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Has Downsizing Missed Its Mark

April 1, 1999
Related Topics: Downsizing, Featured Article
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A whole new business vocabulary has emerged over the past decade as corporations have laid off hundreds of thousands of workers. People have been slashed, cut, eliminated, excessed, rightsized and surplused. Others have been severed, trimmed, reengineered, pared down, terminated, chopped, given early retirement and just plain put out to pasture. The language, if it didn’t represent the jobs of so many people, might actually be humorous.

But downsizing is no laughing matter. It’s a serious workforce issue, and has been for years. Lately, companies across the country have continued to lay people off and downsize with increasing frequency, despite warnings from the human resources community about what layoffs can do to a company’s morale, productivity, customer retention and other important business indicators.

In fact, 1993 had previously held the record for the most job-cut announcements this decade with 615,186, according to results compiled monthly by Chicago-based outplacement firm, Challenger, Gray & Christmas Inc. Last year, there were 677,795 job-cut announcements—a hefty 10 percent more. All this downsizing is now taking place, despite a booming economy, massive hiring activity and other factors that seem puzzling when you look at it from the other end of the decade.

So what’s going on? To gain an understanding of the issues involved in 1999 and looking forward to the new millennium, Workforce looks at the roller coaster ride of downsizing and upsizing—and what companies stand to lose by letting large numbers of people go without having a clear staffing plan for the future in mind.

What’s up with downsizing?
There have been more than 4.6 million job cuts announced in the last decade—with last year topping the decade’s biggest downsizing year ever. Economists at the Federal Reserve Bank of Chicago estimated that in 1995 (the most recent year for which they have data), workers faced a 3.4 percent chance of being laid off. Many employees intuitively feel the odds are much greater.

As earlier in the decade, many factors contribute to downsizing decisions including reorganization, minimizing bureaucracy and eliminating excess. Now business downturns, mergers and acquisitions top the list of reasons for chopping headcount. In fact, merger and acquisition activity is now to blame for one in nine job cuts, according to Challenger, Gray & Christmas. Merger-related job cuts totaled 73,903 in 1998, nearly twice the 1997 total of 37,033.

All this cutting seems puzzling when you look at what’s going on in the economy. For example, President Bill Clinton rang in 1999 with a new report by his Council of Economic Advisers charting the economy’s continued growth over the previous 93 months as the nation’s longest peacetime expansion. In late February, Federal Reserve Chairman Alan Greenspan told the Senate Banking Committee in testimony accompanying the Fed’s semiannual report to Congress that "Americans can justifiably feel proud" of the economy and its performance. Although he warned that a huge trade deficit could spell the end of expansion in the near future, he said that the American "economy’s performance should remain solid this year, although with a slower pace of economic expansion and a slightly higher rate of overall inflation than last year."

Greenspan also noted that the tight labor market could also push the economy’s performance out of whack this year. "Worker depletion [the shortage of skilled employees] constitutes a critical upside risk to the inflation outlook," he added. And with the tight labor market often comes accelerated wage increases, which puts pressure on consumer pricing.

Two other sources echo the same prediction. According to the top 10 trend predictions for 1999 published in the Winter 1999 issue of The Trends Journal (a publication of The Trends Research Institute, based in Rhinebeck, New York), the wave of corporate firings that swept many industries in 1998 will actually build in 1999 as economic recession spreads globally and the domestic economy weakens. The article, titled "Dumbsizing II: The Sequel," further predicts that many companies, obsessed with sustaining short-term profitability at the expense of long-term growth, will downsize to levels not seen since their peak in 1993.

Small and mid-sized business owners also think the economy soon will be hitting the skids, according to the seventh annual "Survey of Small and Mid-Sized Businesses" conducted by Arthur Andersen’s Enterprise Group and the National Small Business United (NSBU). In the survey of 504 small and mid-sized businesses owners, reactions about the current economy were mixed. Most (58 percent) expect the economy in 1999 to remain flat—to neither grow nor decline.

"Many experts consider small and mid-sized businesses to be the ‘economic engine’ of the country," says Nancy Pechloff, managing director of Arthur Andersen’s Enterprise Group. "By their nature, the entrepreneurs who own these growing companies tend to be more optimistic about the future than other business owners. This makes their conservatism even more noteworthy." Adds Todd McCracken, president of NSBU: "The combination of a tight job market, increased wage pressures and the roller coaster ride that Wall Street has become are putting a slight damper on their optimism."

