Co

m
pl
August 2016

im
en
ta
ry
Re
s ea
rc
h
Enterprise Cost Optimization:
Enabling Strategic Growth

By Dave Sievers and Paul Moody

Executive summary:
In an improving economic environment, cost reduction as a stand-alone strategy may not have the urgency it did
at the height of the recession. Nonetheless, cost optimization – a strategy that focuses on the optimal use of
resources, as opposed to simply cutting costs – remains a prudent focus. Cost optimization is essential to enabling
other enterprise growth and performance-improvement strategies, one of the most relevant today being the ability to
rebalance resources (that is, costs) quickly to meet evolving commercial priorities and capitalize on emerging growth
opportunities. This paper highlights some common cost-optimization opportunities and describes six principles for
targeting and delivering on those opportunities.

Cost optimization in an uncertain economy

In an uncertain global economy, today’s imperative is finding ways to maintain ongoing
attention to cost optimization that can support strategic goals such as:
• Generating savings to fund strategic priorities and growth initiatives
• Improving margin contribution and introducing new products accretive to margin
• Creating scalable business operating platforms for acquisitions
• Reducing complexity and improving agility, allowing faster response to externally
driven changes and evolving growth opportunities

While corporate profitability has rebounded somewhat, revenue growth has remained
more tepid (Fig. 1) since the global financial crisis. Moreover, the economic outlook
remains volatile across major markets, and warning signs in early 2016 include a
continued earnings recession in the corporate sector. To improve earnings and support
commercial activities that drive revenue growth in this environment, companies must
continue to prioritize cost management and rebalancing.

© 2016 The Hackett Group, Inc.; All Rights Reserved. Enterprise Cost Optimization I The Hackett Group I 1
 FIG.1 Revenue growth still lags profitability growth

Average
pre-crisis Disruption:
growth Crisis response

12%

10%

8%

6% Average
pre-crisis
4% margin

2%

0%

-2%

-4%

-6%
2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

Many organizations REVENUE GROWTH NET MARGIN

start with their general Source: The Hackett Group’s analysis of public domain financial data, 2015

and administrative
Looking beyond G&A costs on the income statement
(G&A) costs. By Enterprise cost optimization should take the widest view possible of opportunities
to improve operating cost structures. Many organizations start with their general and
moving to world-class administrative (G&A) costs. By moving to world-class performance levels, the typical
performance levels, company can save $104 million (Fig. 2) within their finance, IT, human resources, and
procurement operations. In fact, not only do world-class organizations deliver business
the typical company services at 38 percent lower cost (Fig. 3), they also deliver services with greater
effectiveness and require 44 percent fewer full-time equivalents (FTEs) per $1 billion
can save $104 million
in revenue (Fig. 4). Although the journey to world-class takes five or more years, a
within their finance, company is likely to see marked improvements within two years.

IT, human resources, FIG. 2 World-class organizations have a significant annual savings opportunity
and procurement
Annual savings as a % of
Estimated annual savings
operations. G&A function baseline cost level (world-
opportunity 1
class to peer gap)
Finance 42% $43 million

Human resources 23% $14 million

Information technology 21% $41 million

Procurement 18% $5 million

Total annual savings 27% $104 million

Source: Functional Benchmarks, The Hackett Group, 2016.

For well-optimized businesses, however, the G&A savings opportunities are shrinking.
Over the past 10 years, world-class and peer companies have reduced by 18.2 percent
and 18.8 percent, respectively, but over the last five years, peers attained an 11 percent
cost reduction, while world-class organizations, having theoretically optimized as much
as they can, have reduced costs by only 3 percent.

1
Note: The recurring cost savings opportunity calculation is based on a company with $10 billion in annual revenue.

© 2016 The Hackett Group, Inc.; All Rights Reserved. Enterprise Cost Optimization I The Hackett Group I 2
 FIG. 3 World-class performance advantage: costs

Finance Cost IT Cost HR Cost Procurement Cost G&A

(% of revenue) (per end user equivalent) (per employee) (% of spend) Cost

42% 21% 18% 38%

23%

Peer World Peer World Peer World Peer World Peer World
group class group class group class group class group class

Source: Functional Benchmarks, The Hackett Group, 2016.

