On the surface, the company is successful. Turnover is growing, more products are being introduced, capacity is being expanded and more customers are being added. Things are going well. However, growth has a secret friend – complexity. Complexity is like driving down the motorway with the handbrake on – it reduces the company’s competitiveness.
Complexity typically arises in an area of tension. On the one hand, there is the desire to create development, take a stronger market position and seize the opportunities offered by the market (sales). On the other hand is the need to trim the business to achieve higher earnings (operations). In good times, the company is naturally tempted to offer more to customers, but this increases complexity, as each addition and variation requires more attention and more resources. At some point, this complexity reaches a level at which it causes value to deteriorate rather than increase.
Symptoms of complexity
The degree of complexity in a company cannot be measured but the effect of it can:
- A large part of the product portfolio is unprofitable – up to 40%, studies show
- High inventory levels increase costs and bind capital (working capital)
- Pressure on companies’ capacities leads to lost turnover and unhappy customers
- Large write-offs on inventories and/or quotes reduce margin
- Long delivery times to customers affect companies’ competitiveness
- The company is constantly putting out fires and every action sparks a negative chain reaction
Complexity is a management task
First of all, it requires that the management accept this as a management task and avoid leaving the struggle over prioritisation and firefighting to the operational level. The task is to create transparency which ensures proper day-to-day prioritisation.
Next, the management must understand that complexity will not be made to disappear with a single initiative – it is an ongoing task. Studies from McKinsey & Company show that just 10% of companies manage to keep costs and complexity down over a three-year period.
The reason that the initiatives are not sustainable is that companies often attack a symptom, rather than the cause. The initiatives are short-term and focused on cost optimisation, inventory reduction or outsourcing. If the company is to achieve profitable growth, it requires a clear strategy with clear choices which ensure that the organisation will continue to focus on its most value-creating aspects. This is a difficult and rarely popular discipline, as choosing not to pursue new activities is runs contrary to new initiatives, development and growth. In the long term, however, it will give the organisation more oxygen, better returns and more satisfied customers.
For most companies, tidying up the product portfolio is thus a good place to start. And as you are dissecting the portfolio, it is essential to make a critical assessment of and decision about the products or services that will probably never be able to achieve strong competitive advantages.
As part of the Shared Vision strategy from 2005, we had to focus. The key was to look at our products. One of the tools for achieving this was introducing activity-based costing on the product and customer side in order to identify where we were earning money and where we were growing. We managed to clear up our product portfolio and we chose to focus on what we could make money on.
In the article “The magic balance between growth and profit”, we provide an example of how a large Danish production company succeeded in:
- Visualising customer profitability
- Creating a “sense of urgency” in the management team
- Implementing a strategy that stimulates growth and profitability