Trimming organizational costs ... for the long term: keeping organizations trim over the long term can be compared to dieting to keep weight off. Success depends on taking a serious look into root causes--those that go deep into four areas of an organization's DNA.

As a finance professional, you know the drill. It's time to cut costs, again. So--to use the popular diet-fad trend analogy--you resort to the latest organizational crash diet: an across-the-board budget cut, the organization chart de-layering exercise, the voluntary severance and retirement package or the tried-and-true reduction in force.

While all of these techniques can be effective in reducing the organization's excess weight for a time, none seem to be successful in keeping it trim long-term, and some may actually do more harm than good by cutting into its productive muscle rather than removing the fat.

Such cost-cutting drills are typically not sustainable, because they address only the superficial symptoms of organizational bloat, not its root causes. It's only a temporary fix, and fat still lurks in the system!

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The drivers of a chronically overweight organization are genetic and are embedded in four of the fundamental building blocks of the organizational DNA: 1) decision rights; 2) information; 3) motivators; and 4) structure.

Traditional cost-cutting exercises have generally addressed only structure. Unless you also address decision rights, information and motivators--the "who," "how" and "why" of organizational effectiveness--in a concentrated and coordinated fashion, it will be difficult to sustain significant cost reductions over the long haul.

Structure-based solutions are a valid and useful starting point, and often yield immediate results. But, more often than not, they treat the symptoms of organizational obesity rather than providing a real cure. Based on years of experience working with clients, strategy and technology consulting firm Booz Allen Hamilton finds the true root causes of escalating costs are often buried deeper within the organization. These are the result of such things as process inefficiencies, lack of understanding of internal costs, insufficient management of internal demand, fragmented functions, shadow staff, second-guessed decision-making and misaligned incentives.

Removing lines and boxes on an organization chart is important and will furnish short-term savings, but won't remove the root causes. Eliminating positions does not address the way the people in those positions are empowered (or not), informed and motivated. Only when all of these factors--structural and non-structural--are addressed together and in an integrated manner can real, sustainable cost reduction be achieved.

Eliminating Root Causes of Excess

A review of the four fundamental building blocks of organizational DNA can provide clues to eliminate root causes of organizational obesity (also see chart, page 51).

* DECISION RIGHTS. Arguably, the most important determinant of organizational performance, decision rights define decision-making authority and accountability and where it resides in an organization. If decision rights reside at too high a level, the organization bogs down waiting for senior management to sign off on every decision.

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Senior managers need to know when to delegate--when to monitor the decisions of others, rather than making those decisions themselves. Only then can their span of control widen and costs come down. Conversely, overly decentralized decision rights also lead to inefficiencies and redundancies, as each division invents its own wheel; there is no enterprise-wide perspective on overall demand management.

Finally, unclear decision rights are possibly the worst of all, as decisions are either made everywhere, or nowhere. Imagine everyone at a large meeting thinking he or she has been tasked with the decision rights on a project, because no one bothered to clarify exactly why they were invited to the meeting. Or, just as easily, they could return to their offices assuming someone else at the meeting was charged with the next steps.

Companies need to take a top-to-bottom look at decision rights and clarify who decides what and in which circumstances. When decisions are aligned with relevant information access, they are automatically more efficient and productive; that generally means decisions are delegated down to the lowest possible level, which broadens accountability and lowers the cost of decision-making.

Decision rights can be a powerful resource deployment tool, enabling business units to make more informed and empowered support service choices, thus reducing the need for extraneous shadow staff. Consider training, for example. Training is one of those areas where shadow staff proliferate as each business unit develops its own program.

One solution is to consolidate all company-wide initiatives into a single Training Center of Excellence. By centralizing and clearly stipulating decision rights about how to support training across the enterprise, and by leveraging skills and training modules across divisions, one company was able to reduce its spend by nearly 30 percent. Critical business needs were still met, and the company as a whole realized significant efficiencies.

* INFORMATION. Properly allocated decision rights are great, but meaningless in the absence of appropriate and accurate information. The failure to furnish such information in a timely manner can be a substantial contributor to organizational inefficiency and higher costs.

When departments are not given clear and accurate information on internal costs, they behave as if they have a blank check.

For example, one company did not charge back for IT work or even share IT budgets with its business units, so the economics of supply and demand never figured into the allocation of IT dollars. The businesses simply asked for whatever they wanted, and the requests were fed into a long queue and eventually addressed. The businesses had no idea whether their request cost $200,000 or $2 million; not surprisingly, the IT cost structure ballooned.

Perfect information in a cost-reduction context is price transparency. Whether it's through demand management, transfer pricing (see case study on this page) or open, competitive bidding against outside providers, support services must win their business unit customers over with better information. This, in turn, enables better choices and superior cost performance.

* MOTIVATORS. If properly designed and implemented, motivators can be a valuable key to unlocking organizational efficiency. Many companies have failed to capitalize on this opportunity by perpetuating salary and benefit structures that are outdated and/or out of touch with current market practices.

Instead of promoting and supporting lateral transfers as a valuable career move and a viable alternative to traditional vertical promotions, for example, companies continue to overemphasize the "onward and upward" trajectory, which results in the creation of more organizational layers. Moreover, the lack of substantive differentiation in performance bonuses discourages the stars and over-compensates the weak links. Costs rise, but the cream of the talent pool does not.

An example is one company that had a culture that prized title and hierarchy. To interact with a senior executive, you needed a senior title yourself, or your request would be disregarded. To compound the problem, the bonus structure did not directly reward performance, so the only way to retain high performers was to promote them. The result was a surfeit of "managers" who were really individual contributors at elevated salaries.

