Alternatives to Layoffs

Layoffs, a short term fix, detrimental to the company, should be the last resort

woman employee leaving office with box of belongings
••• JGI/Tom Grill Blend Images/Getty Images

Layoffs are done to save money. Unfortunately, they are usually a short-term fix, detrimental to the company. So why do so many companies persist in using layoffs as a first choice for cutting costs, and what are some of the alternatives.

We Missed Our Numbers

Sometimes things don't work out as forecast. Clients delay purchases. Suppliers raise prices. Competitors steal market share. Quarterly, at least in the US, companies have to face the forecasts they made. Public companies have to face Wall Street too. Investors don't like surprises. They don't value executives who miss their numbers. And they expect quick and strong action to address the issues.

Unfortunately, the very pressure to take action quickly ultimately works against their own best interest. Pressing for immediate action forces executives to cut costs, as opposed to raising income. Foolishly, therefore, reducing the workforce has become an automatic response for companies who need to cut costs to look good for Wall Street. It's wrong. It's counter-productive. Layoffs should be a last resort, not the first choice for skilled executives.

Job Cuts Don't Save Money

In "Organizational downsizing: Constraining, cloning, learning" (McKinley, William, Schick, Allen G., Sanchez, Carol M. (1995) ISSN: 0896-3789) the authors point out that "while downsizing has been viewed primarily as a cost reduction strategy, there is considerable evidence that downsizing does not reduce expenses as much as desired, and that sometimes expenses may actually increase. More than thirty years ago, James Lincoln warned that the costs of layoffs generally outweigh the payroll savings to be gained from them."

Job Cuts Reduce Performance

John Dorfman, a Boston-based money manager, analyzed the post-layoff performance of a sampling of companies. The review included 11 to 34 months of data for the companies sampled. His article Job Cuts Often Fail to Bolster Stocks reports an average performance gain by the companies that had announced job cuts at 0.4% while the performance for the S&P 500 during the comparable time period was a gain of 29.3%.

Prize-winning photographer Gary Green was laid off by the Akron Beacon but remained a shareholder in Knight Rider, the company that owned the paper. He addressed the annual stockholder meeting saying "As a victim of the layoffs, I am the one suffering today. However, the shareholders are the ones who will suffer in the long run. The talent will leave. Circulation and revenue will continue to drop. The shareholders will be left with a worthless product. Is this the future we want for our company?"

Protecting Your Investments

Many companies fail to realize that they have a tremendous long-term capital investment in their employees. While wages and benefits clearly are an expense item on the budget, they should be thought of more as payments on the capital of employees skill and dedication. The same care, thought, and rigorous analysis should be given to decisions on the capital invested in employees as would be to a factory or a production line. A factory can be reopened, or a production line restarted, much more easily than employees trust in their management or faith in the company's vision can be restored after a layoff.

Layoff announcements speak of jobs eliminated or percentage reduction of the workforce, but behind those pretty words are are the company's people. Whether the company is able to continue to compete effectively, is able to fulfill the promise the layoffs make to the investors, will continue to generate the innovation required to survive in the marketplace depends on those people.

It depends on those who are left after the layoffs, those of them that choose to remain after the layoffs are completed. It depends on how they feel about how others were treated and how they themselves might be treated in the next round of layoffs, which may come.

A company may lay off employees it considers the low-end producers, but in doing so it creates a climate of personal uncertainty. That uncertainty causes others to leave. The first people to leave due to uncertainty in the company are the best people because they can always get another job somewhere else. The climate of uncertainty that follows a layoff, therefore, always guarantees a reduction in the quality of the staff, not just the quantity.

Companies contemplating layoffs need to consider more than just the hoped-for cost savings from a layoff. They need to consider, and plan for, the less obvious effects. They need to consider the reduced morale and the reduced performance and innovation it will bring. They need to consider the reduced quality of the company's overall workforce that will result.

Restructuring Does Work

There are alternatives to across the board layoffs that do work to reduce costs. One of the most effective and most immediate of these is restructuring. Often, when job cuts are undertaken in order to pacify the investors, the announcements talk about the cuts as part of a "streamlining" or "restructuring", but they refer only to the people involved. There are other aspects of the company's business that need to be restructured as well. These often include things such as closing obsolete plants or branches, administrative overhauls, selling non-core operations, or improving internal processes.

Dorfman believes that when a stock shows a gain over the year or two following cuts, it is often the non-layoff elements in the restructuring package that deserve the credit. Arguably, these kinds of things take longer to affect the bottom line than cutting out the salaries of the laid-off employees. However, when one considers the costs of severance payments to those employees, continued health care payments for some, increased unemployment charges as a result of the layoffs, reduced productivity following the layoffs, etc., that may not be valid.

Typically companies will take a "one-time charge" against earnings to cover the layoff, which clears these costs from the books quickly. In reality, the change won't make any difference until at least the next quarterly report. In that same period, other, slower changes could have been implemented and have shown similar cost reductions. The difference then is mainly cosmetic. Making the numbers look good quickly (layoffs) so Wall Street is happy versus the slower method of restructuring the business that preserves the company's significant investment in its employee capital.

Manage This Issue

Find and fix the problem. Don't just cut jobs to look good to the investors. Make the changes that will make the company better instead of damaging the very thing that made the company successful in the first place, its employees.

Restructure the business to make it better. If a function is not contributing to the company's success get rid of it but cut from the head down, not from the bottom up. Make sure remaining employees clearly understand the selection process that was used to cut under-performing units or functions no longer sufficiently valuable to the company. If you have any questions or comments about this article, or if there is an issue you would like us to address, please post them on our Management Forum to share with the entire group.