Budgeting: Is Your Productivity Goal High Enough?

Estimating potential efficiency gains is an important element of the annual budgeting and forecasting process.

When setting productivity improvement targets, most companies set their sights too low. If leaders really want to release employee creativity and build a market advantage, they should set their annual productivity targets between 6-8%.

For many companies this time is the heart of the forecasting, planning and budgeting season. Business leaders are busy setting revenue targets, finalizing capital improvement plans and allocating business unit and department budgets for next year. Estimating potential efficiency gains is an important element of this process. When setting productivity improvement targets, I’ve found that most companies set their sights too low. They often budget for 2% productivity gains, or maybe shoot as high as 4%. If you really want to release employee creativity and build a market advantage, business leaders should set their annual productivity targets higher, say somewhere between 6-8%.

“That’s too high and unrealistic,” your plant managers might say. “We’re not installing any new equipment or revamping any lines this year. And we’ve already captured all of the big opportunities to boost productivity.” But it’s not unrealistic. After several decades of more and less vigorous operational improvement efforts, manufacturers inside and outside the United States still have plenty of room for improvement.

The first thing executives need to do is raise their expectations. Here’s why. Achieving a 2% annual gain in productivity might seem ok, like you’re keeping up with labor cost increases. But with macroeconomic productivity improvement at 2.1% per year in the United States, you’re actually falling behind. Even a 4% annual productivity gain leaves little room to respond to the inevitable challenges that will rise up and threaten your earning targets for next year. Productivity improvement does more than offset labor costs.

It helps you achieve your revenue growth and profit margin objectives by capitalizing on opportunities and responding to the threats to your objectives. Specifically:

• For a rapidly growing business buoyed by market circumstances or new products, productivity gains will free up capital that can be used to boost capacity while protecting margins.
• In moderate- to low-growth environments, productivity improvements will enhance asset utilization and reduce operating costs.
• Productivity growth can also help counteract negative external factors, such as raw material price increases and fluctuations in foreign exchange rates.

One of the fundamental tenets of the LeanSigma approach is that there is always room for improvement. During this planning and budgeting season, set your productivity improvement expectations high. Continuing to apply the methodologies and tools to eliminate waste and make material flow can drive significant and sustainable productivity gains year after year.