FIG. 4 World-class performance advantage: FTEs

Finance FTEs IT FTEs HR FTEs Procurement FTEs G&A

(per billion in (per 1000 end users) (per 1000 employees) (per billion in spend) FTEs
revenue)
8% 32%
44% 28% 44%

Peer World Peer World Peer World Peer World Peer World
group class group class group class group class group class

Source: Functional Benchmarks, The Hackett Group, 2016.

While this research reinforces the value of G&A cost optimization, it is important to
recognize that some business services functions have been optimized to the point that
they cannot achieve greater efficiency without negatively impacting the effectiveness of
their service delivery, including the ability to scale operations to support growth.

Leading companies have shifted their focus beyond the question: How can we reduce
costs? Today, those organizations are asking a question of a different nature: What
operating model can optimize the use of expensive talent and assets and minimize the
cost of expensive transactions? Strategic enterprise cost optimization, therefore, looks
for solutions across a broader scope of business levers available from the top of the
income statement to the bottom.
• Gross to net revenue (net of allowances, rebates and other reductions to gross
revenue) – for example, efficiency of pricing, discounts, and rebates; price corridors;
or discounting governance procedures
• Cost of sales or goods – for example, supply chain network optimization, operating
efficiency, direct sourcing (material) cost reduction, or product optimization
(rationalizing and eliminating products)
• Other sales, marketing and R&D costs – for example, sales force effectiveness,
marketing spend return on investment (ROI), research and development (R&D)
investment, and indirect procurement spend

Which of these levers to pull will depend on the industry and business model (see
sidebar on page 5).

© 2016 The Hackett Group, Inc.; All Rights Reserved. Enterprise Cost Optimization I The Hackett Group I 3
 Six principles for enabling successful enterprise cost optimization
Despite the opportunities, many organizations struggle with successful enterprise
cost optimization for reasons ranging from lack of technical expertise to program
implementation issues to the ability to sustain momentum of longer-term initiatives.

Applying the following six principles can help establish a systematic approach to cost
optimization that drives sustained enterprise value.
1. Target costs and develop strategy. Prudent enterprise cost optimization starts with
specific strategic and operating goals and then targets costs accordingly. The table
below outlines some common examples that can drive improved earnings and/or fund
strategic growth initiatives.

If the goal is to: Then cost optimization targets may include:

Pricing, price leakage, discounting, product mix, and/or

Improve gross margin
cost of goods sold

Lean operations, supply and distribution network

Reduce costs of goods sold configuration, specification management, and strategic
supplier and direct material management

Improve fixed and working capital asset
effectiveness or reduce cost of goods while
maintaining or improving service levels
(operational “rhythm”)
Improve sales and marketing effectiveness to
develop new channels, products or markets
and drive growth
Sales and operational planning changes designed to
integrate sales, operations, and finance and improve
asset effectiveness, working capital management, and
service levels
Allocation of sales resources across markets, channels
and customers, and/or sales operating models to
increase time for the sales force to actually sell;
marketing centers of excellence and ROI analytics

Traditional G&A back-office processes, employing tactics

Enable acquisitions or reduce overhead costs
such as shared or global business services, outsourcing
with growth
and automation or standardization of repetitive tasks

Sourcing and procurement policies and practices to

Reduce costs rapidly reduce direct and indirect spend and optimize buying
across the enterprise; zero-based budgeting techniques

Once specific cost targets are identified, the remaining principles can help guide
solutions and initiatives capable of delivering the intended results.
2. Conduct quantitative benchmarking to understand how current performance
compares to that of peers (including companies of similar size and/or geographic
footprint) and top performers – that is, the “art of the possible.” Supplement that
external view with an internal look at the historical performance and trends of other
internal functions, geographies or business units. Benchmarking both efficiency and
effectiveness of resources allows executives to consider performance in the context
of cost and value, which is essential in driving toward world-class performance. For
example, The Hackett Value GridTM (Fig. 5) measures how process performance
compares to that of world-class performers – organizations that rank in the top quartile
in both efficiency and effectiveness measures. This approach highlights performance
gaps that may warrant further study.
3. Evaluate current processes against best practices to gain a qualitative view of
capability gaps in key components of service delivery, such as processes, technology,
skills, and governance – and which capabilities and practices are making a difference
in performance. When addressing performance gaps, many organizations believe
they must pursue best-in-class capabilities across the board. This can be a mistake.
Generally speaking, the most successful companies select specific areas in which
to focus on building world-class capabilities, based on their organizational goals and
priorities. In other areas, they strive to be efficient or “good enough.”

