Improvement of Profitability through Better Management Examination of Trends One useful approach to profit improvement is to investigate causes of profit
reductions and increases which have already occurred in recent years. If one starts with fluctuations in the rate of return on capital employed, one can then proceed to look in detail for reasons. Accounting ratios are not useful so much in providing answers as in suggesting lines of enquiry. The ratio of net profit to sales is a good example. Variations may have been due to changes in selling prices, which may have occurred for many different reasons. Price reductions may have been forced on the firm by competition or may have been planned to make possible a sales expansion which did not, in fact, materialize. On the other hand, variations in the ratio may have been due to increases in the prices of materials, or changes in direct labor productivity or in overheads in total or per unit due to changes in volume. Detailed knowledge of trends in the recent past is essential to appreciation of the firms present problems. Yet it is extremely unlikely that a manager who has been with the firm for years knows and appreciates the significance of all recent trends. This may be partly due to the fact that he is too personally involved to isolate the really significant from a mass of relatively commonplace data. It may equally be that he has not looked in the right places. The ratio of sales to capital employed may be useful, but probably of greater use are sub-ratios which may reveal unwise capital expenditure, excessive stock holdings or weak credit control. If possible, it is useful to discover the effects on profit of obsolescence of products, bad design, or poor marketing. The following areas are probably worth special investigation in most business concerns in relation to costs and profits. CUSTOMER PATTERNS The effects of changes in the range of products and variations in types and sizes. The geographical distribution of customers in relation to the economics of sales representation. The cost of changes in the terms of trade and the effect on sales. The size of orders and the effects of eliminating or increasing small orders on manufacturing and distribution cost. How many firms really know the cost of short production runs? CAPACITY USAGE The causes of low capacity utilization in particular sections. The quality and inspection of materials in relation to costs. Storage costs very few firms have accurate knowledge of the cost of storage including obsolescence and deterioration in relation to the value of stocks held. Economic material stock levels in relation to quantity purchasing discounts, storage expenses and cost of capital is often one of the most fruitful fields for investigation. What is the maximum and optimum capacity level? How much has it changed as a result of minor equipment changes, since last it was assessed?
Would sub-contracting the manufacture of certain components to specialists enable the firm to make better use of its own productive resources? PRODUCT DESIGN In many businesses, design of products is probably the most important area of all. Are tolerances finer than they need to be for the purposes which the product is designed to serve? Are more expensive materials used than are really needed? Could materials bought in large quantities for other products be used instead of special-purpose materials bought in small lots? Could the product be simplified for easier manufacture? Could it be re-styled for easier transportation? Could components be standardized to a greater extent? - ? Need Value Management of both product and process? CAUSES OF WASTE Another line of approach is to analyze the factors which cause waste. These would usually include the following: Waste or loss of materials on receipt, storage, issue or use. Scrap or defective work. Loss of production time and unprofitable use of employees time. Low or inefficient utilization of plant and equipment. - ? Consider Deming cycle and principles of Lean Production? Perhaps one of the most crucial questions is whether overheads are too high. Probably many firms, while keeping a tight control of production costs, have a vague suspicion that their overheads are excessive, but do not really know what level of expenditure should be regarded as tolerable. Organization and Methods Study is almost certain to indicate ways in which paper work can be reduced. However, unless this can be made really effective by reduction of clerical staff, Parkinsons Law will soon be in full operation once again and the benefits of improving the system quickly dissipated. The technique of Variable Factor Programming often achieves greater long-term benefits than Organization and Methods Study on its own, because, properly applied, it ensures that the work force is fully occupied and there is no tendency to fill time with unnecessary tasks. It is, however, a technique which
involves intensive study of the work done in individual sections. For this reason, it has to be undertaken or one section at a time and radical overall improvement is likely to take a long time. It is also likely to involve difficult problems or labour relations. THE FUNCTION OF BUDGETARY CONTROL A budgetary control system can never by any better than the people who operate it. Its effectiveness rests on recognition and acceptance of personal responsibility. The way in which budgets are arrived at is crucial. Does the master budget represent an effective and practical plan, a target for a achievement or a straightjacket? Does the sectional executive look on his budget as a minimum amount which he must spend, for fear that it will be cut next time? Or does he regard it as the limit within which he has freedom to spend money for the benefit of the firm? Systems are no substitute for management responsibility or action. They merely isolate crucial problems from the comparatively unimportant and, to some extent, provide predetermined answers for foreseeable and repetitive situations, thus enabling managers to spend more time thinking about the real problems of the business.
