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Thursday, July 14, 2005

Cost Reduction and the Scapegoat

Cost reduction. Every accountant's dream, every purchaser's nightmare. I tried to find out the origin of this concept but failed miserably. However for our purposes, the originator is not significant. It's the process through which this concept evoluted is important. Let me tell you a brief story:

During happier days of manufacturing the owners wanted to produce as much as they can as market was not a constraint. The differentiating factor between a good and a poor company was only one factor, Annual Sales. Natural calamities, wars and terorism made sure that there was enough destruction and consequently after a certain period there was enough demand from for industrial goods. The boom in demand of industrial goods led to increased imbalance in the demand supply of consumer goods as well, skewed in favour of demand. But slowly lagging supply chased the leading demand and one day it outpaced the demand as well. Laws of economics came into play and prices started dropping down. Margins were squeezed, profits declined. People soon realized that sales is not equal to profit. Owners and invested started to look at bottomline to measure a firms's ability to survive in the long run. And the message was delivered to management: Increase Bottomline. And the ingenious people of management soon realized that Profit = Sales - Cost. Thus if the marketing people (oops! sales fellows) are unable to screw more and more customers, one can still survive if one can reduce the cost. Focus of the management was shifted to all those demonly things that increase the cost. Despite applying all principles of Taylor, Gilbreth et. al to improve efficiency management was unable to boost the bottomline of the company. Then they looked upon HR guys to reduce cost of employees. HR gave a simple solution with a complex name: Downsize. (But as some big shot HR took the offence when people started calling him Mr. Downsize and questioned his masculanity & virginity of his wife, he coined another term: Rightsize). After getting downsized, still there were no visible impact on the bottomline. After all employee cost for manufacturing firms was just only 5-6%. Then some smartass economics guy came and made management aware of Pareto's principle. In simple words the implication was: catch the big sharks. And bingo! management got what it wanted. The biggest culprit, the inexplicably wretched immoral department who was pissing off the money through pot was: Purchase department. The verdict was announced, reduce the cost of purchasing or perish. And thus from that day onwards, the most culpable department was purchase. If quality is poor, blame purchasing; if customers are not happy, blame purchasing; if shipment is getting delayed, blame purchasing; if company is going into red, blame purchasing.

This story tells just how cost reduction and purchasing became synonymous to each other. And in pursuit of reducing cost, purchase borne some illegimate children like SCM, SRM, Inventory Management, Strategic Sourcing and so on. Each one of these is amazingly shrewd technique to befool your management. How? I'll explain in next post.

1 Comments:

Anonymous Archana said...

You have beridd purchasing a lot and gone on to grudge against SCM too....but no explanations ...let me tell you my friend Denigration does not dismiss principles....value chain evolution from purchasing to SCM may have happened due to Corporal pressures however they still yield better value than fudging numbers like Enron et.al.

6:23 PM  

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