© 2016 The Hackett Group, Inc.; All Rights Reserved. Enterprise Cost Optimization I The Hackett Group I 4
 Where to look for cost-optimization
opportunities? It depends on
industry and business model

The cost levers to pull may depend on the industry and business model. For example,
a luxury products company and a commodity materials company will vary considerably
in income-statement composition (see table). Accordingly, these two organizations will
have different cost-optimization opportunities.

Commodity materials
Luxury goods company
company
COGS as % of net revenue 20 80

Gross margin as % of net revenue 80 20

SG&A as % of net revenue 60 10

The luxury products company must continuously drive marketing and commercial activity
with its SG&A spending, and it can afford very high levels of marketing spend (for some,
that can be as high as 40 percent of revenue). Enterprise cost optimization, therefore,
may mean channeling as many resources as possible into commercial activities, with a
focus on the effectiveness of those resources (for example, the ROI on working spend
versus nonworking spend). Conversely, the commodity materials company needs very
efficient operations and extremely low overhead costs. Its priority will be lean operations
and eliminating waste.

A high fixed-cost business that is volume sensitive will also have different needs and
opportunities than an organization with high variable costs. The former needs to keep
plants running or properties full at all costs, while the latter needs to have the operational
flexibility to enter and exit markets as demand warrants.

Working capital opportunities also tend to have industry flavors. Extending the examples
above, the luxury products company with high margins should always have product
available to meet customer demand and should never lose a sale due to lack of inventory
or payment and credit terms. Similarly, the high fixed-cost business may carry extra
inventory to maintain efficiency of capital operations. In these cases, working capital
helps to optimize performance, but it needs management discipline to deploy the
working capital most productively. The commodity materials company, on the other
hand, would manage all working capital at the lowest point possible and leverage scale
to maintain very lean operations, even at the risk of stockout. Generally speaking, most
companies fall somewhere in the middle, with cash opportunities available by moving
toward the top quartile of working capital performance.

© 2016 The Hackett Group, Inc.; All Rights Reserved. Enterprise Cost Optimization I The Hackett Group I 5
 FIG. 5 The Hackett Value GridTM

World class

HIGH
World-class
EFFECTIVENESS

1D

1Q

EFFECTIVENESS
World-class
EFFICIENCY

LOW HIGH
1Q 1D
EFFICIENCY

PARTICIPANTS YOUR COMPANY

4. Design cost-optimization solutions using the insight gained from the quantitative
and qualitative analyses. The changes introduced as part of a cost-optimization
initiative can impact other facets of service delivery – for example, centralizing and
automating sales support capabilities (such as customer inquiry through ordering and
contract management) may alleviate mundane tasks of salespeople to provide more
time for selling, but then increase the skill requirements for salespeople, technology
requirements for support staff, and consistency requirements for policies and reporting
across the organization. Therefore, using a structured framework or service delivery
model (Fig. 6) that aligns key components of a company’s operating model can provide
useful discipline for implementing changes in a way that supports cost-optimization
goals and accelerates results.

FIG. 6 The Hackett Group’s Service Delivery Model

Talent Technology

Service
Culture
Design

Business
Outcomes

Governance Information

Service
Organization
Partnering
Design

Architecture
Architecture Organization
Organization Human Capital
Human Capital

Source: The Hackett Group

© 2016 The Hackett Group, Inc.; All Rights Reserved. Enterprise Cost Optimization I The Hackett Group I 6
 5. Implement and communicate the changes required. Communication is critical to
establishing momentum. Poor communication, along with insufficient executive
sponsorship, is often a barrier to successful total cost management because it fails
to explain what individuals need to do differently in a transformed environment.
To achieve cost-optimization targets, stakeholders at all levels need to understand
performance goals, the changes involved and expected, their roles in delivering those
changes, and progress toward desired results. This means that communication must
answer questions such as “what do you want me to do differently?” and “what is in it
for me?” If the answers to those questions are not clear, the organization may struggle
to achieve its goals.
6. Track and manage performance. Translate cost-optimization goals into meaningful
metrics that tie to business unit P&Ls and balance sheets, including processes for
regular measurement and reporting. Leading companies now use integrated analytics
for dashboard reporting and variance analysis. Moreover, once that reporting is in
place, the final – but critical – step is to align performance reporting with individual
incentive management. If individual incentives are not aligned, measured and
communicated, cost optimization initiatives simply will not stick.

