THE BLOG
09/10/2012 06:25 pm ET Updated Nov 10, 2012

About Leadership: Cutting Costs

We once did a model of the BP refining and marketing business, not very sophisticated, but good enough so one could do some interesting 'what ifs' about the business and its competitors. As we played around with this model a significant truth emerged for me: Unless we could eat inflation each year through cost cutting, we would lose competitive position.

I have seen companies go through cost cutting exercises, take out redundant jobs, deal with excessive property costs, in a big blitz, and then sit back and say, 'OK, now we have done our cost cutting, we can get on with running the business.' This is such a bad approach. True, there are times when there are opportunities for massive cost cutting, for example after a merger or acquisition, or when circumstances dictate moving the business to a different cost base, perhaps when there is a sharp change in the price of a commodity, or a sharp increase in energy costs, requiring management to take measures to compensate. But in general taking out costs is something for all seasons.

Great leaders take out costs when times are good. They keep policies in place that rein in any expenditure that does not add value. Many years ago, I remember reading about how six or eight executives from RCA would get off a plane together and each head for his own rental car to take him to the same office where all the others were headed. Later that day, the process was reversed back to the airport. Waste in corporations is often just this silly and just this easy to stop.

I have been on flights to Brussels for oil industry meetings where there were three of us present, from different companies, and two, having travelled in economy for the 45 minute flight, would head for the taxi line to share a low cost cab into the place where the meeting was being held, while the third, having flown business class at five times the cost, had a driver arranged to meet him at four times the cost of the taxi. It may seem silly to ask employees of multi billion dollar companies to save a few hundred dollars on a business trip, but it pays off. Not just in the little expenditures, but in the attitude to big ones.

Now there are good and bad costs. Extra rental cars are bad costs. Spending money on maintaining equipment to a high standard of safety and environmental protection is a good cost. But if only it were so black and white! What about a new computer system to help manage the maintenance of a factory? Good cost or bad cost? After all, the factory has been running safely for years with the existing system. We need to get the business leadership into a mode of asking about the value added from the additional expenditure.

That will go some way, but not all the way. Because how business units behave individually and collectively determines how effectively costs are managed. If each of the 12 factories decides it needs to up the game on a maintenance management system, and they all go out and evaluate the competitive systems individually, and come to three different decisions, then each one can feel it has done the best job for its business unit. But for the corporation it is a disaster. Standardization offers great opportunities for cost savings, and is usually (but not always) done best by a central functional group; but that group needs to be really good, and needs to earn its keep through adding value to the company and its business units year in and year out.

I once visited Tony Anderson, one of BP's greatest refinery managers, when he was managing the Bulwer Island refinery in Australia. He knew that the only way one could make a small refinery such as his be highly profitable was to keep costs under very tight control while making everything run to the highest standards of safety. I was told that if a new manager, often someone seconded from another business unit, came in and asked for an additional staff member in his department Tony would reply 'Martin, there are only two things of which you can be certain in this life: You will die, and there will be no additional staff at Bulwer Island Refinery.' The evening of my visit, when one of the managers picked me up for dinner with Tony and the leadership team of the refinery, he said, 'This hotel has a really great restaurant. Of course that is not where we are eating, because it is much too expensive.' We had a perfectly nice meal at a place where you pointed to your steak; someone popped it on the grill and slammed it onto the table a few minutes later. I got the picture.

About Leadership: About Leadership is a series of 52 columns on corporate leadership -- essential skills, leading teams, managing your career, the strategic and business practices to make a company and its leader distinctive from competitors. These columns will be of interest to people leading small and medium sized companies today, many of whom have not had much formal training in management skills and techniques; for the many people in big companies who aspire to senior management; and for anyone who thinks: Give me a hint, how can I do this better?