Cutting costs across the board might be tempting during the pandemic, but leading companies can position for a rebound by thinking about where they want to be after the crisis and then reallocating resources to make sure they can get there, said Bain & Company recently.
According to new research from the consulting firm, Focusing R&D and Capex to Win, industrial companies plan to pull back significantly more on research and development, and nearly as much on capex investments, as they did during the Great Recession.
The lessons from previous downturns suggest that many companies will waste valuable capex and R&D, Bain noted.
In an analysis of 516 industrial companies, the firm found that 26% spent above the average on R&D and capex over the past decade but didn’t turn that into superior results for their shareholders, said Bain.
On the flip side, one in four industrial companies spent below the average for their peers, but still managed to generate above-average returns, the firm added.
These “efficiency heroes” provide valuable lessons on how to allocate both cuts and spending well, Bain noted.
Looking at more than 900 industrial companies, Bain & Company found that R&D spending is set to drop by 10%-15% and capex by 20%-30% in the aftermath of the pandemic.
According to Bain, there are five points that companies need to consider in order to cut costs without affecting their edge.
Slash and burn creates severe risk. While cutting evenly across business and product portfolio might help to conserve liquidity for a year or two, this also cuts muscle and severely stunts a company’s growth potential once the economy rebounds.
Leading companies in past crises have taken a more discerning approach. They start by defining the company’s post-crisis strategy and target product portfolio, and use that to guide selective cuts and thoughtful investments.
Define the strategy, then execute. The most successful companies navigate periods of upheaval by focusing their attention and resources squarely on the businesses where they have the best odds to lead the market.
Besides generating superior profits and cash, market leaders usually have stronger balance sheets and get better financing terms, which creates a virtuous circle that breeds more success.
Drastically reduce costs in the core business. An effective forward-looking strategy involves careful coordination between the core businesses and newer business lines – what Bain calls ‘Engine 1’ and ‘Engine 2’.
The goal is to streamline Engine 1 in a way that keeps it humming, but also frees up enough cash to build a strong Engine 2.
Many industrial companies’ recent cost-reduction efforts are only trimming the fat of their existing structures, say by ratcheting down the operational costs of their manufacturing footprint.
But this doesn’t go far enough. The unprecedented nature of the current crisis calls for a different mindset.
For traditional Engine 1 businesses, that means reducing fundamental complexity with moves such as streamlining product offerings. The most meaningful actions include cutting low-volume, unprofitable products and making the rest modular, which reduces the effort and cost of creating product variations.
Think about what will drive the company in the future. Companies have a narrow window to make the transition to the business lines of the future (Engine 2).
This current business shock makes it both more imperative and, in some important respects, more possible to make that leap, because of critical actions underway to drastically streamline Engine 1 businesses.
Gearing capex and R&D to make Engine 2 the leading priority is the only way to secure the future.
Play offense if possible. While many companies currently have a small financial cushion and must play defense just to survive, plenty of others have a strong balance sheet that gives them the flexibility to go on the offensive.
That means they can invest more than their cash-strapped competitors on organic growth engines such as R&D and capex, and they can actively pursue inorganic growth through M&A.
Those with the resources will find compelling opportunities to acquire new capabilities over the next couple of years.