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Perspective Kevin Dehoff

Eric Kronenberg

Design for
Affordability

strategy-business.com to learn more about Booz & Company. with more than 3. Our founder. 2008. Eric Kronenberg. Booz Allen Hamilton. deep functional expertise. we bring foresight and knowledge. visit www. governments.com Originally Published as: ISSR: What Drives (Your) Program Costs? Achieving Step-Change Cost Reduction on Department of Defense Platforms. For our management magazine strategy+business. We work closely with our clients to create and deliver essential advantage. . helping the world’s top businesses. Visit www.com eric. Edwin Booz.booz. NJ Kevin Dehoff Eric Kronenberg Partner Partner 973-410-7625 973-410-7621 kevin. by Mike Jones. and Kurt Scherer.300 people in 58 offices around the world. and organizations. Today. CONTACT INFORMATION Florham Park.Booz & Company is a leading global management consulting firm. defined the profession when he established the first management consulting firm in 1914.com.kronenberg@booz.dehoff@booz. and a practical approach to building capabilities and delivering real impact.

these two categories of Defense (DoD) programs. focus- Defense Platforms through incremental cost reduction ing primarily on labor and over- initiatives no longer supports the head. In man- Cost Reduction on defense budgets and a shrinking aging costs. are often considered low-hanging In response. contractors typically Department of procurement base. labor. Direct labor. for example. delivering Unfortunately.ISSR: What Executive Summary The need to reduce costs is not new Program managers and defense to the defense industry. a few innovative fruit that will have an immediate programs have initiated a step. direct labor and more effective systems at a overhead (indirect) also are the dramatically lower cost to the smallest cost categories and customer. As the most visible and con- targets required by Department trollable costs. impact on the bottom line. while simultaneously reducing contractor-furnished equipment Achieving Step-Change costs. Booz & Company has seen and participated in the restructuring of the DoD contractor base. total platform cost. In an era of uncertain (CFE). change in performance. starting with the actual comprises only 10 to 16 percent of platform design. drivers. Interestingly most of the Lean Six Sigma (LSS) initiatives we’ve observed focus on direct labor. and overhead. the defense industry PRogram caught between opposing historically has attacked costs by imperatives: deliver increasingly individual cost category: govern- costs? capable and complex systems ment-furnished equipment (GFE). Regarding overhead. with Booz & Company 1 . the traditional have sought to make reductions on approach of squeezing savings a category-by-category basis. Manufacturers have typically offer the least opportunity taken a “total cost” perspective by for improvement (Exhibit 1. Like most Drives (Your) manufacturers frequently are industries. page systematically evaluating all cost 2).

several and government program. depreciation or payroll cost). The framework is explicitly designed to GFE CFE Indirect Costs Direct Labor Cost attack material and manufacturing build costs. to single taken a different approach to provides government agencies and division/single overhead (today).. on which we have worked directed costs constant against a shrinking the programs focused on the cost their efforts toward addressing two procurement base. impact of individual cost categories reduction in the units that the (e. To been explored and vetted for the site economics”—following its achieve significant and enduring maximum benefit to the platform evolution from single-site/single step-change cost reduction. these areas almost always offer room” is the significantly increasing the greatest opportunities for gain To identify. not all costs are created defense industry in a challenging impact of cost drivers (e. driven by how 32% 80% 49% the product is made Cost Composition 61% 55% 57% 47% • Systemic costs. material cost reduction is about Booz & Company has applied its The sections above present not only beating or achieving negotiated cost-driver framework based on a breakdown of the inherent and future inflation indices. strategies for reducing opportunity for savings.g. all the way costs (driven by how the platform is. By overhead (mid 1990s). systemic. is built). ISSR offers Source: Booz & Company a collaborative approach that draws in government stakeholders and suppliers. analyze. and structural costs and how they can as exhibited in Figure 1. Further. be used to drive savings across a of the platform cost.Exhibit 1 ISSR evaluates cost drivers based on Cost Composition by Domain four categories: Example Cost Composition by Domain • Inherent costs. driven by the 29% 29% 26% 15% 25% 30% actual work practices. 50-60% realized (ISSR) costs (Exhibit 2). driven by the platform design 100% 13% • Structural costs. ensuring that all cost-cutting measures have the objective to achieve “single. For DoD programs. the programs position as players struggle to hold technology or asset use). built. a continuing their cost-saving strategies. once designed. 2 Booz & Company . inherent. For most programs. structural. driven by how 60% 29% production is managed 40% 23% • Realized costs. contractors with a comprehensive Although opportunities still exist approach to measure and validate First. process equal. and they inherent costs (driven by the design labor and overhead do not address have challenged conventional ways of the platform) and structural where real opportunities lie—that of conducting business. how the system is designed and back to the design of the plat. The “big elephant in the form itself. Second. is largely taken off the table. the ISSR framework single overhead (2000). attacking material costs. As the ISSR framework clearly DoD has procured places the these programs have analyzed the shows. drivers that offer the greatest primary drivers of platform cost: In effect.g.. Therefore. and address material cost. a program’s cost drivers. rather than analyzing the for cutting overhead. to multi-site/ innovative DoD programs have this virtue. 20% 14% 13% 14% 10% 16% 14% The rigorous and comprehensive 0% Submarine Surface Aircraft Ground Satellite Launch nature of the ISSR approach Ship Combat Vehicle Vehicle triggers the identification of all SEA AIR LAND SPACE improvement opportunities. (Exhibit 3). Consequently.