Cost-optimization initiatives can provide quick results, but realizing their full
potential often requires a multiyear effort (see Elizabeth Arden sidebar on page 9). A
comprehensive approach that applies the principles above can help overcome some of
the common challenges, build momentum for change and deliver sustainable results.

Aligning cost optimization and working capital initiatives

As is the case with cost optimization, many organizations also have significant
opportunities to strengthen the balance sheet by moving toward world-class working
capital performance (Fig. 7). Working capital improvement strategies often impact costs,
making coordination essential.

FIG. 7 Median-performing organizations have a significant performance improvement

opportunity

Percentage improvement
Working capital area of focus Cash opportunity 2
(median to world-class gap)
Receivables (DSO) Up to 41% Up to $49 million

Inventory (DIO) Up to 51% Up to $81 million

Payables (DPO) Up to 42% Up to $47 million

Cash conversion cycle (CCC) Up to 56% Up to $177 million

Source: U.S. Working Capital Survey, The Hackett Group, 2015.

Applying working capital best practices to receivables, payables and inventory processes
can yield substantial cost-optimization opportunities while also creating liquidity to fund
acquisitions, product development or other growth initiatives (see working capital sidebar
on page 10). Examples of working capital practices that can produce cost-optimization
benefits in key processes include:
• Customer-to-cash/accounts receivable – standardizing processes and centralizing
tasks previously executed locally and/or moving them to shared services;
implementing service improvements that reduce write-downs for bad debt; and
improving dispute-resolution processes to reduce “off-invoice” enforced price
discounts
• Source-to-settle/accounts payable – increasing efficiency and reducing costs
by moving from paper-based invoices and approval processes to electronic data
interchange (EDI); and improving the speed of processing invoices, allowing the

2
Note: The one-time cash flow opportunity calculation is based on a median-performing company with $1 billion
of annual revenue transitioning to world-class performance.

© 2016 The Hackett Group, Inc.; All Rights Reserved. Enterprise Cost Optimization I The Hackett Group I 7
 organization to take better advantage of supplier discounts or leverage longer terms
based on reliable on-time payments
• Forecast-to-fulfill/inventory – implementing inventory optimization practices that
reduce write-offs for obsolete inventory, lessen the need for expedited shipping by air
freight, or shrink warehouse space requirements and associated carrying costs (this, in
particular, can be a big number for some enterprises)

Without proper alignment, however, working capital and cost-optimization initiatives

could be at odds. For example, a working capital program may seek to extend the time
to payment, but that could result in higher cost of materials. Vendor-managed inventory is
one area that, if executed well, can support both working capital and cost goals.

Cost optimization promotes enterprise agility

Recent analysis examined the relationship between enterprise agility – defined as a
company’s ability to synchronize external and internal rates of change – and financial
performance. Specifically, the analysis divided Global 1000 enterprises (only those
headquartered in developed economies) into two categories: “high agility” and “low
agility.” Some companies reduced their SG&A cost as a percent of revenue, because
revenue grew faster than SG&A cost during this period or, if revenue fell, the companies
successfully reduced SG&A cost faster than the rate of revenue decline. Enterprises that
reduced their SG&A cost as a percent of revenue between 2011 and 2014 were classified
as “high agility” and those at which the ratio deteriorated during the same period were
“low agility.”

The analysis found an almost even split between high and low-agility companies and
a gap of 2 percent between the two groups from 2011 to 2014 (Fig. 8). High-agility
Global 1000 companies showed a 1.1 percent improvement in SG&A cost as a percent
of revenue during the period examined (2011 to 2014), while low-agility Global 1000
companies experienced 1 percent deterioration. The size of the gap, however, varied
widely by industry. A large industry gap (e.g., banking at 8.1 percent) indicates that
SG&A agility is more important as a competitive differentiator than in industries with a
smaller gap (e.g., energy at 0.9 percent).

