What does chaos cost your company? How to calculate the hidden costs of errors, delays and lost enquiries

Operational chaos is a situation in which the same work is done in different ways, data sits in several places and matters get stuck between departments. Its effects are visible, but spread across many accounting items.

A corrective invoice reduces sales revenue. Interest on a late payment goes into finance costs. Overtime goes into payroll, and a departing employee into recruitment and training costs. Each of these items looks like a separate, minor problem.

That is why the management board discusses quality, staff turnover and payment terms at three different meetings. Often all three problems have the same cause: a disorganised process.

The table below breaks the five items down into formulas and suggests where to find the data. Delays have two rows, because late payments to suppliers and late invoices to customers are calculated separately. Calculate them all once, then focus on the largest.

Time spent on duplicated work is calculated in the same way as any manual work time: number of repetitions × minutes × hourly cost. We describe the method in detail in a separate article on measuring the time spent on manual processes.

Take a hypothetical services company with annual turnover of PLN 18 million and an average margin per order of 25%. All the figures below are assumptions for the example, not market data. The table under the text summarises the results.

Errors: 280 corrections and complaints a year, at an average of PLN 600 each for handling time and customer discounts, gives PLN 168,000. Late payments: 120 invoices paid after the due date, each with EUR 40 compensation, or about PLN 170 at an exchange rate of PLN 4.25. That is PLN 20,400, provided suppliers claim the compensation.

Late invoicing: the company issues invoices on average 7 days after completing the service. It is as if it were permanently waiting for about PLN 345,000 (PLN 18 million × 7 ÷ 365). At a cost of money of 9% a year, such as the interest on a working capital loan, this means about PLN 31,000 a year.

Duplicated work: measurement showed half an hour a day per person, so 40 people × 0.5 h × 220 days × PLN 70 gives PLN 308,000. Lost enquiries: 120 enquiries a year went unanswered for two days, and the company usually wins one in five. That is 24 orders at PLN 20,000 each, or PLN 480,000 in revenue, but only PLN 120,000 in margin.

Departures: exit interviews show that three departures in the year were linked to frustration with how work was organised. At a replacement cost of PLN 25,000 per person, that gives PLN 75,000. The total comes to about PLN 722,000, or about 4% of turnover.

The calculation in the example does not require an external audit. It requires someone to lead it, access to the systems and a few conversations with managers. Below is a three-week plan.

The second week usually takes the most time, because the data is spread across different systems. So it is worth involving someone from accounts from the start, who knows the software and where to look for corrections.

An exaggerated figure makes an impression at the first meeting, but quickly loses credibility once the CFO starts checking it. The mistakes below are the most common in calculations of this kind.

It is better to present the management board with a cautious figure that anyone can check than an impressive one that nobody can defend.

In calculations of this type, the largest items are usually linked to the four areas listed below. That does not mean your company will be the same, so choose only after you have done the calculation.

Each of these areas can be improved in stages. The first stage often does not need a new system, just a clear rule and a single place for the data.

A short, four-slide presentation works best. On the first: the total cost of chaos broken down by item, with the data source for each. On the second: a cautious estimate of how much of it can be recovered within a year.

On the third slide, show the plan for the first process: what will change, who is responsible and what measure you will use to check the effect after three months. On the fourth, set the cost of the changes, broken down into its components, against the expected benefit.

Show cost savings and recovered margin separately. The CFO judges how certain each figure is differently and will want to see them apart.

Some effects of chaos are hard to express in zlotys. A key customer who has received a third wrong invoice in a year may not leave straight away, but will look at competitors at the next tender.

The same goes for the management board’s time. If the CEO settles disputes every day about who was supposed to do what, they are not working on growing the company. Do not add these costs to the calculation, but list them separately in the presentation as risks.