Wall Street analysts still take companies to task for the slightest downturn in profits or not hitting estimated earnings projections—ever concerned about the short-term picture. Many companies are posting record profits. And surprisingly, Corporate America’s high earnings reports also may be attributable in part to the huge downsizing wave. Essentially, organizations want to continue the growth spree and will do everything possible to continue producing hefty earnings. Companies still face crushing cost pressures as they did earlier in the decade. However, increasing globalization is pushing that envelope further.

"Inexplicably, the cuts come at a time when economic growth appears to be virtually unstoppable," says John A. Challenger, executive vice president of Challenger, Gray & Christmas. "It’s apparent that the economic crises in Asia and Latin America, while having little impact on the overall economy, have affected exports and pricing power to the point that companies are compelled to make significant payroll cuts to remain competitive."

Pricing pressures from companies moving business operations overseas to lower labor costs also are having a big effect on downsizing activity back in the States. For example, clothesmaker Levi Strauss & Co., based in San Francisco, announced in late February that it will close 11 of its 22 plants in North America and lay off approximately 5,900 employees, or 30 percent of its workforce in the United States and Canada. The decision came on the heels of a 13 percent sales decline last year. It was the second year of disappointing results at the privately held company. And this downsizing announcement is just the latest in a round of cutbacks for the firm, which laid off nearly 7,400 workers in 1997 (more than a third of its North American workforce) and closed more than 10 plants, and nearly 1,900 jobs in 1998. To ease the situation for those employees whose jobs will be lost this time, Levi’s will be offering its U.S. employees an extremely generous severance package, including three weeks pay for each year of service, extended medical coverage and up to $6,000 toward training, education and business start-up expenses.

Another factor in downsizing decisions is the high cost of labor, which is rising dramatically for many businesses. While a majority of small and mid-sized business owners who responded to the Enterprise Group/NSBU survey say the number of people they employ remained the same or increased slightly in 1998, most say their compensation costs have gone up during the same time period. Seventy-one percent of small and mid-sized business owners report that they haven’t increased their number of employees. However, despite static staffing, 63 percent of business owners say they’re paying more in employee compensation.

As it turns out, downsizing actually is the number one factor inhibiting wage inflation, according to information from Challenger, Gray & Christmas. Once seen mainly as a component of corporate reorganization aimed at achieving a healthier bottom line, the chilling effect of downsizing on workforce wage demands has effectively kept wage inflation in check. Downsizing acts as a valve to relieve a company of unprofitable lines or unwanted employees, freeing resources that can then be used elsewhere for a better return on investment.

Yet it’s very much a push-pull situation because in mass downsizings, companies inevitably let go both good and bad performers because equal opportunity laws prevent discrimination in singling out certain people (such as older employees) for layoff while keeping others in the same business unit. However, downsizing strategies continue to evolve. As management teams fine-tune their reorganization efforts, selective job cuts here and there are becoming a more common practice than massive downsizings. Regardless of the finer points of how downsizing is accomplished, it’s still occurring—and despite massive hiring efforts in other areas.

What’s the lowdown on upsizing?
This is the puzzling side of the story because, despite the downsizing wave, at the same time there’s been much "upsizing" or massive hiring within Corporate America, often within the same firm. For example, in 1996 some of the earlier decade’s biggest downsizers like AT&T, IBM, Boeing, Sears and Xerox, hired a combined total of 63,800 people, having cut a combined total of 249,836 job cuts starting only three years earlier in 1993, according to survey data from Challenger, Gray & Christmas.

Armonk, New York-based IBM, for instance, cut 69,256 people and increased its workforce by 16,000 in 1996. Much of the hiring by IBM was in the services sector, which was an anticipated growth area for the company. "IBM is the perfect example of a company that had to downsize in one area and, at the same time, hire in another to adjust to a drastically changing market," says Challenger. "What we saw at the time in the computer industry was a shift of demand from computer hardware to computer software and services. IBM was reacting to this shift when it embarked on its reorganization strategy."

An annual survey by New York City-based American Management Association on downsizings for the year ending June 1998 showed that although downsizing activity was increasing, so was hiring activity. Some 41 percent of the companies in the survey (which represents one-fourth of the U.S. workforce) eliminated jobs—the same number as in 1997. However, two-thirds of them were concurrently creating new positions. The AMA defines a downsizing as a net decrease in the workforce.

And a burst of 1998 year-end hiring activity, which returned the nation’s unemployment rate to 4.3 percent in December, helped produce the strongest peacetime labor market in four decades. For the year, employers added 2.9 million jobs, slightly fewer that the 3.4 million jobs added in 1997.