FIG. 8 SG&A agility gap

Low agility High agility

SG&A agility gap**

2.0%
Global 1000 -1.0% 1.1%
2.0%
Utilities -0.7% 1.3%
1.1%
Transportation -0.5% 0.6%
3.3%
Telecom -0.7% 2.7%
2.1%
Technology hardware -0.7% 1.4%
3.8%
Software and services -1.7% 2.0%
4.4%
Pharma -1.7% 2.7%
3.0%
Media -1.4% 1.5%
1.8%
Energy -0.9% 0.9%
2.9%
Customer durables -1.8% 1.1%
8.1%
Banking -3.7% 4.4%
1.3%
Automotive -0.8% 0.6%

-5.0% -4.0% -3.0% -2.0% -1.0% 0.0% 1.0% 2.0% 3.0% 4.0% 5.0%

** Difference between high and low may not add up to gap due to rounding

Source: The Hackett Group Analysis, Capital IQ public data

© 2016 The Hackett Group, Inc.; All Rights Reserved. Enterprise Cost Optimization I The Hackett Group I 8
 Elizabeth Arden initiates multi-year
cost-optimization program

In its 2014 performance improvement plan, beauty products company Elizabeth Arden
set five corporate priorities: to drive the Elizabeth Arden brand globally; to grow its key
pillar fragrances globally; to improve its go-to-market capability and execution; to optimize
its cost structure and reduce complexity in order to drive improved profitability; and to
attract, retain, and develop the strongest employee talent available. One of the company’s
objectives for supporting this plan was to reach $40 to $50 million of annualized operating
savings over a multiyear period.

Elizabeth Arden worked with The Hackett Group to benchmark its key business processes
and business model design in order to identify specific operational improvement
opportunities for streamlining costs, reducing complexity and optimizing business
capabilities around those key corporate priorities. Benchmarking included industry
competitors and allowed Elizabeth Arden to look at all of its cost structures from different
perspectives and compare them against other business models, both smaller and larger,
to identify performance gaps at a very granular level. The exercise produced two key
findings: (1) the organization was too complex for a company of its size, and (2) it was too
fragmented, which diluted investments and resources against too many areas.

This insight is helping the company:

• Take out nonproductive costs
• Direct resources to core business areas with the greatest gross margin improvement
opportunity
• Establish a more efficient indirect overhead structure
• Develop and deliver target margins

Significantly, the company is taking a multiyear approach to cost optimization and

challenging its existing thinking and status quo – all with the intent of not only achieving its
targeted operating savings, but also ensuring those results are sustainable.

© 2016 The Hackett Group, Inc.; All Rights Reserved. Enterprise Cost Optimization I The Hackett Group I 9
 Working capital initiative leads to
$1.5 million first-year savings

A leading European player in the international pulp and paper market was profitable and
producing substantial cash. The company wanted to respond to supplier feedback by
improving the speed to pay suppliers.

Working capital optimization projects typically look at harmonizing and extending payment
terms. But because the company already had longer payment terms as well as strong cash
flow, it instead designed and implemented a discounting program with standard payment
terms as well as discount terms for earlier payment – for example, payment due in 60 days
net, with a 2 percent discount for payment in 30 days.

The company also segmented its supplier base and developed strategies for negotiation
and transition. To facilitate the transition, it developed a trade-off tool to help define the
most appropriate terms for each supplier segment. This process reduced more than 400
existing payment terms to fewer than 20. “When we started to talk about this change,
everyone said, ‘We can ask, but no one will want to do this,’” said the company’s tax and
accounting director. “But what happened is that many suppliers agreed and were happy
because they were paid sooner. Our most visible issue went away.”

More than 40 percent of the company’s vendors initially opted for discount terms over net
payment terms, generating savings of $1.2 million in the first year. This quick win paved the
way for additional benefits, including maintenance, repair, and operational expenses (MRO)
sourcing savings in excess of $347,000 – 12 percent of total MRO sourcing costs, with
savings in excess of 30 percent in some product families. Other organizational and process
changes have added to the value realized.

