You have permission to publish this article free of charge, as long as
resource box is included with article. If you do run my article, a courtesy reply to sean@bizmanualz.com would be greatly appreciated. This article is 895 words long including resource box. Thanks for your interest.Part One of Creating Well-Defined Processes Series What if your sales increased from $100,000 to $110,000 per day and your profit increased from $10,000 to $11,000 – did you improve by 10%? The answer might shock you...
Because answer is no. No improvement occurred. In fact, your process deteriorated. Sure, revenue increased, but is this really an improvement? Let’s take a look at problem by looking at revenue and expenses.
Extra Expenses Prevent Process Improvement
Let’s examine before and after scenario. Say, in before picture, you have sales of $100,000, fixed costs of $20,000 and variable costs of $70,000. Total expenses amount to $90,000, giving you a gross profit of $10,000. In after picture, sales increase to $110,000, while variable costs rise to $77,000 in addition to $2,000 in Extra Expenses – which give you total expenses of $99,000 and a gross profit of $11,000. In after picture, remember though, fixed costs are fixed, and do not change with additional revenue. So you should get more than 10% (11.8% to be exact) profit from 10% growth.
But in order to maintain a 10% profit we have to spend $2,000 in Extra Expenses. These Extra Expenses represent your process inefficiencies. These expenses could be sales discounts, travel, overtime, or something else. The names don't really matter. What does matter is that we are not improving.
Process Evolution Enables Improvement
Improvement results from process evolution, not from an increase in scale. What’s difference? Scale increases when we hire another person, increase expenses, or purchase more assets in order to acquire or service more business. Process evolution occurs when we change process and as a result can release hidden capacity and service more business without adding any costs - and this is a form of efficiency. You can measure efficiency with formula:
Efficiency = Output / Costs
But process evolution is about more than just changing costs. It is about changing time, increasing process velocity, and getting more output from costs you already have. Cutting costs, by itself, does not evolve a process. In fact, reducing costs, without properly understanding how those costs relate to process, can actually decrease process evolution (devolution). Let's review an example…
A Cost Reduction and Procedures Training Case Study
A company decreases costs by switching suppliers and using cheaper materials for their manufacturing process. Now purchasing department is happy they are saving money. The bottom line is starting to look better as profits initially increase. And so this improved process, right? Well...