But there continues to be a severe labor shortage because of low unemployment. The technology industry, for one, is scrambling worldwide to find workers. Many other industries are hard-pressed to keep their doors open because they just can’t find qualified, or simply enough, workers. It seems like an enviable position for a company to have so much work it can’t hire people fast enough. "Paradoxically, while this sounds like a good thing, severe labor shortages can cause more job cuts. If a company can’t accept new business because of a lack of workers or, even worse, if a company loses business because the quality of work suffers from a lack of skilled workers, then that could lead to slowed growth, sinking profits and ultimately cost cutting through downsizing," Challenger observes.

And surprisingly, while the computer industry has been celebrated for its rapid growth and unrestrained job creation, a five-year study released in February shows that this industry has also been one of the top three biggest job cutters. From 1993 to 1998, companies in the computer industry collectively announced 272,891 job cuts, nearly tying second in the ranking of top job-cut industries, according to data from Challenger, Gray & Christmas. The biggest job cuts were from the aerospace/defense industry which logged in 373,278 job-cut announcements.

All this massive hiring and firing leaves you wondering what American business leaders are thinking, and why it’s still occurring in such a tight job market.

Does all the cutting and adding make sense in today’s business environment?
Last time we went through what came to be known as the "churn and burn" early ’90s, downsizing was characterized by many as a bad solution to business problems. It was the beginning of the end of the old-style, paternalistic corporation—and the end to employee loyalty as we knew it. At that point, people still believed in the jobs-for-life paradigm. Getting rid of people was something companies just didn’t do without good reason. Although there had always been layoffs at companies, there had never been so many of them in such a short amount of time.

Because the workforce landscape was changing so fast, it created tremendous social unrest. Society, often through the media, put pressure on Corporate America to find jobs for displaced people. Outplacement services became popular and continue to be a transition step for workers who were laid off or lost their jobs to restructuring. "One of the major differences if you look back eight to ten years ago is that the condition of the job market was clearly different. Back in the early ’90s a person in the job search was anxious to get a job offer. Today, their search time is short because it’s a hot job market, and there’s a greater chance they’ll find a position that’s more aligned with what they want to accomplish rather than being concerned with whether or not they should take the job offer," says Carlo A. Martellotti, area sales director for the midwest office of Drake Beam Morin, a large career transition and career management firm based in Boston.

Downsizing in the early ’90s demoralized people. People this time are feeling the same, and are trying to recover from previous reorganization efforts. They’re still playing catch-up, trying to get work done that was left by others. People are doing the jobs of two or three people. And with the increasing amount of new technology, companies have justified the heavier workload.

According to an article written by Challenger in the October 1998 edition of The Futurist entitled "There Is No Future for the Workplace," technology has already made it possible for American business to become more productive. "Computers are now doing the work of two or three people, helping to keep total wages in check and hold down inflation," Challenger writes. Many people refuse to go the extra mile, realizing they could be spit out from the firm just as quickly as their former co-workers who were purged.

"From my experience in a large health care system, layoffs are deadly to the morale and motivation of a workforce and toxic to an organization’s culture," says a senior leader in organizational development. She says the number of people laid off doesn’t really matter. At her former firm, senior management laid off 65 people out of 6,500 in its first wave of downsizing. "Senior leadership foolishly believed that because this was such a small number, it really wouldn’t have any impact on the total organization. Wrong! A bomb couldn’t have made a larger impact, and that impact has remained over three years later and many more layoffs.

"Unless a company is willing to undertake the hard but necessary work of developing a new contract to replace the old one, employees will just feel betrayed and this shows in many ways including lost loyalty, poor morale, health problems and reduced customer service," she continues. "There is a belief that layoffs should be an embarrassment to the leaders of a company as it shows that they have failed in successfully leading that organization. I tend to agree with that theory."

Rebounding from a job cut has become easier.
In the current downsizing cycle, society realizes most of those people can find another job easily. Perhaps that’s why there seems to be little, if any, public outcry against downsizing. A full 92 percent of job seekers who had been laid off found jobs with equivalent or better salaries in 1998, according to the U.S. Bureau of Labor Statistics based in Washington, D.C. Companies have forced people to be self-reliant.

People aren’t staying with one job or one company as much anymore. Temps are in high demand and can get more pay for their skills as contingent workers. According to the National Association of Temporary and Staffing Services in Alexandria, Virginia, 9 out of 10 staffing firms say that recruiting new employees is a huge problem. "Staffing companies have been running flat-out for over a year to catch up with demand," says Richard Wahlquist, executive vice president.

And in the future, temporary staffing may continue to get more competitive. The U.S. Bureau of Labor Statistics projects 151 million jobs by 2006 and 141 million people employed. As often happens today, many of those workers will be working two jobs. According to Challenger, Gray & Christmas, 8 million people held down more than one job in 1997 compared with 3.8 million multiple-job holders in 1965.

