Budgeting

3G Capital’s Playbook: Look at EVERYTHING—There are No Sacred Cows in Cost-Cutting

During the past decade, the achievements of the Brazil-based private equity group 3G Capital have drawn attention to the aggressive cost cutting methods outlined in management consultant Bob Fifer’s How to Double Your Profits in 6 Months or Less (1995.)

3G has raised the profitability of its acquired businesses by sacking thousands of workers, shutting down factories, simplifying operations—even using cheaper ingredients. In Israel, the 3G-controlled Heinz was forced to rebrand its iconic ketchup as “tomato seasoning” after a cost cutting-inspired shift to GMO-derived constituents. 3G’s playbook, however, encourages increasing budgets for strategically important business functions—for instance, Kraft Heinz has increasingly expanded spending on advertising and product improvement.

At every 3G-run company—Anheuser-Busch InBev, SABMiller, Heinz, Kraft Foods, Burger King, Tim Hortons, Popeyes,—the “zero-based budgeting” accounting tool forces managers to justify all claims on their organizations’ financial resources. As I noted in a previous article, this method forces managers to justify every line item on a team’s budget as if it were new a claim for an entirely new project, instead of merely being carried over from the prior year:

Zero-base budgeting advocates say that it detects inflated budgets and unearths cost savings by focusing on priorities rather than simply relying on the precedent. Managers secure a tighter focus on operations by justifying each line-item in their budgets, thereby reducing the money they allocate to the lowest level possible. Managers can also contrast competing claims on their ever-scarce financial resources and therefore shift funds to more impactful projects.

How to Double Your Profits has become a must-read for all managers affected by any 3G deal. This obscure book, purportedly written in just 15 hours, was also a favorite of such business luminaries as Sanford Weill (of Citigroup,) Bob Lipp (Travelers Insurance,) and Jack Welch (General Electric.)

3G’s methods have upended an entire industry known for characteristically lower profit margins. The specter of being acquired by 3G has forced Unilever, General Mills, J.M. Smucker, Nestle, Pilgrim’s Pride, Phillip Morris, and other consumer staples companies to implement sweeping cost cutting programs.

Every Expense is Evaluated to Be Cutback Unless It Contributes Directly to the Bottom Line

How to Double Your Profits obsesses about cutting costs by any and all means possible. Every corporate resource is a cost-center that must be pared down to the bone—unless it’s a strategic function. When it comes to marketing, for example, the author recommends outspending the competition in both good and bad times.

Seventy-eight brief chapters (“steps”) deal with every possible drain on time, money, and people in the modern corporation: reducing layers of management, cutting the amount of time managers spend in meetings, shrinking corporate expense accounts, eliminating first-class air tickets, getting rid of pointless reports, and so on.

• Focus on profits. “We’re here to make a profit. In fact, we’re here to make as much profit as we possibly can. Profit is the most accurate, most all-encompassing measure of whether we truly are the best. … Profits benefit all of us … when the profits slow down, we all suffer.”
• Run a true meritocracy. Set expectations about how performance will be measured and what rewards will accrue to what levels of performance. “Within any level or group of employees, there must be wide disparities in salary, tied to demonstrable differences in performance and contribution to the bottom line.”
• Avoid paralysis by analysis, make decisions faster. “Superb managers are instinctual, making the right decision most of the time based on limited data. The quantification that less-skilled managers insist upon is in fact illusory: They wind up making decisions based upon that which can be quantified rather than that which is important. Most of the critical variables in any business decision can only be judged and evaluated based on experience and instinct, not quantified.”

Much of the advice is effective, if predictable, but some suggestions are clearly crooked:

• Step 24 / Declare Freezes and Cuts: “Send a letter declaring an across-the board 3% reduction to suppliers. Make sure the letter is from someone high up and intimidating….(after getting the bill) deduct 3% from the bill and say, ‘Didn’t you read my CEO’s letter? Are you trying to get me fired? “
• Step 37 / Accounts Payable: “Never pay a bill until the supplier asks for it at least twice. You’ll be surprised: A few suppliers will take as much as two years before they finally get around to asking for their money.”

But Then Again, There is only so Much Fat to Cut out: The Crisis at Kraft Heinz

When discharged without due forethought, elements of Fifer’s cost-cutting mindset could lead to corporate myopia and an utter disregard for such intangible assets as human capital, brand value, and corporate philanthropy.

Certainly, in businesses with substantial cost inefficiencies and bloat, cost-cutting can produce considerable gains in profits, but even with these firms, gains will be time-limited, because there is only so much fat to cut out.

Aggressive cost-cutting has been blamed for the recent travails at Kraft Heinz. Over the last three years, Kraft Heinz’s fading return on invested capital and decreasing sales point toward a leadership team that has been giving precedence to near-term cash flows to the detriment of its long-term competitive position (“moat.”)

With the expansion of cut-price private-label brands, consumers are no longer remaining devoted to brands like they once did. Kraft Heinz’s roster of products is less appealing to customers than it used to be, and cost cutting hasn’t helped—Kraft Heinz has invested just 2%–3% of its sales on brand spending, as against 7%–9% at comparable consumer goods companies.

Recommendation: Fast Read ‘How to Double Your Profits’

Bob Fifer’s How to Double Your Profits in 6 Months or Less, even if out-of-date and brash in style, could help drive systematic cost-consciousness in large firms that have bloated cost structures in the hypercompetitive business environments.

Entrepreneurs, managers, and employees will find in How to Double Your Profits many ideas for establishing a culture where every employee feels liable for adding value to the organization’s bottom line. The key takeaway lessons are:

• Determine which costs are strategic (costs that bring in business and improve the bottom line) and over-invest in those processes as long as they are effective, i.e. producing better results. “Place the burden of proof on justifying costs, not on eliminating them.”
• Avoid over-quantifying and over-analyzing processes and results, particularly when the extra precision will not have any bearing on business decision-making.
• Consider business processes as a means to an end—a focus on business results should trump a focus on business processes. In other words, focus single-mindedly on business results.

Complement with Francisco Souza Homem de Mello’s The 3G Way (2014) and Cristiane Correa’s Dream Big (2014)—informative books on 3G written by Brazilian business journalists who’ve covered 3G and its founders over the years. Warren Buffett, who regularly teams up with 3G Capital, recommends these books.