Navigating the future by modelling what drives the most value in your strategy
To survive in today’s challenging economic times, many organisations are being forced to make short-term cost-cutting decisions to reduce costs
With the increasing cost of living, inflationary pressures and reduced government spending, many organisations are facing tough business conditions and are being challenged to restructure, strip out costs or find more efficient ways of operating to remain sustainable. These factors are affecting businesses of all sizes and across all sectors. From large government departments to small businesses, organisations are looking for ways to reinvest their resources or cut costs to stay afloat – the 2023/24 Beyond Recruitment annual Economic and Labour report (1) indicated that 36% of organisations are reducing costs due to the current economic climate. At MSH, we are increasingly observing organisations looking to weather the storm by putting strategic initiatives on hold or looking for opportunities to streamline operations and improve efficiency. Often, managers are asked to carry out cost-cutting exercises in short timeframes to meet the urgent demands of the Board and Executive Team.
When costs are cut under urgency, there is not time to complete a thorough process, which can result in decisions being made without regard to organisational strategy
Because of the time pressures and urgency managers are under, they often have no choice but to cut costs without regard to their strategy. As a consequence, organisations do not know if they are investing or committing resources in the right areas or making sound investment decisions to optimise their performance. This is an issue well-documented by the Harvard Business School, with a 2023 HBR article (2) indicating that many organisations are ineffective when cutting costs as they do so to drive short-term savings, rather than building mechanisms to reallocate their budgets to strategic capabilities and the highest-growth areas. They contend that organisations should give managers more detailed information about cost drivers and help them develop a deeper understanding of the economics of their decisions.
Three common mistakes we see when organisations have to make cost-cutting decisions are:
Placing too much focus on financial metrics: Financial metrics are an important indicator of viability when assessing investment and cost-cutting, but organisations also need to look at value from different stakeholder perspectives (such as their customer) to tell a holistic story about the impact of financial decisions
Not being able to describe the logical connections in their business: Organisations need to understand how investment or cost-cutting in skills, systems and processes connect with better customer and owner outcomes. This enables robust, reliable modelling of investments and cost-cutting. Many organisations have a “spaghetti” cause-and-effect strategic model and therefore they are unable to justify their decisions
Taking a leap of faith: Too often, organisations calculate the benefits of investment or cost-cutting based on high level assumptions or poor logic, resulting in a leap of faith to results which cannot be trusted
Source 2: https://hbr.org/2023/07/cost-cutting-that-makes-you-stronger.
MSH’s value driver modelling approach helps organisations navigate the “what’s next” after the cost cutting by helping answer what-if questions and aligning resources to expected results
MSH’s value driver modelling approach allows you to link your costs to your strategy by creating cause and effect linkages between investment and results. Value drivers are in essence the key levers that an organisation can pull to improve its performance and are embedded within the four Balanced Scorecard perspectives of an organisation’s strategy – Ownership, Customer, Process and Learning & Growth. If a strategy effectively maps these four perspectives, there should be clear cause-and-effect linkages between the value drivers within each of the perspectives. This allows us to build models that can be used as a powerful tool to assess the impact of investment and cost management decisions on business performance.
A well-constructed value driver model allows you to explore the answers to what-if questions, such as:
What would happen if we invested in a new IT system?
What additional resources would we need to improve our service offering to customers?
What would happen if we received twice as many inputs?
What would be the resource implications if many of our customers switched to a different channel?
To illustrate the power of MSH’s value driver modelling approach in answering “what-if” questions, we have used an example of a value driver model for an organisation that has to process applications as part of its business.
Figure 1 outlines the value drivers that are embedded within three of the four perspectives for such an organisation. The value drivers in the Process Perspective are the number of inputs; conversion times within each step of the process and the percentages that relate to the pathways within the process; the value drivers at the Customer Perspective are the levels of service offerings indicated by the stars; and the value drivers at the Ownership Perspective are the results that the owner has set out to achieve. These value drivers are connected within a value driver model.
Figure 1 – Value drivers for an application processing organisation
Figure 2 demonstrates the effect of making an investment at the Learning and Growth perspective. Investing in the initiative “Streamline the workflow and assessment process” impacts one or more value drivers at the Process, Customer and Ownership Perspectives. Because the value drivers are connected, implementing this initiative results in a reduction in review and decision-making time at the Process Perspective, which in turn improves application turn-around times for the customer; leading to a decrease in the resources required to operate the process and processing costs per application for the owner.
Figure 2 – How investing in Learning & Growth initiatives impacts the value drivers
Value driver modelling gives you confidence that you are making sound financial decisions aligned to your strategy
Value driver modelling provides a mechanism that enables an organisation to have an ongoing focus on costs that are linked to strategic outcomes. After an organisation has had to quickly make tough financial decisions about where to invest or cut costs, leaders should develop a value driver model to make informed choices about where to prioritise their investment and resources in alignment with their strategy. Value driver modelling shines the light on those activities that add the most value to the business and those that add the least. Modelling changes to value drivers provides the defensible logic for increasing/reducing resources and prioritising investment in business activities to optimise performance.