Six Sigma Financial Savings

Saving Money

The projected financial savings must be analyzed by the Project Manager in conjunction and validation from a Controller or a financial representative.

A project does not have to contribute to ROI or directly increase revenue to qualify as a Six Sigma project. Many forms of soft savings related projects include customer scorecard improvements, loyalty, satisfaction, risk avoidance, and cost avoidance.

Some of the guidelines below may fall under both categories of hard and soft savings in different percentages. Each company may categorize them slightly different. It is important to understand and adhere to your company reporting guidelines.

Before a project begins, a preliminary estimate of the hard and soft savings must be determined and agreed upon by the BB/GB, financial representative, and the MBB or representative of Upper Management.

The GB/BB should possess a firm understanding of financial relationships, variances, and projected impact of their project. The reported savings may be audited therefore tracking accuracy is critical.

It is equally important to analyze the financial savings and costs by financial reporting period.

If the team spends $5,000/month on devices, research, and programming which in turn saves $20,000 in the same month, the net savings is $15,000 in that month.

HARD Savings

Hard savings means there is a direct flow to the Profit and Loss statement (P&L).

  • Moving from one operation to less expensive operation.
  • Permanently remove labor, wages, benefits, etc.
  • Sell a building, or end lease/rent real estate.
  • Eliminate direct material costs or reduce to lower cost level.
  • Reduction in insurance premiums.
  • Reduce indirect materials cost or eliminate the use.
  • Reduced inventory levels of product or material, or reduce cost of carrying the same level, often at the WACC.
  • Sold equipment directly related to project efforts (must exceed Net Book Value in some cases to be counted as savings. Some will consider these sunk costs so any sale is savings).
  • Overtime reduction.
  • Eliminated sorting by instituting poka-yoke to prevent defects.
  • Utility or natural resource reduction or elimination.
  • Scrap dollars reduced or eliminated.
  • New product revenue.
  • Eliminate storage fees
  • Reduction annual maintenance fees from one year to the next
  • Eliminate off-site storage fees after a 5S event
  • Getting higher amount of credit for recycling efforts such as selling used oil, used packaging, used pallets, or scrap metal.
  • Selling back spare parts that have already been expensed (sunk costs). The P&L impact is the sale price minus the remaining net book value so be careful it could result in a P&L loss.
  • Taking advantage of a payment term discount when the savings exceeds your company's weighted average cost of capital (WACC) or also known as the hurdle rate. However, this impacts cash flow and working capital so this should be negotiated with approval of Finance.

SOFT Savings

Soft Savings do not have a direct impact on the P&L.

  • Intangible savings.
  • Improving 5S score of an area.
  • Reduce RPN on PFMEA for particular failure mode Improved customer/employee satisfaction.
  • Reduced insurance levels due to reduced hazards, exposure, or frequency. (This could be hard savings if cost of insurance are reduced too).
  • Shift work task of employees but overall hours worked are not reduced.
  • Improve service level (unless it can be documented that it directly related to new sales or profit).
  • Improved ergonomics or environmental, health, and safety conformance (may be hard savings if it directly avoids a fine that has been accrued for).
  • Reduced walking distance of an operator unless direct savings can be tied to this.
  • Alleviated floor space or machinery but it is not sold or used to produce new income.
  • Avoiding the purchase of additional planned equipment or material.
  • Future manpower need reductions.
  • Improves morale of workforce or customers.
  • Reduce projected warranty costs.
  • Adding a longer warranty .
  • Working with supplier to hold spare parts for JIT delivery
  • Adding a discount payment term option in addition to the existing fallback payment option. Such as adding a 2% N15 to standard N45 terms. If your company takes advantage of this discount it will be a hard savings as indicated above. However, it will negatively impact cash flow and depending on your companies WACC this may or may not be a good option.

Working Capital (CASH FLOW)

Some projects may have a problem statement that involves improving working capital or cash flow. Almost every Six Sigma project has some impact on working capital.

Some areas to be aware of the could help your project deliver a bigger reward is to improve these areas that impact working capital.

  • Extension of payment terms
  • Delaying payment of purchases, such as going to expensing upon receipt to consignment (expensing upon use)
  • Improving time to get receivables
  • Reducing your company's WACC through interest rate reductions, etc.


One simple calculation to determine the impact from a change in payment terms is shown below:

Annual Spend / 365 * # of days increased (or shortened).

If Supplier A was at N45 (net 45 days) and the annual spend is $15,000,000 and your team negotiates N60 terms then the calculation is as follows:

$15,000,000 / 365 * +15 days = $616,438 annually

An additional $616,438 of cash (working capital) is available to put towards debt or fund other investments that wasn't before.

If that money is put towards paying down debt, then the hard savings may be estimated by taking the savings * your company's WACC.

Assume the WACC is 10% for your company then the hard savings can be estimated at $61,438.

The is a very simplistic estimate and each company will have specific guidelines and exceptions. This information is intended to spawn ideas for your team to deliver more results and value.

Keep in mind sometimes payment terms may be negotiated lower thus negatively impacting cash flow in favor of a piece price reduction that is more than overall favorable.

Typical Financial Reporting Rules

Six Sigma financial reporting is necessary to show the impact on the P&L of a respective business unit, facility, and entire company.

Each company will need to define the rules and guidelines for accountability, accuracy, and consistency.

The plan should include:

  • Standard definitions and rules
  • Roles and responsibilities for all parties involved
  • Hard savings versus Soft savings
  • Understand of working capital impacts
  • Quick method to report savings, validate, and upload (if necessary)
  • Costs to be included in overall project impact
  • Reporting times and reporting calendar
  • Exchange rate rules
  • Clarify conflicts in savings
  • Understand what levers are most important in negotiations

Often times many departments are accountable for generating savings and Six Sigma is certainly one of them (others may be Supply Chain and Human Resources).

Since teams are meant to be cross functional, there will be instances where teams have members of two or more of these departments and all are looking to report savings. There should be a policy with examples to guide the savings distribution process.

Their should be a database with all projects and their status relative to their FINANCIAL contribution: For example, a project may be closed but the company allows savings to be reported for 12 months since the first month of savings.

If the savings grow over time then and uniform distribution of the full savings rate per month * 12 should be given credit.

Finance responsibilities

  • Quantify the savings being generated by the project.
  • Determine how to handle Balance Sheet reductions, typically these are not hard savings.
  • Determine if savings are hard savings or soft savings.
  • Ensure that the realization of the savings can be tracked.
  • Ensure that the CFO(s) (or Upper Management) agrees with the figures.
  • Ensure that the reported savings can be audited.
  • Ensure the hard savings are reflected in future budgets.

Future Value of money

Calculating the Future Value of money is an important concept to project a future amount based on inputs of expected interest rate, number of time periods, beginning amount, and payments for the period. (assumed constant over each period).

The following is simple example done in Excel with the following assumptions:

  • 5% annual interest rate
  • Plan to make 20 payments at end of each year for 20 years.
  • Using Excel means that a 0 is used for this input.
  • The amount of the payment added at the end of each year is $2,500
  • The amount at the beginning is $10,000

The answer is $109,198. The ability to run scenarios with money that is freed up from a project is useful to help make investment decisions.

This obviously has a very practical use in personal lives as well. The above example is similar to a savings plan for a child's college tuition.

The picture below shows how to enter into Excel.

Using Excel to calculate Future Value

Project Contract template

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