© 2016 The Hackett Group, Inc.; All Rights Reserved. Enterprise Cost Optimization I The Hackett Group I 10
 Enterprise agility, of course, extends far beyond just SG&A operations; nevertheless, SG&A
agility is a useful proxy for broader enterprise agility. Companies with agile SG&A operations
are likely to be more agile in other areas of their operations as well – helping them respond
and adapt to the accelerating pace of external change in competition, supply chains, and
consumer preferences and capitalize on emerging growth opportunities.

Make enterprise cost optimization a continuous endeavor

Will revenue growth continue to lag? Will volatility continue to plague key economies?
Have share prices peaked? Then what?

If only we could plan with at least some level of certainty. The uncertain economic
outlook, both domestically and globally, combined with accelerating external changes
affecting competition, innovation, customer preferences, supply chains and other areas
only heightens the importance of cost optimization. When change is more likely to
come unexpectedly and rapidly from the outside, operational responsiveness extends
far beyond shifting strategies. In this environment, successful organizations are likely
to be those with the capability to rebalance resources quickly to reinvest in core
businesses and support emerging growth opportunities. Continuous focus on enterprise
cost optimization, with a broad view across all key cost-management levers, can be an
important competitive weapon that promotes the agility to navigate volatile conditions –
not to mention an advantage during periods of more stable growth.

About the authors

Dave Sievers
Principal and Strategy and Operations Practice Leader

Mr. Sievers leads The Hackett Group’s strategy and business

transformation practice. He has worked with global clients across
industries in cost optimization over a 20 year career in consulting. Prior
to joining The Hackett Group, Mr. Sievers was a founder and principal
of Archstone Consulting, a partner with Deloitte consulting and an
engineer with GE. He has an MBA from Columbia University and a BS in
Mechanical Engineering from Lehigh University.

Paul Moody
Senior Director, Germany, Austria & Switzerland

Paul Moody has more than 30 years of experience optimizing working

capital as well as consulting and operational roles in supply chain
management, production planning and production engineering functions.
Mr. Moody has operated across a wide spectrum of industrial sectors,
geographies and cultures, and has led many of The Hackett Group’s
largest working capital assignments. He is a skilled project director and
client coach with change management experience at all organizational levels.

© 2016 The Hackett Group, Inc.; All Rights Reserved. Enterprise Cost Optimization I The Hackett Group I 11
 For more papers, perspectives and research, please visit: www.thehackettgroup.com. Or to learn more
about The Hackett Group and how we can help your company sharply reduce costs while improving business
effectiveness, please contact us at 1 866 614 6901 (U.S.) or +44 20 7398 9100 (U.K.).

The Hackett Group (NASDAQ: HCKT) is an intellectual property-based strategic consultancy and leading enterprise benchmarking and best practices
implementation firm to global companies, offering digital transformation and enterprise application approaches including robotic process automation
and cloud computing. Services include business transformation, enterprise performance management, working capital management and global
business services. The Hackett Group also provides dedicated expertise in business strategy, operations, finance, human capital management,
strategic sourcing, procurement and information technology, including its award-winning Oracle EPM and SAP practices.

The Hackett Group has completed more than 13,000 benchmarking studies with major corporations and government agencies, including 93% of
the Dow Jones Industrials, 87% of the Fortune 100, 87% of the DAX 30 and 58% of the FTSE 100. These studies drive its Best Practice
Intelligence Center™ which includes the firm’s benchmarking metrics, best practices repository and best practice configuration guides and process
flows, which enable The Hackett Group’s clients and partners to achieve world-class performance.

Email: info@thehackettgroup.com
www.thehackettgroup.com

Atlanta +1 770 225 3600 London +44 20 7398 9100 Sydney +61 2 9299 8830
Atlanta | Chicago | Frankfurt | Hyderabad | London | Miami | Montevideo | New York | Paris | Philadelphia | San Francisco | Sydney | Vancouver
This publication has been prepared for general guidance on the matters addressed herein. It does not constitute professional advice.
You should not act upon the information contained in this publication without obtaining specific professional advice.

© 2016 The©Hackett
2016 The
Group,
Hackett
Inc.;Group,
All Rights
Inc.;Reserved.
All Rights Reserved. Enterprise Cost Optimization I The Hackett Group I 12