Cost Transformations in Turbulent Times

It’s tough to be a CEO in turbulent and uncertain times. Global disruptions are straining profits and testing the financial and operational capabilities of many companies. As consumer purchasing power erodes and inflation continues, senior leaders around the globe rank building flexibility and resilience as their number one priority.

Companies naturally launch cost-cutting initiatives at times like these. But many efforts to reduce expenses are ineffective and unsustainable, failing to achieve real impact. In fact, only 25% of transformations deliver the sustained performance targets expected by the board. Moreover, a recent BCG survey found a continuing downward trend in the value realized from a transformation.

A more effective approach to cost transformation is holistic and programmatic: using the impetus of immediate savings to build long-term resilience while also addressing the organization’s existing structural issues. BCG research has found that this approach can help companies deliver quick impact while improving their ability to respond to future crises. The top quartile of companies we studied improved performance relative to their industry by 25 percentage points, compared to a decline of 20 points among companies in the bottom quartile.

Case Studies in Overcoming Challenges to Transformation

The goal in cost transformation is to achieve sustained, long-lasting effects that reduce expenses and make the company stronger. This may be difficult to achieve, but it is feasible for any company willing to commit. The process starts by recognizing the four challenges of cost transformation:

• Narrow ambition. The company focuses on a singular symptom or problem instead of addressing the root causes of underperformance.
• Fragmented efforts. The drive to deliver results leads to too many initiatives with limited value, while spreading executive attention and resources too thin.
• Complacent culture. Leaders and the workforce are disengaged, and not enough people accept ownership or accountability for implementing the cost transformation.
• Execution uncertainty. Without established practices for transparency and program management, there is no consistent way to drive, enable, and deliver impact.

The first two challenges focus on what expenses to cut: ensuring strategic soundness and focusing on activities that will genuinely deliver value. The other challenges address how to make program delivery happen: implementing the program in a way that makes the results stick. When a cost transformation fails, at least one of these challenges is at play.

To demonstrate that it is possible to get a transformation initiative back on track, we take a closer look at the four challenges and companies that overcame them. In each case, they were able to successfully transform their structures and operations as they cut costs—and consequently deliver tangible impact and sustained results.

Narrow ambition

The impact of an external shock, such as a supply chain crisis or a disruptive competitor, may at first glance seem to be limited to one part of the company. Many leaders instinctively respond by trying to address the most obvious pain point in isolation. Too often, this only provides a temporary fix. The expected performance improvements do not materialize, and costs start to creep back up.

The better alternative is to identify what underlying issues are causing the problem. If that initial shock is only a symptom of a more complicated, multi-layered issue, then the solution calls for a transformation with a broader scope and ambition.

A luxury retail company had been growing market share by opening walk-in stores in upscale shopping malls around the world. When shareholder return leveled off, the retailer commissioned an external review. The report was candid—and bleak. The company had systematically neglected its marketing operations and now faced increased competition. Profitability was down 10% year-on-year, and the company’s premium brand value was eroding.

Company leaders had originally planned a relatively narrow effort: to trim EBITDA margins by closing stores and moving the core retail business online. However, upon full review it became clear that such moves would hamper future growth and impair long-term performance. They would no longer be able to count on the foot traffic and halo effect from shopping mall placements next to luxury brands.

Instead, the company adopted a more ambitious idea: decentralize its operating model and rebuild the brand. Merchandising authority moved to regional decision-makers, who were more attuned to local customer preferences and could source locally at less expense. To cut costs, the company streamlined its distribution and order-taking processes. Savings were reinvested in efforts to regain the brand’s emotional impact.

Ultimately, with a holistic cost transformation, the company shaved $400m off its run rate costs within a year. It put away $100m in savings and improved the topline enough to reinvest $450m in growth efforts for two consecutive years thereafter.

Fragmented efforts

Deploying a high number of transformation initiatives might seem like a sign of momentum, but it more likely indicates fragmentation. Leaders try to accomplish everything at once, without consensus about which initiatives to prioritize and why. This results in the most impactful bets getting lost. For every dollar spent on a successful initiative, three are spent on initiatives that get side-tracked or fail to meet their targets.

Only a few months after their IPO, the leaders of a technology hardware company were stressed. They had set ambitious targets in their prospectus, promising B2B and B2C revenue growth. After missing those targets in two consecutive quarters, company share price dropped 40%. The company responded by rolling out a busy portfolio of initiatives targeting improvements in various parts of the balance sheet, but gained little traction in any of them.

The team recognized that their efforts would always be fragmented unless they could focus on a few priorities. They held a facilitated two-day meeting to collectively take a step back, think strategically, and make those difficult choices. Analysis showed they could not do justice to both consumer and industrial applications. The design and sales efforts were too different; each required distinct expertise and activities. The answer was to dial up their ambition for home security products and deprioritize their B2B offerings. With this decision made, they could finally work through the long list of initiatives and focus only on those with greatest impact on the consumer market.

This new direction calmed investors and bought time to plan an eventual B2C expansion. Meanwhile, the company developed a short-term roadmap that included action steps for the prioritized initiatives, a team in charge of each, and charters that laid out deliverables. The improved focus catalyzed support from the organization and helped build momentum for the revised program. At the end of the year, the share price had bounced back, increasing seven-fold.

Complacent culture

It is not uncommon for companies to be aware of a clear need for transformation, yet nobody takes the lead in determining how that will happen. Top executives seem to lack motivation to act, and others don’t engage at all. The company’s culture feels complacent and difficult to change. As people miss their targets, or options seem exhausted, the sense grows in the company that no one really knows how to accomplish the cost transformation—and that maybe those grand ambitions aren’t so important.

