Reducing costs verses increasing sales
Every dollar you save through cost reduction is far more valuable than the dollars that come from sales.
Let’s take a simple financial statement with the following figures:Yearly Revenue = $5,000,000
Cost breakdown:
(*) Material costs = $1,250,000 (25% of revenue)
(*) Labour costs = $1,750,000 (35% of revenue)
(*) Rentals, subcontractors & permits = $750,000 (15% of revenue)
This gives you a gross profit of $1,250,000 – that’s 25% of your revenue.
Let’s say 20% is the cost of your overhead and general expenses => costing you $1,000,000 per year.
This gives you a net profit of $250,000 or 5% of your revenue.
Now let’s say your company’s goal is to increase its net profit this year. How will you achieve this? By cutting costs or increasing sales?
Let’s look at which option is easier!
OPTION 1
Cutting cost on material expenses. There are five easy ways to get 1% cash back for every dollar spent on material costs.
- 1% from lost inventory = $12,500
- 1% from rebates from suppliers = $12,500
- 1% from early payment discounts = $12,500
- 1% from efficient invoice processing = $12,500
- 1% from better pricing = $12,500
The total of these five cost cutting steps will give you $62,500.
Found money??? Money back into your company?? Increased profits?? THIS ENTIRE AMOUNT GOES STRAIGHT TO YOUR BOTTOM LINE. YOU GET TO KEEP IT ALL!
OPTION 2
Increase your sales. On the flip side, to make $62,500 in profit, you will need increase your revenue by $1,250,000. But to increase your revenue by $1.25 million, you will need to estimate more than $8,300,000, at a 15% close rate.
WOW! That’s a lot of work to estimate!
So which option is easier? Option 1 of course!
Moral of the story:
Improving the quality and efficiency of your business operation — its systems and processes— is the gift that keeps on giving. The payoff continues year after year. In good times and bad, it’s always the right time to be cost conscious!