Cost Reduction Analysis
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What you need to know about Cost Reduction Analysis
Cost reduction analysis is the process used by companies to reduce
their costs and increase their profits. The strategies of different
companies vary according to the products or services that they offer.
Every decision made in the product development process affects the
It is a common practice that companies launch a new product without
focusing on how much will be the value. But when competition
increases and prices of products or services become a major
differentiator in the market, the price suddenly becomes very
Cost control regulates the action to keep the cost elements within the
set limits. Cost reduction, on the other hand, refers to the actual
permanent reduction in the unit price. It will be useful to know the
difference between cost control and cost reduction.
Cost control is the process that is focused on rationalizing the total
value by employing competitive analysis. This practice works to
maintain the actual price according to the established policy. It
should make sure that the operational cost must not go over the
Cost control involves a series of functions, starting from the preparation
of the budget concerning the operation, evaluation of the actual
performance, computation of the variances between the actual costs
and the budgeted value, and finding the reasons for the same. The last
function is implementing the necessary actions to correct the
The major techniques in cost control are standard costing and budgetary
control. Cost control is a continuous process as it helps in the analysis of
the causes for variances which control wastage of materials,
embezzlements, and so on.
Cost reduction analysis as a process aims to reduce the unit cost of a
product or service the company offers without prejudice to its quality
through the use of new and improved methods and techniques. Cost
reduction ascertains other ways of reducing the cost of a unit. It aims
to realize savings in the per-unit cost of the product while maximizing
profits for the organization.
Cost reductions aim to lower the unnecessary expenses that may occur
during the production, storage, sales, and distribution of the product.
The following are the major elements of identifying cost reduction:
- Savings in the product’s per-unit cost
- Savings are non-volatile
- No compromise with the product quality
The tools for cost reduction analysis are:
- Research on sales and quality operation opportunities
- Improving the design of the product
- Evaluation of job performance, including the best merit rating
- Reduction of variety
Five Steps in Cost Reduction
1. Start with strategy
The cost reduction analysis should start with a clear picture of the strategy to make sure that there is a consistent understanding of the organization. A cost reduction analysis cannot be carried out if the business strategy is not fully understood because it may not be clearly defined. The entire organization should be on the same page with regards to its business strategy, otherwise, any attempt by one unit to institute cost reduction will not be understood and will not gain any help and support from the other units.
2. Align costs to strategy
The cost reduction analysis should look across the whole organization, differentiating the critical good costs from the non-essential bad costs. If the strategically-critical good costs are necessary to maintain the high quality of the products or the services, they should not be touched. It should be the non-essential bad costs that should be reviewed for possible reduction or, when necessary, elimination.
3. Aim high
Aim high when working on new ways to radically optimize the cost base. The company can be bold, creative, and brave in the use of innovation and technology to help you find ways of reducing value that will make the product or service competitive while at the same time maintaining its high quality.
4. Set direction and show leadership
The manager who is tasked to do the cost reduction analysis must deliver cost optimization as a strategic, business transformation program. Cost reduction should not be a short-term thing that will be abandoned when working with another product. The cost reduction program should be a company-wide endeavor that is aimed to transform the way business is conducted.
5. Create a culture of cost optimization
Ensure that cost optimization will be embedded as a culture of ownership and incentivize continuous improvement even if it means for free. The need to search for ways to reduce costs must be part of the company culture that should trickle down from the top management to the workers on the production floor. Everyone should be looking for ways to cut costs while ensuring that the high quality is maintained all the time. It will make the company’s products popular with consumers as they are highly competitive at the same time. The main priority in making cost reduction is the targeting of resources in areas where they earn the best return, instead of simply cutting the value in itself. The start point is the differentiation of the capabilities required to spur profitable growth from low-yielding processes and inefficient techniques. Good costs are capabilities that will differentiate your business, move it closer to the customer base, and allow it to develop high-value propositions. Identifying and focusing on things that matter to customers in the current market will ensure the success of your cost reduction strategy.
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