In this situation, the challenge for senior leadership is to step up and make a case for changing behaviors and capabilities. They must demonstrate their own accountability, provide an example of owning the new ways of doing things, and give the rest of the company a reason to join them.

A private equity (PE) firm had been trying for some time to spark momentum at a global consumer product manufacturer where it held a controlling share. The manufacturer was underperforming on key indicators; profitability had stagnated and employee morale was deteriorating. The company’s CEO and top team initiated a cost management transformation, but it did not gain traction. An employee survey showed frustration. People did not trust the leaders or their colleagues to “walk the talk.” Why should they risk their careers on an initiative that might be forgotten by next quarter?

Finally, one of the PE leaders called the CEO and gave him an ultimatum to get the organization on board. They got together with the leadership team to build a new way of working, instill a sense of ownership, and develop mechanisms for accountability.

The CEO articulated a clear and compelling case for change that was communicated throughout the company. He met with hundreds of employees in face-to-face groups, explaining how to achieve cost transformation and answering questions about what this would mean on the job. Employees also took part in extensive, collaborative training sessions that taught agile practices, and they redesigned their work to waste less time and effort.

New performance metrics holding people accountable for their role in the transformation effort were applied at every level of the organization. New incentives and stringent performance reviews were launched, with everyone held to similar standards. The company also streamlined its organizational structure. People were reassigned to roles based on their capabilities and potential, not just their past performance.

The result was an organization with a fundamentally reset operating model and far less everyday frustration. Within two years, the shift led to a 30% improvement in new net run rate revenue and a 54% year-over-year improvement in earnings.

Executional uncertainty

A company undergoing cost transformation must stay laser-focused on enabling implementation of the program. This requires clear-cut priorities, rigorous progress tracking, removal of roadblocks, and reallocation of resources. Execution uncertainty—a lack of both confidence in the ability to implement and knowledge of how best to proceed—often prevents a company from realizing transformation results.

A heavy equipment manufacturer had just launched an ambitious transformation when the COVID-19 pandemic began. The offices closed and site activity dropped drastically. When lockdowns subsided, this programmatic initiative was still officially underway. But it was incomplete. The old hierarchical structure had been dismantled, and it was no longer clear how they would reach their initial transformation targets. Meanwhile, the company’s momentum was fading. At the end of the second quarter, a 5% year-on-year EBITDA gap led the top team to re-evaluate the focus and scope of their program to get things on track.

These leaders put an activist Transformation Office (TO) in place to accelerate the program. The TO, a central body with a full view of all efforts relating to the transformation and with authority to mandate action, initiated a set of workstreams such as streamlining procurement, improving energy use in the field, and so on. It set up shared governance and measurement practices, guaranteeing “one source of truth”—common key performance indicators for the company’s many facilities around the world. With real-time dashboards in place, executives could track operational changes and progress. They could also act quickly if an initiative stalled.

The KPIs were specific, easily measurable, and transparent, giving employees clear guidance on how to meet them. Culture and change milestones—such as pulse checks, trainings, and retros to evaluate success of new tools and practices—were woven into the program to help embed the new approach over the long term. The TO adopted more formal transformation governance and processes, all supported by a digital program management tool. The tool flagged bottlenecks and enabled the team to identify causes of delays and redirect resources to resolve them if needed. All this drove a 45% EBITDA uplift and a $40m cost reduction during 2020, far exceeding the company’s original ambitions.

The Role of Leadership in Cost Transformation

The preceding examples looked at cost transformation hurdles based in the organization and its practices. But change of this sort does not automatically unfold as an organizational process. It relies on people learning to do things differently—and most people are hard-wired to resist change. Therefore, in every transformation activity, the company leaders need to recognize this issue and address it. They must forge thoughtful and deliberate connection with people to motivate changes in habits and behaviors.

The most successful transformations are those in which top leaders take the human-centric nature of their organizations seriously. For example, it is essential for leaders to state a clear and compelling case for change up front. Beyond articulating the outside pressures, they must establish a vision of how the company will work when the transformation is complete. People across the organization need to understand and be energized by the vision. Developing this case for change also ensures the alignment and motivation of top leaders themselves.

Leaders must also take the human side seriously during the transformation process. Employees should feel supported and engaged and be set up to succeed. This focus on people is also important in the long run, enabling the organization to sustain improvement beyond completion of the initial program.

The plan for undertaking a cost transformation recognizes how these elements will play out over time. (See “Three Phases in a Cost Transformation.”)

Gradually, the new way of operating will become a way of life. Leaders will become visible role models for the desired behaviors. They will also develop organizational reinforcement—for example, by setting up a Transformation Office designed to support transparency and rigor. The TO fosters accountability by rewarding the right behaviors and outcomes. It redirects resources where they are most needed, clearing the path for the organization to achieve its full potential.

Human-centric, programmatic transformations that successfully engage the organization have a long-term success rate that is 48% higher than other cost-reduction efforts. They achieve additional impressive results, including on average a 1.9x reduction in cost overruns, a 1.7x increase in realized value, and a 1.6x decrease in time delays. In short, instead of seeking cost savings to survive, look at them as a high-leverage way to make fundamental improvements in the business.

The authors would like to thank Paul Catchlove, Ib Lofgren, and Eetu Isto for their contributions to this article.