manufacturability technologies e.g..Exhibit 2 ISSR Cost Driver Framework Ability to Impact ISSR Framework Cost Increases as You Move Up Market Requirements Inherent Process Product Design Costs Technology 30% Location Economics Sourcing Strategy Scale and Manufacturing Structural Supply Chain 20% Utilization Strategy Costs Structure Customer Locations Plant Focus Service and Business Supply Policies Supply Chain Systems Processes Systemic 10% Control Support and Costs Tactical Planning Architecture Infrastructure Enabling Processes Infrastructure Manufacturing Realized Performance Efficiency Costs 5% Traditional Focus Source: Booz & Company Exhibit 3 Inherent and Structural Cost Drivers’ Potential for Cost Savings Degree of Difficulty Inherent Costs Structural Costs Systemic Costs Realized Costs HOW the Production HOW the Product HOW the Product EFFICIENCY of Control System Is Designed Is Built Labor Activities Is Managed • Design-driven cost • Make versus buy • Overhead reduction • Lean manufacturing reduction • Strategic sourcing • Support • Managing rework • Design for • New production reengineering • Standardized parts. more use of • Tools/automation COTS • Supplier integration • Consolidation Strategic Decisions Tactical Decisions Cost Reduction 20%–70% Potential 10%–40% 5%–10% Source: Booz & Company Booz & Company 3 .

Inherent Costs—Designing compromising quality? • Lifecycle Cost Savings. but also a review state-of-the-art capability? Can generate substantial savings over of critical factors for creating a components be standardized the production run of the product. revealing additional opportunities throughout the platform.. payload. requirements from the start. Lifecycle for Affordability Addressing questions like these costs extend beyond production Inherent cost drivers are fixed in offers the greatest opportunity costs to include operating costs the platform design and production for cost reduction. redefines how project costs are has the potential to yield savings Cost savings efforts on current analyzed and how stakeholders across the lifecycle of current and programs may have a long-term interact from the project’s inception. Lifecycle effort has the potential to payoff by designing the most costly when product design and schedule generate tremendous savings when components out of the platform. Moreover.. Redesigning impact may become the difference be simplified while maintaining portions of the platform can between a larger DoD procurement Exhibit 4 Inherent and Structural Cost Drivers’ Potential for Cost Savings Product Costs Time at Which Costs Get Embedded E. Scale/ Life cycle and 40% Utilization 80% Costs Purchased Systemic Percent Costs Defined Cost Innovation Window 60% Production 20% Cost 40% Engineering 5% Up to 70% Inherent E. How You 5%–10% Realized Negotiate Margin 0%–5% 100% Margins Structural ~30% E. from stakeholders gain more control over such as improving platform materials costs to labor costs. successful ISSR program in the across the platform? Can less Reductions in production budgets defense industry.g. Designing for Affordability Reducing inherent costs also • Future Program Cost Savings. A Design for investment. fuel.g. future platforms: impact by applying these same It addresses fundamental design strategies on future programs. it offers the greatest during the innovation window.g. process. availability and reliability. Although reducing inherent brings to the forefront tradeoffs maintenance. Design Cost of Product Cost Reduction 20% Opportunities Overhead 30%–35% Others 0% Traditional Booz & Company Conceptual Detailed Production Operations Cost Cost Design Design and Support Breakdown Breakdown Source: Booz & Company 4 Booz & Company . Therefore. The resulting cost savings cascade savings (Exhibit 4). can still be altered to deliver total lifecycle costs are optimized. costs requires upfront time and and decisions that should be made and disposal costs. expensive alternatives be substituted will sometimes pay for the initial for expensive parts without investment in redesign.major program.. This questions: Can system designs • Production Savings.. it (e. modernization.g. and personnel).