Motivators, if properly applied, can reinforce and help sustain cost-reduction initiatives by aligning incentives with the achievement of specific targets. Career paths should emphasize lateral promotions, which not only reduce layers, but increase cross-departmental knowledge and information flow.

* STRUCTURE. Structure-based solutions are still necessary and valuable. Companies should continue to consolidate organizational layers and increase managers' spans of controls (more direct reports) to remove costs. Executives should reassess their primary organizational axis to align their cost-reduction efforts with their strategic priorities. They should also centralize scattered and fragmented functions.

However, to sustain the savings released by these structural remedies, they need to be reinforced with the appropriate decision rights, information access and motivators.

For instance, one company decided to significantly broaden its managerial spans of control (nearly doubled) to reduce costs. Initially, senior-level managers struggled with how to get the work done; they thought they needed to absorb all the decisions made in the areas now reporting to them.

By clarifying and delegating decisions further down into the organization, the organization was able to sustain the cost savings realized during the restructuring. As a result, lower-level staff now routinely make operating decisions that fit within their scope of responsibility, and managers focus on broader and more strategic concerns.

The overall goal is to create a mutually reinforcing system of organizational levers that can sustain significant cost savings over the long term. If, as senior finance executives, you look beyond standard structure-based remedies and examine the other organizational elements discussed here, you can more effectively diagnose the root causes of organizational obesity and keep that weight off permanently by instituting healthier and renewing practices and behaviors.

A successful and sustained cost-reduction effort is not just a short-term crash diet. It becomes a way of corporate life. And, like exercise that accompanies a good weight-loss regimen, it's a lot of hard work, but well worth the efforts.

MATT ERICKSEN ([e-mail]) is a Senior Executive Advisor in Chicago and ELIZABETH POWERS ([e-mail]) is a Senior Associate and FRANK RIBEIRO ([e-mail]), a Principal, both in New York--all with the global strategy and technology consulting firm Booz Allen Hamilton. A free download of the publication this article is based on is available at www.strategy-business.com/overheadreader.

RELATED ARTICLE: Rate Cards Inform Distribution Demand

The forces of supply and demand dictate pricing in the "outside world," so there's no reason they can't do the same inside a corporation. Many companies have enjoyed great success in sustaining cost reduction by establishing internal transfer pricing schemes based on "rate cards." These rate cards spell out the costs of a standard level of service, as well as the incremental charges for added or special services above and beyond the base package.

One consumer products company realized significant cost savings in its distribution function after establishing such a rate card. The customer teams charged with overseeing the overall profitability of various client relationships had always taken distribution for granted. Until the rate cards were established, the costs associated with inventory, sorting, shipping and returns management were treated as fixed and charged back to the customer teams as a uniform percentage of sales. In other words, customer teams were "taxed" at the same rate, whether or not they drove added costs through special handling requests.

The solution was to let market forces dictate pricing by arming the customer teams with information. The distribution function published a rate card, competitive with that of third-party providers, stipulating what the specific charge would be for added levels of service (the logic being that those who drove additional costs should pay for them). Key to the success of this approach was that it was introduced upfront, as the service-level agreement was being hammered out, and costs were transparent. Armed with this information, flexible and foresighted customer teams could avoid cost-inducing behaviors and prioritize their distribution expenditures accordingly.

The rate cards brought costs down rather substantially, as special orders and requests dropped dramatically. Customer teams that had demanded store-level shipments three times per week suddenly adjusted their expectation to one delivery per week. Those that had required special stickering (and thus increased handling) now dispensed with the stickering. The requests for expedited shipping dropped by half. In the end, the overall savings generated by the rate card initiative surpassed the company's expectations and proved sustainable over time.

RELATED ARTICLE: TAKEAWAYS

** Organizations, like individuals, can consider "dieting" to shed excess fat that is embedded in four building blocks of the organization's DNA: decision rights, information, motivators and structure.

** True root causes of escalating costs are often buried deep within the organization. They result from process inefficiencies, lack of understanding of internal costs, insufficient management of internal demand, fragmented functions, misaligned incentives and more.

** Only when structural and non-structural factors are addressed together and in an integrated manner can real, sustainable cost reduction be achieved.

                                          Maintaining Low Cost
                 Drivers of High Costs    Environment

Decision Rights  * Overly centralized     * Push down decision rights
                   decision rights drive    while broadening spans of
                   narrow spans             control
                 * Decentralized          * Create coordinating or
                   decision rights can      governance mechanisms
                   lead to inefficient      to ensure efficient
                   resource deployment      deployment of shared
                 * Lack of clear            resources
                   decision rights in     * Cross-functional process
                   cross-functional         redesign eliminates errors
                   processes drive          and rework
                   rework and
                   inefficiencies
Information &    * Lack of cost           * Implement market-like
  Metrics          transparency around      mechanisms help to manage
                   internal operations      or reduce demand
                   drives excessive       * Use metrics and performance
                   activity levels          management processes promote
                 * Lack of appropriate      on-going cost-consciousness
                   mechanisms for
                   monitoring costs
Motivators       * Insufficient ties      * Increase alignment between
                   between performance      incentives and achievement
                   levels and bonuses       of specific goals
                   creates inefficient    * Increase focus on lateral
                   use of funds             promotions to avoid
                 * Over-emphasis on         over-layered management
                   vertical promotions
                   drives increased
                   layers
Structure        * Multiple layers and    * Delayer the management
                   narrow spans of          structure and broaden spans
                   control                  of control
                 * Fragmented functions   * Consolidate shared service
                   and/or shadow staff      activities
                   duplicate activities
                   across the enterprise