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Why Deep Layoffs Hurt Long-term Recovery

November 25, 2001
Related Topics: Downsizing, Layoffs, Featured Article
When Wall Street gets anxious, corporate America gets lean. That's why nearly a million jobs have been cut nationwide this year, according to outplacement firm Challenger, Gray and Christmas. Even before the terrorist attacks, the numbers were staggering: 32,000 at Motorola, 22,000 at LM Ericsson, 20,000 at Lucent, 6,000 at Cisco, 4,600 at Gateway. Then in September, as airline stocks plunged and flight schedules were slashed, Boeing and major carriers cut more than 100,000 jobs -- the majority of the total job cuts by all U.S. employers in recent months.

After a period of near-manic employment, the country is in the midst of major downsizing. The list of companies shedding jobs is long and varied, with manufacturing, technology, and transportation hit hardest. The magnitude of the cuts was unexpected, but the cuts themselves were not. Kenneth Button, a professor of public policy at George Mason University in Fairfax, Virginia, says that even before the tragic events of September 11, most airlines had plans to cut back.

Unlike economic contractions of the past, the current downturn hit fast and hard. Companies have responded with swift cuts to satisfy investors. Research demonstrates, however, that although layoffs please some in the short run, effectiveness is minimal over the long haul.

In the early 1990s, layoff announcements created a very small lift -- less than 1 percent -- in relative stock-price performance. Companies that laid off 15 percent or more of their workforce during that recession performed significantly below average in the following three years, according to a survey of 288 Fortune 500 companies by Bain & Company, a Boston-based strategic consulting firm. Companies that announced repeated rounds of layoffs did even worse.

In fact, much of the long-term effect of these current cuts will be negative, says Will Gordon, vice president of the management-consulting firm Adventis in San Francisco. Referring to US West (now Qwest, a sibling of Verizon) in the early 1990s, Gordon says the company "moved very swiftly to reduce expenses in their network operations, laying off many hundreds of people -- the network operations people, the guys in the vans, the pole climbers, the central office technicians."

At the same time, many state legislatures lifted earnings caps that then existed, allowing companies such as US West to earn as much as they wanted on the basis of certain performance hurdles. But because it had idled so many workers, US West failed to meet performance measures and was fined tens of thousands of dollars. "The company's recovery was painful," Gordon says, because the layoffs caused serious damage to labor relations with the company's largest unions, resulting in US West's first major strike a year later, when 34,000 workers walked off their jobs.

In order to shore up performance levels, US West had to hire contractors at "significant expense to fill crucial customer service and technical roles," Gordon says, adding that service delays and disruptions eroded consumer confidence.

When management commits to sweeping, often strategically misguided layoffs, they frequently look for answers to their financial woes internally, rather than externally. That is a crucial mistake, Gordon adds. "They look to their culture, history, and values as if the marketplace had no bearing on the answer. They whack 10 percent from all departments -- fast and furious but fair, they think. It's unhealthy, because the marketplace doesn't value all parts of a company equally, nor every product or service. They wind up taking people from key functions." He says the problem is compounded because the company can't deliver its most valuable products to its most valuable customers.

Paul Platton, national director of strategic awards for the global HR consulting firm Watson Wyatt in Washington, D.C., says many of the cuts at tech companies this year were made before management had any real understanding of their own core business. "The management group typically isn't sure who is valuable and who isn't, and makes layoff decisions based on finances, rather than knowing what functions and processes give a business its competitive advantage," he says.

The layoffs and furloughs at airlines, however, are different, says Bruce Hicks, president of Darcy Communications in Houston and an airline industry consultant for over 25 years. "Many of the jobs they are cutting go hand in hand with the level of flying. If you are flying 80 percent of your planes, you don't need 100 percent of your airplane staff."

Button, who also serves as editor of the Journal of Air Transport Management and is the author of Air Transport Networks (Edward Elgar, 2000), says the airline industry is the least profitable sector of the economy, and that it had a very poor performance last year. "They've had the economic downturn and trouble with (striking) pilots to contend with, so they were planning to slim down anyway. But clearly not on this scale."

Mark Slitt, a spokesman for American Airlines, says the equivalent of 20,000 jobs will be eliminated. The airline had no fixed plans for layoffs before the tragedy, he says, but the current cuts are a part of the airline's strategy to save money and will be permanent. "When conditions are bad, layoffs are something a company looks at to cut costs. We're seeing a drastic downturn in passenger volume, and American Airlines had a bad year financially anyway."

Unless layoffs are leveled across the board, the main targets are usually support staff and human resources. In many tech companies, which moved quickly to hire when the economy was robust, there are redundancies now in business planning, logistics, customer service, and IT support.

In almost every industry facing layoffs, HR areas that are not focused on the bottom line -- such as recruiting, employee relations, relocations, and training -- are vulnerable. "It's ironic that training is one of the first things at bat," says John Miller, senior vice president of sales and marketing for career management consulting firm Drake Beam Morin in New York.

"Most people undervalue training. Yet, preparing people to be leaders is critical. Cutting training represents a short-term view. It's knee-jerk. Employees feel the organization isn't committed to their professional development any longer. And in the long run, they'll have problems moving the right people into the right jobs, trying to align the skills and competencies of the workforce with what needs to be done."

Another way that companies hurt themselves is with deep cuts into lower and middle management. These are the people who have a substantial amount of organizational memory. They are the managers who have built close relationships with their colleagues and those who work for them.

"Later, when a company starts to redesign its organization in IT, for example, it will need to focus on the strategic decisions of the company. But the managers who handled that were let go, and those who remain are technically skilled but don't understand the big picture," says Diane Tunic Morello, vice president and research director of Gartner Group, Inc., in Stamford, Connecticut.