A U.S. Department of Labor survey found that 17 percent of contingent workers had a previous and different relationship with the companies that now rented them. And an American Management Association survey of 720 companies reported that 30 percent had brought back laid-off employees either as outside contractors or as rehired employees.

Although the Hudson Institute Center for Workforce Development in Indianapolis predicts that the labor crunch will loosen up slightly around 2000 because of an economic downturn, the labor shortage overall will continue for the next 20 years, and may actually get worse. This message was delivered by Richard Judy, senior research fellow and co-director of the institute. He believes unemployment will reach no higher than 7 percent in the next 20 years, with lows of about 3.5 percent.

Many people don’t want to be Corporate American citizens at all anymore, and they’re going into business for themselves. Approximately 20 percent of the workforce is now self-employed. Eleven percent of jobless managers and executives started businesses in the fourth quarter of 1998, the highest level since 1996. Part of this may have been because the demand for executives showed a dramatic weakening in 1998 vs. 1997, according to Exec-U-Net’s Executive Market Demand Index. Exec-U-Net is a Norwalk, Connecticut-based career and networking organization exclusively for senior-level employees. Overall growth in executive job demand was only 19 percent in 1998 versus growth in 1997 of well over 30 percent.

In addition, the societal mood has changed. There’s a growing trend toward a more compassionate way of being. According to the winter 1999 issue of The Trends Journal, as the Industrial Age dies, its survival-of-the-fittest philosophy is being replaced by a Global Age school of thought. People are looking for a kinder, gentler organization—even amidst the loss of corporate loyalty—that matches their goals and values. This is why employees are looking at the popular saying "People are our most important asset" as somewhat of a joke. Corporations are saying it. But do they really mean it?

The ‘people as important assets’ mantra doesn’t mix well with downsizing.
From the HR perspective, downsizing at this point on the business continuum doesn’t make a lot of sense. It’s at odds with the "people are our most important asset" mantra so prevalent in today’s business environment. "Small and mid-sized business owners know talented people are their most valuable resource, and recognize that this resource is scarce," says Pechloff, at Arthur Andersen’s Enterprise Group.

Especially in a knowledge worker based economy, it seems strange that a company’s human resources aren’t treated with more value these days with respect to downsizing. An article in the February 1999 issue of CFO magazine points out that where knowledge assets (read: people) are concerned, accounting practice hasn’t changed much over the past several hundred years. Accountants still don’t treat knowledge assets as assets. The article further points out that despite the increasing awareness that the value of knowledge assets now approaches, or even exceeds the value of reported book assets, rolemakers in the United States have largely dodged the issue.

Company leaders seemingly are still using downsizing as a tool to get their businesses back on track with little thought about the long-term effects that such measures inflict on the survivors. Are CEOs driving downsizing because of a boost in personal wealth? Have HR’s gainsharing and incentive-pay programs actually pushed CEOs to downsize to realize quick profit potential?

"While it’s likely that some CEOs will downsize for short-term personal gain, I believe this is atypical behavior," says Jack Dolmat-Connell, vice president and managing director of the Wilson Group, Inc. a compensation and HR consulting firm based in Concord, Massachusetts. "CEOs want to be winners, in both the short-run and the long-run. Downsizing for short-term gain is a recipe for failure, which they intuitively know. Even if the CEO were acting in his or her own best interest, the real money to be made is in the long-term because of the increasing size of stock-option awards. The amount of short-term incentive opportunity pales compared with long-term incentives." One case in point is Phil Condit, chairman and CEO of Boeing Inc., based in Seattle. Condit felt compelled to refuse last year’s bonus because the company was slashing tens of thousands of jobs.

A Wall Street Journal article examining what happened to the stock prices of downsizing firms showed that following an initial increase in stock value, after two years, in two-thirds of the cases, the stock prices were lagging those of comparable firms in the industry by 5 to 45 percent, and in more than half of the cases, stock prices lagged the general market by amounts ranging from 17 to 48 percent. This result isn’t surprising in the context of other studies that show downsizing doesn’t necessarily increase productivity or profits.

Despite this hard data, a recent survey of 75 CEOs by Christian & Timbers, a retained executive search firm based in Cleveland, reveals that 69 percent of those CEOs surveyed think continual rightsizing is the wave of the future. According to Jeffrey E. Christian, president and CEO of Christian & Timbers, "With mergers and acquisitions, changing markets and constantly new technology to contend with, companies today are making continual adjustments to a very dynamic environment."