and these situations. following reasons: class nuclear attack submarine. In Labor Efficiency is designed into the platform. measuring and accomplishing the savings on weapons platforms. more modular or easier to test. these costs Attacking Systemic and often are tied to decisions about • Lack of Urgency. Labor practices and human As one component of its focus. Supplier sonar sphere with a hydrophone The longer a unit remains in and customer participation should array saved millions of dollars per production. to the prime contractor through resources drive realized costs.. productivity and Systemic costs are driven by how how manufacturers approach accountability are quick to erode. an up in inventory. The savings for many DoD programs. In attacking structural costs addresses reimbursement by the DoD with the defense industry. the more attention it be elicited to discuss contingency sub by eliminating the excessive consumes from management and and flexibility to improve the over- penetrations required by the sphere. with a longer a unit remains in production. as well as product capac- For example. longer term. Drawing out unit warehousing will still drive an production schedules to level load increase in platform costs. each of and preservation activities to program will lead to design-driven which had only a 17-year life. Often. Navy’s SSN-774 Virginia.. The For example. resource. ity and other constraints. opportunity for substantial cost of raw materials. reduction. relation to the inherent design. Again. they offer added change. General Dynamics Electric Boat’s capacity is an attempt to smooth recent success story with designing Establishing a comprehensive pro- out workload peaks and valleys in for affordability illustrates the gram to reduce production sched- an environment in which the cost savings that can be captured ules can provide substantial cost DoD has decreased the number through the process of redesign.S.000 transducers. Next • Higher Working Capital Costs. By scheduling key Attacking Structural Costs— software. are constantly being upgraded. structural costs Extended production schedules processes are employed for offer the greatest potential for costs tie up cash in inventory. For defense programs. the physical space initial production cost. Although change may tasks (e. test activities) earlier Building for Cost Savings result in increased short-term sales in the process. teams should analyze critical path. material (i.e. of units it procures. the hydrophone array’s not degrade. The original design also required in production require maintenance Often the schedule reduction about 1. set cost reduction targets ranging approach often substantially including redesigning the bow on from 20 to 30 percent. In ensure that critical components do ideas. hydrophones cost far less as an • Increased Risk of Change. the closer to final assembly the often with new electronics and task is planned. the amount of time Structural costs are related to and profit to the prime contractor. replacing the original • Higher Level-of-Effort Support. Complex military platforms required to complete a given task lifecycle savings. support functions.of units versus a smaller-than. Focused increases platform costs for the the U. However. Rather than program eliminated significant costs In this effort. When many Realized Costs—Material which contractor builds which units are in various production Procurement and component. but if corrected. however. risk of obsolescence opportunities for cost savings. Booz & Company 5 . such as making systems contrast.g. these areas the issue of level loading capacity— progress payments. a common mistake in the defense factors such as cost of capital tied but they usually offer the fewest industry. this issue may be profit neutral work. how much modularity stages. typically receive the most attention. and cost spent on this task can be how the platform is built in it leads to higher platform costs reduced substantially. CFE and GFE) their production scheduling. this in materials and manufacturing. programs should stabilizing profits. constraints of submarine design lifespan equal to the sub’s expected the more likely it will be subject to increases the amount of time 33-year life span. urgency is often lost. platforms all production schedule. is procured and how business to inherent costs. and cost of expected procurement of units.