In the push to flatten and prune organizations, Tunic Morello says, the employees who remain wind up with peers as mentors. These relationships become much stronger than the commitment to the organization itself. "If one person leaves, they can easily take the rest of the group with them."

Experts say this shift in loyalty and the impact on morale is perhaps the most damaging consequence of round after round of cuts. Fred Reichheld, a fellow at Bain & Co., addresses the aftershocks of shattering the bonds of trust between an employee and a company in his books The Loyalty Effect and Loyalty Rules! (Harvard Business School Press, 1996 and 2001).

Reichheld says most businesses don't foresee that they cannot grow a profitable business without loyal customers, and that they can't have loyal customers without loyal employees. "If employees think layoffs were done to prop up this quarter's earnings or stock price, they won't think the company stands for something worthy of their own commitment," he says.

And in a business world where downsizings and organizational flattenings are commonplace, workers are more cynical than ever. Bain & Co. surveyed thousands of employees across the country last summer, asking questions related to loyalty. Less than half said their employers were worthy of their loyalty. "Corporate leaders I spoke with can't explain why loyalty is important, but they know it affects customer retention," Reichheld says. "It's a crisis."

Poorly handled layoffs have an enormous impact on the company's reputation, not only affecting its ability to recruit in the future, but also making it difficult to retain those who are left. "If the person beside you just got shot, you're going to do what you have to do to stay alive, but when the economy turns, you're going to be looking for something else," says Robert Morgan, president of the Human Capital Consulting Group at Spherion Corporation, an outsourcing and recruitment firm in Ft. Lauderdale.

A handful of companies are beginning to take the loyalty factor seriously. Reichheld cites Cisco as an example. This year, after two months of HR-driven strategy sessions that included finance, facilities, and executive management issues, the company laid off 6,000 regular employees and ended the assignments of 2,500 temporary workers.

Rather than cutting a certain percentage of the workforce, Cisco looked at each department, reviewed the area of business that each department served, and determined where growth would be in the future. Each business group made its own layoff recommendations. Employees who were cut were given two months' notice and four months of severance -- a total of six months of pay -- while they searched for other work.

"Then we took our remaining recruitment workforce and directed it toward a full outplacement effort for impacted employees," says Matt Schuyler, the global head of workforce placement and development for Cisco. The company also created a community fellowship program, which gave affected employees the option of being placed with a charitable organization for a year at one-third of their salary. "Hundreds have taken advantage of that. I think it says that even in tough times, Cisco is good to their people. In this way, we aren't worried about how we will ramp up when the time comes. We consider ourselves an employer of choice."

Continental Airlines -- one of the few major carriers that were profitable this year -- hadn't intended to furlough a single employee. But in the immediate aftermath of the terrorist attack, the industry saw a 50 percent decline in demand. Continental decided to furlough 12,000 employees.

"It was a tough decision to make, but necessary to preserve the jobs of the 44,000 other people who work here," says airline spokesman Rahsaan Johnson, "and to make sure there would be a Continental in existence down the road. This is a demand-driven industry, and if demand goes down 21 percent, we aren't going to need as many pilots, attendants, phone operators, and reservation agents."

Continental says that if it had reduced service and employment levels to match demand, the staff reductions would have been much deeper than 21 percent. Johnson says the hope is that in short order, laid-off employees will receive preferential treatment when the airline is hiring again. Continental has also sought the help of businesses in its hub cities, setting up job fairs to help furloughed employees find other work.

"Gordon Bethune, our CEO, came to Continental in 1994, and he was the driving force in helping management recognize that it's the people here who have made Continental what it is today and we owe them a debt," Johnson says. "We recognize that happy employees make happy customers."

Cisco and Continental don't have to be exceptions to the rule, says Robert Morgan of Spherion. "Companies need HR there when planning for those cuts begins." He cautions HR against focusing on personnel issues. Accept that the layoffs will occur and concentrate on minimizing the damage, he says.
"You can't go to management and present your case for limiting layoffs by talking only about the people portion of it. You have to show what the company's turnover rate is, what it costs to replace an employee, and how your company compares with its competitors, and the industry in general," he says.

In order to present its case, HR must get to the discussion table. Will Gordon of Adventis says the only way to insist that management let HR in on layoff decisions is to show that the department understands what drives the company's business. In many companies, HR winds up simply taking orders, he says, and then is left to deal with the bloody aftermath.

"A year from now, when they're told the company needs 2,000 people in 30 days who are trained in a variety of programming languages, HR has to tell management those people don't exist and that they shouldn't have cut them six months earlier," Gordon says.

He suggests that HR managers volunteer to be on steering committees, and seek access to meetings, seminars, and committee activities where major company decisions are made. If you know how your company makes money, he says, you can look at similar businesses and gauge what the marketplace pays for the kinds of employees who are being cut. Then give management estimates of how long it will take to replace each of those people, taking into account the demand for their capabilities.

Even the cost of poor morale can be calculated. DBM's Miller says if you lose a key employee, don't look only at the cost of replacement and lost production. You must also consider the impact on other employees. He says that each key employee lost has about a 1.5 impact on those left. If you calculate the average salary of an employee, you can show in dollars how much the company loses if that employee spends an hour a week worrying about the situation.

Most business consultants agree that it is the job of HR to protect the business in the long term, because that will save jobs.

"If you speak about the bottom line," Gordon says, "everyone will listen."

Workforce, November 2001, pp. 48-53 -- Subscribe Now!

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