Count your pennies
SME owners need to review their business costs regularly to ensure they do not escalate unnecessarily.
Small business owners are generally frugal in the start-up stages, but once their business gains traction, reviewing costs gets sidelined. Even in the smallest business, overhead costs tend to grow, slowly and unnoticed, until suddenly costs are out of control, according to Fahad AlHassawi, Chief Commercial Officer, du. “Office space is a good example of this, and there are a lot of unnecessary costs if an office space is large compared to the headcount of a company. Other examples include insurance and legal costs, as well as IT and cybersecurity costs, which can lead to higher and unnecessary storage costs.”
A recent report by the Department of Economic Development (DED) noted that eight out of 10 SMEs in the UAE rely on self-financing for growth and development, making it crucial that they manage their costs and cash flow effectively.
There are many causes for the way business costs escalate, especially the overheads costs that do not tend to be allocated to the final total cost of a product or service category or as a fair share of the total company overhead, according to Vincenzo Natile, Principal of management consulting firm, Value Partners. He added that the reasons are difficult to remedy: unknown hidden costs; lack of accounting processes; underestimation of the total cost of ownership; overlapping processes; and people that do not bring any long-term added value to the company’s goals or mission.
“The reality is that companies put so much attention on the direct product costs while often forgetting those that are indirect overheads. However, any company regardless of sector which optimises its overhead-cost-to-sales ratio by a single percentage point essentially increases its earnings by the same amount. Depending on the industry sector, aligning that ratio to the average sector value, it could impact up to 15 per cent of its earnings,” said Natile.
Another expense which can severely affect a business’s bottom line, especially in the case of an SME is printing costs, according to Pui-Chi Li, Head of Marketing for Middle East and Africa, Xerox. Printing costs represent an average of 15 per cent of a small or medium organisation’s IT budget, which is a considerable amount of money when many businesses aren’t getting the full value from their print infrastructure. “Signs of a lack of print strategy include abandoned documents in the print trays, multiple small devices which have been purchased on an as-needed basis rather than planned, which often results in toners being replaced on an adhoc basis by multiple people in the company. This lack of a strategy and direction quickly results in creeping costs that develop and increase over a period of time,” said Li.
After a number of start-up ventures of his own, Mall of the World CEO, Chris Folayan said a major cost point was always staff. As a general rule, SME owners should hire smart and multi-talented people to avoid hiring individual operational people for each task; there are advantages to hiring individual task operational people but not at the beginning. From the outset the team should know that because the business is start-up, long hours will be required and different tasks will have to be undertaken. The person brought on to handle finance is one such example. With their skills they could also probably assist with deal negotiations, look over legal documents from the financial angle, as well as make suggestions to cut costs.
“Hire the right person ASAP. At MallfortheWorld.com the first key person we hired for the region was a CFO. It’s key to get financials reviewed and looked at constantly. You can get someone in-house, or if you cannot afford that, get a part-time CFO to constantly look at your numbers every week,” said Folayan.
Cost management is not only the responsibility of an employer; employees can play a crucial role in managing expenditure. AlHassawi said when employees are engaged they will care more for the business, making them more vigilant to frivolous spending activity, particularly when it is highlighted. Constant vigilance amongst employees is important when mitigating and managing expenditure, as they are often aware of where a business is wasting money.
Some of the ways employees can be more careful regarding their contribution to waste and higher costs include being frugal even on phone calls by using the landline numbers first, said Sajith Ansar, Founder and CEO of branding agency, Idea Spice. Companies that have entertainment allowances for clients can have employees think twice on the return on investment (ROI) of the client before spending this too.
Folayan added that another way employees can assist in cost reduction is by multi-tasking and developing job rotation practices; find employees that would like to learn about other parts of the business. Have people in those departments teach other employees on how that department works. By teaching them they will have the opportunity to expand their minds, knowledge and goals within the company.
“They will see the company not as a place of work but as a place to grow mentally. Plus forming new friendships is also a great social aspect to corporate happiness levels. Onsite job rotations not only improve staff happiness at work because they are learning, but also provides for more out of the box thinking and an amazing breed of super multi-talented individuals within the company willing to step in and help, thus reducing the need to hire more people,” Folayan said.
Moving out of the organisation, SME owners can better manage their overhead costs by renegotiating their payment terms with their suppliers. Asking for renewed payment terms and better rates is a good start. Business owners who have not already been doing it should get quotes in triplicate to compare prices for non-specialised services, and looking at new geographies for sourcing is also an option, said Ansar.
“Reviewing each product or service you purchase, no matter how small, can be a potential source of savings. Regularly carrying out requests for proposal (RFP) to ensure you get the most competitive rates and best service will also help manage overheads with suppliers. Furthermore, try to reduce the overall number of suppliers you use. For example, instead of having several IT and communication vendors have one that can cater to all your needs,” said AlHassawi.
Some of the overheads are usually very standard commodities, basically making the negotiation solely based on price. For other categories, the relevance of the cost of ownership and usage is as important as the acquisition cost, said Nitile. For example, consider two suppliers. Supplier A has a product with a $100 unit price, a delivery time of 20 days and 15 per cent defect rate and supplier B has one with a $110 unit price, a delivery time of 10 days and seven per cent defect rate. “While supplier A seems the cheaper solution based on the unit-price, if the purchasing manager calculates the cost of ownership of the two different supplies, they would realise that the cost of the goods from supplier A will be $121, including stock and waste, while goods from supplier B would cost $117. Therefore, before deciding which cost-reduction strategies to implement in regards to a company’s supplier, a precise cost-driven segmentation of the overheads spending must be conducted.”
When negotiating with suppliers Folayan said there were a number of steps a business owner can take: ask suppliers if they can drop ship the items directly to customers if possible, saving the company the warehouse cost and the depreciation of assets line on their financials; renegotiate payment terms to allow time for selling inventory prior to paying suppliers. In many cases suppliers will be open to negotiations if a business has a proven payment record; negotiate out of the box deals.
Finally, Li said the most efficient way of managing overheads is to group costs and reduce the number of suppliers to be managed. This way a business owner can get the economies of scale that come from buying supplies in an organised way and managing vendors becomes much easier.
Manage overheads from the beginning:
- Be proactive, not reactive.
Do not wait for a recession period to overwhelm the company. Create a stable organisation with small teams and control processes to achieve sustainable results. Overheads efficiency could be a permanent competitive factor for the business.
- Build visibility and full transparency across the full cost structure.
Measure the total cost of overheads by capturing hidden costs, creating a structured accounting system, continuously monitoring the internal time-cost series, and establishing external industry benchmarks to compare with.
- Break and reinvent the operational models.
On a periodic basis, try to understand and openly question fundamental business drivers for each functional unit, including decade-old standards and policies, business model goals, requirements, and customer-driven priorities. An incremental approach to cutting overhead costs usually has a three-year life cycle and once it is at its end, a company might need a change of business model to jump to a higher level of competitiveness.
Source: Vincenzo Natile, Principal, Value Partners