prime contractor(s). a comprehensive ISSR inherent and structural costs have time and money into redesign can program represents a big shift in been addressed. initiatives will have pace inflation. The to better organize and encourage The key is demonstrating how the ISSR framework and approach sub. For many programs are implemented after stakeholders. resulting in suggestions that must be compiled. further benefits. is critical to understand and address Many employees will only dare to Creating the Right objections over investing in redesign consider initiatives that improve Environment for Step.to 8-percent change in culture can then be scaled in dozens. or even hundreds. across the enterprise. bringing gets. effort often comes at the expense of for Investment and suppliers. evaluated. margins and a fear of schedule cost can be applied to future programs. Even more compelling. variable costs such as all the moving parts of the ISSR medical benefits continue to out. Designing levels must be encouraged to inherent and structural cost drivers. of reduction in total platform costs. however. employee involvement beyond upfront redesign generates ongoing stantially increases the size of the the department perspective. data. Individuals at all more important drivers—namely. the idea of investing Internally. across platforms and sites and stakeholders. overruns. but only if these portions of the platform. With Furthermore. area fleeting at best. can prove effective. (labor and overhead) typically considers cost reduction. most time and resources across multiple stakeholders. An independent processes in their narrowly defined Change Cost Reductions third party can be invaluable in department or scope of work. this effort will result results in only 4. ers realize that the initial redesign systemic costs addresses material must overcome several challenges: investment can be paid for directly costs across the entire platform. they often are magnified Lifecycle methodology). and benefits that need to be and other labor efficiency programs an upfront investment to redesign identified and managed. An ability to realize the full range framework.Booz & Company approach to Even an ISSR program. Once savings across each unit procured opportunity and probability those employees are engaged and and across the program’s entire of success. costs. requires risks. making gains in this of design-driven cost reduction very different timeframes. including the a cost reduction program. 6 Booz & Company . expertise. be a tough sell. it behaviors in most organizations. “selling” the idea of investing by reductions in production bud- This dimension of the framework for long-term gains. the ISSR process are critical for creating the right are where contractors employ the requires the collaboration of environment for cost reduction. for Affordability and the ISSR channel their talents. however. Often. early in the process. by allowing central management of success in DoD programs. and prioritized. central management lifecycle. The Various cost reduction strategies helping navigate this part of ISSR approach helps mitigate this have been attempted with degrees the endeavor. contributing. In the long term. If implemented correctly. Addressing these concerns Although they offer the least Managing Multiple Stakeholders systematically and strategically potential for savings. Lean Six Sigma opportunities. The “moment of truth” will be positioned better to typically comes when stakehold- coordinate resulting initiatives. and integrating frequently an order-of-magnitude working with suppliers to identify and managing disparate sets of increase in savings potential occurs and attack common drivers of cost. That alone often justifies the emphasizes consolidating buys together and managing multiple investment. realized costs To be effective. cost competitively to drive down costs in the industry as a result of tight savings from the original program throughout the value chain. This Typically. even a 20-percent framework can fundamentally and creativity toward developing improvement in realized costs transform how an organization innovative cost-saving strategies. In our experience. Although these challenges when costs are considered across Suppliers are encouraged to source are not unique to the defense the program lifecycle (Design for and price their components more industry. This Developing the Business Case Government.

inherent and structural costs—will incorporates all costs into a com. effective to work with a contractor The most cost-effective. use it to identify opportunities and cost drivers—focusing first on and systems. Shrinking pro- also profitable. Making these changes will not defense industry stakeholders can- ing decisions will be based on the be easy. it may be cost. cures new platforms. means for achieving this effort is by ing this level of detail. government. Design for Affordability Schedule reduction tionally charged. and sup. defense indus- step-change improvements in cost Achieving these results requires try players must evolve to meet the savings are not only reachable but an ability to access and integrate new expectations. The ISSR framework frame decisions is critical to the suc. and only organize this data but also systematically attaching all overpriced components. integrated picture so that the incremental reductions simply program manager is able to com. pare and make tradeoffs across cost As the DoD changes how it pro- reduction opportunities (Exhibit 5). because all design and manufactur. tighter government the employment of ISSR framework plier data into a carefully structured budgets. an unprecedented scale while ness in its platform development. As with creating initial stakeholder SYSTEM MODULE buy-in. the database needs to be created simultaneously maintaining or only once. In today’s rectly. cess of the cost reduction program. cost type. This comprehensive and focused approach for Booz & Company 7 . As such. For contractors that employ ISSR. The Drive to Evolve cannot achieve. processes. Source: Booz & Company and process. Contractors are being not afford to not evolve to the next data from this database. overdesigned. political and financial environment. and lower procurement on a platform is a key indication database. improving system capabilities. the framework offers a like-for- like comparison that eliminates unnecessary. strategic that has experience with integrat. This complicated ISSR levels are necessitating an adjust- that all possible costs have been aspect can be costly if not done cor. and ideas must be fully vetted based Common Baseline on performance and cost-savings potential. area. A rig. a third party with prior (Total Cost) (Span Time) experience in this type of a cost reduction program can provide the objective and independent perspec- tive required for managing the AQUISITION PROCESS process with credibility. When done correctly. capture cost-savings at a level that mon. little margin for error exists manufactures weapons platforms. Having the attacking inherent and structural know-how and experience to not cost drivers. ment in how industry designs and reduced from a platform. Exhibit 5 Common Baseline for ISSR Data orous assessment process is critical. For DoD agencies.Not all ideas will fit the bill. (Material Cost) (Labor Hours) Integrating Disparate Sets of Data The ISSR framework examines Aquisition Strategy Labor Efficiency different slices of the total platform cost—by system. and the ability to demonstrate impartiality is crucial. asked to trim platform costs at level of efficiency and cost-effective- Because it is a nonrecurring action. contractor. This process often is emo. duction groups.

