WORKSHEET #25: Evaluate the Company’s Advantages or Disadvantages in Visible Costs
Step 1:
Evaluate the Company’s rate disadvantages against the best competitor as follows:

Identify the lowest cost competitor in the industry.

Evaluate the rate of costs this competitor pays for people, major items of purchases and capital, if appropriate.

Calculate the total annual savings, in dollars, this competitor achieves relative to the Company due to this rate advantage. Use the savings the competitor achieves compared to the Company in the Standard Leader product.

Divide each of these savings dollars identified above by the estimated annual units of product sold by the lowcost competitor to arrive at a total cost per unit of product sold advantage due to rates of this lowcost competitor.
Step 2:
Evaluate the Company’s disadvantages relative to the lowcost competitor in the industry due to differences in approaches to managing functional costs as follows:

Identify the lowcost competitor in the market.

Name the major cost functions in the industry.

Identify and describe the Company’s approach to each of these major functional costs. Calculate the cost per Standard Leader product unit of sale of the Company’s approach.

Identify the approach to the management of each functional cost used by the lowcost competitor.

Estimate the annual savings, in dollars, the lowcost competitor achieves by using its differential approach to managing functional costs. Use the savings the competitor achieves compared to the Company in the Standard Leader product.

Divide these savings by the estimated annual Standard Leader units of sale the competitor makes in the industry to arrive at the per unit advantage the competitor enjoys through its differential approach to managing functional costs.
Step 3:
Determine how much of the Company’s shortfall in financial performance remains after changes the Company makes to offset these rate and functional cost differences with lowcost competitors as follows:

Determine the practical potential the Company has to achieve rates of costs comparable to, or better than, lowcost competition.

Estimate the total annual savings from the implementation of these changes to reach lower rates of cost.

Reflect these changes in the Company’s current forecast for its operating profits.

Calculate the new return on net capital employed (or ROE or ROA, as appropriate) to determine the remaining shortfall.

Determine the practical potential the Company has to develop approaches to managing the current functional costs that produce costs equivalent to, or lower than, those of the lowcost competitor.

Determine the annual savings from these practical steps.

Reflect these additional savings in the Company’s operating profits and net capital employed.

Calculate the new return on net capital employed (or ROE or ROA, as appropriate) to identify the remaining shortfall against the Company’s financial goals.

Calculate the remaining shortfall in the Return on Net Capital Employed (or ROE or ROA, as appropriate) that the Company must close with other revenue improvement or cost reduction initiatives.