The first cut is never the cheapest one

The first cut, the one that often seems cheapest, is rarely the best choice for businesses facing financial difficulties. Picture a football club struggling in its season; attendance is low, sponsors are questioning, and the accounts are red for the first time in a decade. The board decides to implement a plan, cutting daily training sessions and reducing the academy and some contracts, hoping to balance the books.

However, fans would not support this decision, believing instead that the team needs to improve before the next match, regardless of the cost. This same logic applies to nearly every company facing a downturn, where revenue declines but costs remain the same. Within a week, the expense with no visible impact on the bottom line is the first one cut.

Nobody would suggest telling sales teams to stop selling because sales are down, but they often do the same to developing the leaders who need to sell, decide, and adapt during the downturn, with little resistance. This happens because expenses are easy to cut, while investments are harder to justify. Brand budgets and R&D budgets are defended as valuable assets, even in a bad year, on paper.

Interbrand's valuation practice is built on the idea that a brand's worth is in the future earnings it can generate, not its historical cost. Developing people who will lead the business has not received the same benefit of the doubt, as there is no clear way to measure its impact on future earnings. The reasoning behind this belief is not new, as demonstrated by an old story from a big investment bank.

A young manager's bad decision reportedly cost the company millions, but when he was kept on, the managing partner defended his decision by saying he had spent millions developing him. Nobody can pin down the exact figure, but the logic remains the same: a mistake is a cost, but a leader who has learned an expensive lesson becomes a more valuable asset.

Most leaders would agree with this instantly, but they don't run their budgets as if they believed it, as the belief is easy and the accounting is hard. The best example of this behavior is the Post cereal company in the early 1930s, when it cut its advertising during the Great Depression while its rival Kellogg doubled its advertising and invested in radio, resulting in a 30% profit increase and market leadership for Kellogg by the time the Depression ended.

Procter & Gamble also followed the same strategy at the same time and saw similar results. During the 2007-2008 economic downturn, US companies cut their spending on developing people by 11% per employee, while companies that invested heavily in developing their people delivered an average total shareholder return of 36.9%, compared to 19.8% for firms investing the least.

This pattern of cutting investments in the future while protecting expenses with no impact on the bottom line persists today, even with the advancements in AI technology.