This organic. Working closely with program executives from the Navy and Electric Boat. the Virginia-class cost reduction effort enabled the Navy to accelerate its plan to double the construction rate to two boats per year—a significant savings to US taxpayers and a needed boost to our national security. and then the yards take turns assembling and delivering the final boat. the Navy set a target unit cost of $2 billion (2005 dollars) per submarine as a condition for meeting its goal of increasing production from one to two boats per year starting in 2012. The submarines are built jointly by General Dynamics Electric Boat Corporation and Northrop Grumman Shipbuilding under an arrangement in which each shipyard builds portions of each boat. acquisition. a new class of nuclear-powered attack submarines designed for the Navy’s evolving post-cold war requirements. from design to sea trials. Navy officials approved the plan in April 2006 and Electric Boat selected Booz & Company as the lead consultant for the effort. organizational structure. The result was a comprehensive set of improvements in management. working side by side with senior leaders from the Navy and Electric Boat. Because it represented a departure from traditional Navy submarine construction. acquisition and sourcing. which delivered its first ship in 2004. This goal represents a unit cost reduction of nearly 20 percent. Booz & Company experts. charted a course that fundamentally transformed the entire submarine acquisition process. ISSR Process Enables Virginia-Class Submarine to Hit Cost Target Booz & Company delivers a ground-breaking cost reduction approach applied to building submarines in the Navy’s Virginia-class (SSN-774) program. and labor efficiency. represents a successful partnership between the Navy and industry in achieving the affordability goal for the procurement of a planned SSN-774 class of 30-plus submarines through 2020. Realized (ISSR) costs. The Virginia-class submarine program. long-term plan for permanently reducing costs of each submarine to $2 billion per boat (2005 dollars). Within 10 months. A Ground-Breaking Approach Electric Boat. 8 Booz & Company . To support the acquisition of these submarines within its budget plan. and technical processes that have enabled PEO-SUB to reduce estimated program acquisition costs by $3. the prime contractor for design and construction of the Virginia-class submarine program. Systemic. cycle time. A New Class of Submarines The affordability of ships is a key concern of the Navy if it is to be successful in its plan to recapitalize the fleet. Booz & Company developed a unique approach to Design for Affordability (DFA) based on its ISSR cost-driver framework of Inherent. production. the joint production method would require fresh perspectives and innovative approaches to achieve the aggressive cost-reduction goals. rigorous cost- reduction approach leveraged Booz & Company’s experience across numerous industries to attack inherent and structural program costs in all major areas. Structural. brought on the strategy and technology consultants at Booz & Company to develop a comprehensive.8 billion. Complicating the cost-reduction mandate was the new. including design. joint production arrangement for building the Virginia-class submarines. Equally as important.

space.S. organizational effectiveness. Booz & Company 9 . and national security. and we do not contract with any branch of the U.Booz & Company’s Aerospace & Defense practice works with leaders in commercial aviation. This allows the firm to maintain strict independence and avoid conflicts of interest. We do not compete with our clients. defense. Booz & Company’s consulting teams have supported corporate clients up through the TS/SCI level. operations excellence. government. and technology management. providing support in business strategy. and allows our clients to engage with us as trusted advisors without reservation.

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