Cost cutting by Richard Lucas, part 1.

Dear Richard,

I’m asking for advice on cost cutting ? Everyone says it is a good idea but no one told me how to go about it. Any tips or tricks? Help!

Dear Cost Cutter,

One of the golden rules of economics that is not in most textbooks is that people behave differently when spending other people’s money than when they are spending their own.

There are many implications of this simple truth, and a lot of waste in companies is explained by failing to design policies and procedures to control the problems that arise from it.

However, a business should not think like an individual. Yes in the long run more money has to come in from clients than is paid out. But often it is not smart not to spend, there are many situations in which you need to spend to save.

Controlling costs is a never-ending story. If you want a lean and successful business you should develop a cost cutting culture, even when times are good, and you are not forced to it by lack of funds. It’s much better to have high profits, money for bonuses, investment and dividends, that see money being wasted.

If your dream in having a company was having a really cool office with fountains, marble, mirrors and music, to impress your competitive friends, then make a line item called the “showing off” budget. Use the extra cash for good salaries, bonuses and investing in technology and products. In very few industries does showing off make sense. Show off at home if you must. Keep work rewarding, well paid and professional.

Culture

It is vital, especially in a start up, not to have feeling that “once we are successful we will start spending money like a real company (fish tanks in reception)”. If you can be successful without spending money on fish tanks then don’t buy them even if you can afford to. The exception is “going legal”. Many businesses begin without legal incorporation, employment contracts, and licences for all the software they are using. Once the business is working, it is important to “legalise” as a business. A culture of breaking the law is neither ethical or smart in the long run.

For the owners of a start up to create and sustain this cost control culture they must pro-actively manage it. Ways to start and keep a cost cutting culture are:

New employee induction. Tell new employees that you expect them to spend company money as if it were their own. I used the VW Golf example. We don’t want buy products that break, but we are not going to exaggerate. If someone starts to buy office stationary that they would never buy at home for no good reason – stop them.

Look out for reward and praise cost conscious behaviour. Among the KPIs that you ask your managers to comply with include finding the most cost effective ways of doing things, and expecting that of the people who report to them.

Have clear policies and procedures about who is allowed to spend money on what, communicate and enforce them.

In Joel Spolsky‘s (founder of Trello and Stack Exchange) talk in Cracow in May 2013, he argued that if your “start up” is a “get big fast” type, then the way the solve problems is to throw money at them. I would agree with him, and in these circumstances it makes more sense to act fast than get the best deal.

There is more to cutting costs than just avoiding the waste of money on buying things that no one would spend their own money on.

To be continued on June, 21.

Richard Lucas - angel investor, entrepreneur. 6 companies, 400 employees, 20 years in Poland, Cambridge University, Economics, TEDxKrakow speaker, and supporter. Interested in getting involved in start-ups as coach, mentor, minority investor, in business projects that are: better, cheaper, faster and more fun that the existing way of doing things. richardlucas.com