Introduction
In today's competitive market, many companies try hard to stay afloat, yet some of them ignore the active practice of cost reduction until they are enmeshed into financial difficulties. The reason for practicing an active cost reduction process is quite simple. A company may work extremely hard to get an extra dollar of revenue which may lead to an increase of profit, say 10%. Yet a one dollar cost reduction, at a 10% profit margin is equivalent to 10 dollars of extra revenue. In addition, gaining an extra dollar of revenue may be uncertain, whilst a one dollar cost reduction is entirely within the company's control. An active cost reduction practice has the merits of increasing profits, reducing costs, and improving competitiveness. In addition, it is entirely within the company's control. We shall discuss one of the techniques on continual cost reduction in the following paragraphs.
Background
Value analysis was first introduced by L.D. Miles at General Electric in 1945. His successful results at General Electric attracted the US Navy Bureau of Ships which invited Miles to train their military personnel on the value process in 1947. Miles modified his value analysis process in training the engineering department of the US Navy. The technique was renamed value engineering and subsequently applied to other US military projects and aero-space programs which required successive functional improvements and high degree of reliability. The technique was also used by the British defense departments and was introduced into Japan in 1955. The Japanese companies took great interest in it and used or modified the technique to complement with its production and quality management.
Value Concept
The value concept stresses upon the key success factors of developing and applying an attitude of "challenge" and a constructively critical evaluation on all cost elements of the products including its components and parts.
There are three objectives in the value concept:
- To reduce the prime costs
- To promote cost consciousness
- To improve departmental co-operation in cost savings
Since its introduction in 1945, the value concept has evolved into value analysis and value engineering. The process of value analysis is a critical evaluation on the on the value and cost of the product, aiming at improving the value and reducing the costs of the product. Distinctively, the objective of value engineering is to ensure that unnecessary costs are avoided at the design stage, and maximized value can be achieved while the project is still on the drawing board. The same process can be applied to the existing products. By challenging accepted principles, methods, production process, materials, components, packaging, etc. the costs of the next version of the existing products can be minimized.
Value Committee
On top management commitment, the successful application of the value concept requires the collaboration of many departments. This prerequisite leads to the formation of a "Value Committee" which is a group of experienced managers selected from individual departments which have direct or indirect impact on the various cost elements of producing the products and services. Although the largest cost elements of any product originate in the design department, many other departments can influence the overall cost. Bringing staff of different departments together to focus on a problem (product cost) enable them to view it from different angles such that ideas could be fertilized.
The value committee is headed by a chairperson, usually a member of the top management. The jobs of the chairperson is to encourage committee members' active participation in raising problems, challenges, and objective criticism; to facilitate the committee during each meeting; to monitor its progress against various milestones set; and to conclude the results and solutions to be recommended to the top management for approval. Ideally, the chairperson should cultivate collective performance to the value committee members so that mutual accountability can be ingrained.
A simple structure and process of a "Value Committee" is depicted as follows:
In order to better foster ideas, the value committee may consist of selected representatives from various departments such as design, research and development, production, sales and marketing, maintenance, as well as representatives from accounting and finance, human resources. With representatives selected from staff function departments such as accounting, human resources, etc. it may be beneficial to invite these representatives to attend some in-house working sessions conducted by the operations management on the company's products, production processes, and even specific components. These in-house working sessions are intended to cultivate the staff function representatives to be "on the same page" with the operations members. In addition, these working sessions can be viewed as some warm-up occasions or "get-to-know-each-other' gatherings for the value committee members. These sessions would enhance the development of team spirit among the committee members.
To foster interaction, if the number of members exceeds 10 persons, it is beneficial to divide the value committee into groups of four to five persons, assigning tasks and milestones for each group, and with group members changed at each stage of product development.
Value Analysis
There are two objectives of value analysis: (1) to improve its value, and (2) to reduce its cost. The principle of value analysis asserts that at a given value and cost, quality (function) must be improved at each successive stage of development or in the next version of product produced. If quality (function) is satisfied and maintained, then cost must be reduced to enhance its value.
In essence, the value analysis stipulates: Value = Function/Cost
The term "function" as depicted in the above formula is a relative term that refers to style, performance, workmanship, features, reliability, and usefulness of the product as perceived by the customers.
The idea behind value analysis is that each product has certain functions to perform to meet the needs of its customers. Any products produced must meet its basic function. This basic function, if eliminated from the product, would render it useless in terms of its intended objective. The product also has its secondary functions which are added to permit the accomplishment of its basic function and to enhance its perceived value and acceptance to its customers. The amount of its value is measured by the ratio of these functions (or quality required) to their costs. In this connection, it is necessary that the functions of each product, its parts and components are examined and clarified and its associated costs are quantified. Attention will then be focused on the associate costs of materials, parts and components used. Similar to the process undertaken in value engineering, the value committee would review the product until the next version of the product emerged.
We would use a pencil as an example to illustrate how value analysis works:
| Description | Function | B | S |
| Pencil | To write and to make marks | x | |
| Eraser | Remove marks | x | |
| Body | Support lead, support grip, and transmit force | x | |
| Paint | Improve appearance and protect the body | x | |
| Lead | To write and make marks | x | |
| B = Basic function | S = Secondary function | ||
The basic function of a pencil is to write and make marks. The material "lead" performs the basic function, consequently, it can be substituted, but not eliminated; otherwise, it would render the pencil useless. All other functions: eraser, body, and paint are secondary. These functions can be combined, consolidated, substituted, or even eliminated. For example, paint can be eliminated without severely damaging the basic function of the pencil.
The competitors' products are now compared and evaluated with the company's product- pencil. The value committee would then determine what functions are to be improved and/or the associated cost of each function is to be reduced. The design and engineering departments would have to come up with a new version of the product which should give better value or at a reduced price than its competing products. If needed, the new product would go through the value engineering process before product launching. The value engineering process will be discussed in "Cutting Costs through Value Concept- Part 2".About the author
A seasoned manager, having employment with several medium to large corporations, multinational and listed companies and with several years of management and financial experience in China; specialized in cost control, resources management, and project assessment; and with in-depth knowledge and practice in the PRC tax and labour law and regulations.
Email: lokleo@gmail.com
Reference
Peter Fatharly, The Value Concept, Management Techniques, Pp. 145-155, Coles Publishing Co. Ltd. 1980
Roger G. Schroeder, Susan Meyer Goldstein, M. Johnny Rungtusanatham, Operations Management: Contemporary Concepts and Cases, Fifth Edition, McGraw-Hall Companies, Inc. 2011
Steven M. Bragg, Cost Reduction Analysis, John Wiley & Sons Inc. 2010