives.[11] The "Route Map for Change" which they advocate has been used effectively by Kent County Council for their highway maintenance contract, while the decommissioning of various warships and aircraft squadrons following the UK's Strategic Defence Review in 2010 is seen as a good example of a strategic option appraisal.[11]
