Why cutting expenses is no longer the only answer

Whenever markets become more competitive, growth slows or prices have risen to a maximum, it becomes much more difficult to increase profits. There is no single solution to this challenge, but there are some options which have greater long-term potential.

When faced with potential margin erosion, the natural first reaction is to cut costs. This is a positive strategy and can indeed drive efficiency. It also has a realistic end so, at some point, the amount of effort to cut the next dollar of expense is not worth the actual savings.

A metaphorical example could be: what if we do not replace the burnt-out lights? We all know we need to 'keep the lights on'. In assessing our organisations and their operations, we can all successfully create a spectra ranging from easily achievable cost-cutting endeavours to 'only possible with rigorous and continuous oversight'. Broadly, we start with the easy ones and work our way up from there.

Increasing revenues

What can we do after all dispensable expenses have been cut? The simple answer is: increase revenues. I recently came across an excellent article which presents the case for increasing revenues and gives you options to increase profits.¹ It sounds simple and, as a strategic plan, it can be. This philosophy requires you to approach challenges with the perspective of 'how can we expand this line of business or enter a new market?'

The key is to re-examine how you assess the potential of projects and investments. Cutting expenses effectively increases margins - but only to a point - and ends with the captured saved dollars in the current financial period. A focus on increasing revenues, on the other hand, can drive a firm to scale up, reinvest in improved operations and open it to new solutions and services, resulting in new markets and profit sources for the firm. Growth in revenues can occasionally also be driven by better or more frequent use of assets already in the firm's possession.

Something all firms have in common is a large amount of internal data about our clients. Are we all using that data as effectively as possible? Could we use that data to help us to better know our clients' present and future needs? Even if we all have excellent CRM systems, is the information it presents available to all who need it whenever and wherever necessary?

I think there are opportunities like that for all of us and the amount of effort necessary to achieve it can be less than the continuous pursuit of cutting costs. A focus like this could also help different departments to work together on streamlining the physical and virtual processes of data acquisition, composition, reporting and presentation.

Learning from failure

Objectively, cutting expenses is the easier and more immediate actionable answer to a more competitive market. Yet it has limits and, once reached, offers no new solutions. Increasing revenues is the more arduous journey, but is a path without end and can take your firm to many places. The path can be rough at times as, while the effects of cost cutting can be predicted, the effects of increasing revenues are less certain. Occasionally, revenue creation endeavours do not work.

Assuming a revenue-increasing idea does not work, does that mean the attempt was a complete failure? I would say no. At a minimum, you would walk away with solid data points on what did not work and possibly why it did not work, as well as a lot of new experience that can be applied to the next attempt.

Does this mean you should only focus on one strategy? I think the answer is no again. Expense reductions and revenue growth need to occur where it makes business sense if they are to result in measured improvements. We all need to do both continuously, but with a 'thumb on the scale' as it relates to increasing revenues.

This means embracing a bit of the unknown, trying a few new things and accepting that some of the acted-upon ideas may not work as well as hoped. But, as a by-product, you will gain more insight into what makes your business successful.

In summary: cutting costs is what you can do now, but increasing revenues will help your firm to become stronger in the long term.

James McKenna is director of infrastructure and administrative systems at international law firm Morrison & Foerster (www.mofo.com)

Endnote

1. See 'Three Rules For Making A Company Truly Great', Michael E. Raynor and Mumtaz Ahmed, Harvard Business Review, April 2013