Serious Cost Cutters Only, Please

The cost-cutting bandwagon is getting pretty crowded. Politicians of every party and all sorts of backgrounds are, during the current election season anyway, quite concerned about unsustainable spending.

As the experience of Chris Christie in New Jersey is showing, the actual implementation of real life spending cuts can be rather gruesome --particularly if you wait until the crisis is at hand.

This fall, a number of new mayors and governors will be coming into office facing high unemployment and a big blotch of red ink on their budgets. Some may be tempted to find ever more creative ways to "kick the can" down the road by avoiding pension contributions, or by translating a long-term revenue stream into a one-time windfall.

This column is not for them.

This column is for those public leaders who are looking to make structural changes that will bend the cost curve of government down. The key is to find ways to deliver essential public services, to work within the boundaries of the politically possible and to execute a serious initiative to streamline public spending.

How to approach the challenge? The first lesson is that it is virtually impossible for the secretaries and department heads charged with running operations to come up with sufficient savings themselves to deliver the necessary cost savings. The best approach by far is to establish a dedicated team, located physically and philosophically close to the chief executive, and charge them with developing a set of recommendations that the mayor or governor can then direct her lieutenants to execute.

There is likely to be some internal friction between the cost reduction team and the various department leaders. That is by design. The cost reduction team is supposed to be disruptive.

To be successful, leaders must build achievable, robust programs that contain a portfolio of initiatives to reduce costs. The biggest traps include taking on too many initiatives at once, or constructing a cost reduction portfolio that lacks balance and coherence. This can lead to one initiative diluting the benefits of another, and possibly a wider failure of confidence in the whole program.

Done right this small team should be able to generate a sizable list of possible initiatives. At this point, it is best to use a "funnel" approach to whittle down a long list of possible cost reduction initiatives into a shorter, balanced list that will actually form the program.

Deciding what cost reductions not to pursue is critical. There are four main reasons for rejecting an initiative:

1. It is too politically impossible.
2. It won't save enough money.
3. It saves money, but will have too severe an impact on services -- or on the providing organization.
4. It saves money, but it's not aligned with the strategy. For example, it clashes with a new operating model that some other initiatives are creating.

It is essential that the first cost-reduction initiative succeed, and succeed in a visible manner. The new chief executive needs to deliver some early visible wins in order to make sustainable inroads into the underlying cost base.

The "funnel" approach should use rigorous financial metrics to identify worthwhile initiatives, as well as weigh political considerations. Not all cost cutting ideas will, or should, make the cut. Develop a score sheet that places political and other risks, such as complexity and time to implement, on a scale. Look at the level of cost savings in comparison to where an opportunity falls on the scale and weigh options against each other.

One of the most challenging truths of this exercise is that cost savings will take a varying amount of time to extract. There will be cases where "doing the right thing" will result in nothing but political pain in the short term, with benefits being realized in the out years, when someone else is in charge.

Think in terms of "fast money" and "slow money." Fast money will be those opportunities that are not particularly complex to implement and where the savings can be realized more quickly. Slower money will come with projects that are more complex, may require a greater level of attention and management, or have more dependencies with other projects taking place. It can take years, for example, to extract savings from shared services, consolidation and other changes in the operating model of government. Additionally, time may be impacted by the level of risk involved in the opportunity. If political leaders only look at short-term cuts, they'll miss a whole set of larger opportunities.

There are several lessons to keep in mind when building a balanced cost reduction program:

• People tend to overestimate cost savings, and dramatically underestimate implementation costs.
• At least 30 percent more in savings than actually needed should be identified to achieve your overall target savings.
• The people who work for government are not your enemy -- they are the folks who will help you make these needed changes. They must feel respected and their contributions valued, even as wrenching changes are taking place.
• If you count planned benefits by anything other than run-rate savings, you risk miscounting one-time windfalls as structural cost reduction.
• Benefits will not be achieved unless driven through as a key part of the executive team agenda.

Serious cost cutters should be prepared for a rocky road. Real cost cutting will be difficult, and it won't come without some pain. The alternative approach, however, of continued unsustainable spending, will create even greater pain in the near future.

This column is adapted in part from our book If We Can Put a Man on the Moon, as well as our new study Red Ink Rising: The Road to Fiscal Sustainability.