Today, I was reflecting on some recent discussions about cutting cost. I write a hypothetical story here – no real persons and situations involved. Every comparison with reality is .. indeed. So just imagine: the management team or the board is meeting over the recent numbers. You can see them sitting around the table, staring at a spreadsheet or an accounting report. Some people are pointing at costs. “This should be reduced.” “That should also go down!” “Why is this so high?”. They get the detailed numbers on all the paid salaries. One manager points at the salary of a team member that is doing almost double shift in high-margin invoiceable services.
“Why do we pay this man so much money? Let’s go talk to him …”
Almost double-shift. So you can imagine, that consultant is earning a lot of money in paid over-hours. A more than nice salary, probably. Room for cost reduction? Sure! But, wait a minute. In reality, this man is also by far the biggest provider of company gross margin. In his team, half of the gross margin of the entire team is based on his efforts, and many of the other team members rely on his expertise to also go the extra mile. In two other teams half of the gross margin is also a result of the historic activities of the same man, leading to happy customers who keep on asking for more services in the other teams.
That information, however, is not visible in the balance sheet or the salary overview. So everyone in the meeting is focused on cost and salary, and no one ever thinks about the impact a reduction of that salary might have on the turnover and margin of the company. Or on the client satisfaction, and hence on future recurring revenues and margin.
So, yes, you can imagine they went to see him. They were surprised he did not buy their proposal. He was mainly disappointed about the lack of support for ‘the man in the arena’. Other people who performed less, got a salary increase, because that was ‘fair’. He, on the contrary, was asked to cap his salary, and work less as a compensation for that. After some time, they even asked him to leave the company. They all agreed that was better for the company, because he was way too expensive.
One day later, the balance sheet indeed looked a lot better. “Look, management did a great job!”. No one ever looked into the process that made the money come in, in the first place. Ever.
The issue is that cost calculus is done on historic data, reported about one specific moment in time, on a balance sheet that only contains details on cost. The calculus is almost never done on the end-to-end process. That’s why, in many cases, there is no reference to the effect of cut costs on the future margin