Cost to Serve:An Under-Utilized Lever to Profitable Growth
Stating that uncertainty in the business environment is the only ‘certainty’ nowadays is almost a cliché. However, it is heartening to see ‘smart’ enterprises leverage creative ways of engaging customers and driving profitable growth. Without the uncertainty, these incredible opportunities to innovate would probably never havebeen created.
The Cost to Serve framework is one approach to driving profitable growth that isbeing increasingly adopted by leading organizations in various industry verticals. CosttoServe, simply put, is the total cost incurred to fulfill specific requirements or to provide servicetoa particular customer. It includes expenditures for product design, engineering, sourcing and procurement, inventories, supply chain, sales, marketing, logistics, discounts and any other cost incurred byfulfilling a customer demand.
Function Level Costs: A View Too Narrow to Drive Profitable Growth
Most organizations well understandcosts for logistics, distribution, sourcing, and product development, albeit at a functional level. What they lack is a view into the total cost (Cost toServe)incurred to service one particular customer, a group of customers, or a particular market segment.
While organizations recognize that customers do not all consume the same resources and thus do not incur the same costs, most enterprise-wise resources planning (ERP) systems track costs at a functional rather than at a customer level, making them incapable of cost-to-serve reporting. Most companies find it easyto evaluate whetherfunction costs meet the budgetary limits but are largely unable to discern the more profitable customer segments from the less profitable ones without extensive analysis.Function-level costs, therefore, provide limited inputs to drive profitable growth.
A ‘Smarter’ Way to View Costs
The question really is: why is Cost toServe information important and critical to profitable growth?
Leveraging function level costs without a Cost toServe perspective results in costs beingmanaged under a one-size-fits-all policy adopted for all customers in a particular market.This model leads to under-servicingsome customers and over-servicing others, resulting in a segment of unsatisfied customers. If these unsatisfied customers happen to be the more profitable ones, the cost reduction effort can potentially be offsetby lower sales, resulting in no change or reduction in margins!
Contrast this with a scenario where a Cost toServe framework is deployed and costs associated with a particular customer or a segment of customers is explicitly available. For instance, a high-margin customer segment (not necessarily a high volume one) may be most likely to be under-serviced. An organization mightdecide to improve service levels (availability of products, greater promotional spend, etc.). A goodCost toServeframework would provide guidance intohow much the resource allocation should be increased to achieve the desired improvements.
Conversely, for low-margin customer segments, a segment that is potentially over-serviced, an organization can identify the extent to which input resources can be reduced without impacting the committed service levels.
Cost to Serve and the Intelligent Enterprise
At Genpact, we help to power more “intelligent” enterprises though process. As part of helping companies seize opportunity and become more agile in meeting market challenges, we are building frameworks that estimate the Cost toServe components associated with engineering services (new product development or existing product lifecycle management) and sourcing and procurement of direct material.
Our approachenables clients to identify costs and associate them with particular products, endcustomersor market segments,assisting them in making ‘smarter’ decisions for driving growth.
In subsequent blog-posts, I will share interesting details of cost-to-servechallenges, change management issues, IT / technologies and offerings from consulting companies, and how Genpact is using them to help our clients transform themselves into truly intelligent enterprises.