Most studies confirm that downsizing leaves people bruised and far less productive. It works against the gains leaders often anticipate. In fact, it often doesn’t pay off financially. While this tradeoff certainly fits with fiscal responsibility, this too is short-sighted, according to Dolmat-Connell, because organizations later recognize that they need to rehire in the areas where downsizing has taken place—after having destroyed employee trust in the organization, and lowered their overall value proposition with employees. In many cases, they end up spending more to rehire than if they had left staff in place during the entire period.

Downsizing is a reflex, not a strategic solution.
Downsizing still seems to be more of a knee-jerk reaction than a carefully planned strategy. Thomas B. Wilson, president of the Wilson Group, tells of a company he recently worked with whose first thought during a particularly difficult year profit-wise was to cut people. But it was more expedient to cut materials costs, which in the end, solved the problem with better results. "Ultimately, companies have to turn the corner and look at revenue growth; that’s the name of the game," says Wilson. "They have to align their costs to fit with their growth cycle, but to keep downsizing, downsizing, downsizing is like anorexic behavior."

At SAS Institute Inc., a Cary, North Carolina-based software development firm, they take a different approach to business downturns. "While we’ve been fortunate in our rate of growth (double-digit revenue growth in each of the company’s 23 years), we take a view that goes well beyond monthly or annual benchmarks. Our aim is to take a long-term approach which enables us not to lose sight of our goals despite short-term business fluctuations in either direction," explains David Russo, vice president of human resources. "Part of this long-term focus includes our investment in research and development. Our reinvestment of more than 30 percent of revenues annually into R&D gives us the ability to work on a number of technologies instead of putting all of our eggs in one basket."

In the firm’s 23-year history, it has never laid off any employees—although it doesn’t have a specific no-layoff policy. The firm, which landed in the number three spot on this year’s Fortune magazine list of the 100 best companies to work for, now employs 3,402 employees in the United States and 2,225 outside the United States. The company enjoys only 5 percent turnover, compared to the industry average of 22 percent. What does Russo think HR can do in the business arena to help companies better understand the issue of human talent so downsizing isn’t used as a reflex to business problems? "If you truly believe in employees and invest in them, they in turn will invest themselves in your company’s success. If you have a win-win relationship with employees and believe—all the time, not just in good or bad times—that they’re your best asset, you’ll want those loyal, dedicated employees on your team when times are tough."

He adds: "We also believe that HR plays a vital role in building a healthy company, helping ensure that downsizing never becomes an issue. The value of continuous professional training and communicating business issues to employees offers the organization a more company-educated, more talented employee base. Combined with a nurturing culture, you may find that these loyal employees go the extra mile in doing their part to keep the company thriving. I think this is why Wall Street is beginning to pay more attention to ‘soft issues’ in its recommended picks instead of just focusing on quarterly earnings."

Such a forward-thinking philosophy on downsizing is rare, yet alternatives to downsizing are possible. "If companies are serious about seeing their people as assets and as the key to profits and—as a consequence—about avoiding layoffs, almost anything is possible," says Jeffrey Pfeffer, a professor of organizational behavior at the Stanford Graduate School of Business and author of The Human Equation: Building Profits by Putting People First.

While Pfeffer isn’t saying companies should never downsize, he is saying there’s more than one way to do it. "Even for firms that need to reduce the number of employees, downsizing can be accomplished while still treating people as important assets and maintaining morale and trust. By contrast, other ways of downsizing signal that, whatever the rhetoric, management neither respects nor values its workforce. Case studies show that repeated waves of downsizing are crushing to morale, reduce credibility and trust in management, and make high-performance work practices difficult, if not impossible, to implement."

Rather than downsizing some departments and upsizing others, in many cases it’s more beneficial for the organization to invest in retraining its existing employees, according to Dolmat-Connell. It may be more efficient for employees who are already on staff to learn new skills than it would be to hire new staff. However, this takes a great deal of foresight, something that is all too atypical with respect to workforce planning. Many companies also downsize staff and end up rehiring former employees as contract workers at three times their hourly rate. "This provides inspiration for Dilbert cartoons, but isn’t a financially sound business practice," he says.

Dolmat-Connell suggests that HR still hasn’t been able to adequately quantify the human asset and relay that agenda to senior management teams in Corporate America. Therefore, companies will continue to think of downsizing first when business conditions turn sour. But it’s a dangerous road to travel.

What emerges from this downsizing discussion is that human resources professionals clearly have a role in clarifying the risks involved in downsizing, but also communicate the benefits of long-term staffing plans. There are certainly good business reasons to downsize in certain situations. However, companies that are simultaneously cutting and adding may need to rethink and redistribute their resources more strategically.

Workforce, April 1999, Vol.. 78, No. 4, pp. 31-38.

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