Search This Blog

Saturday, February 24, 1996

Alternative Models of Downsizing

Alternative models of Downsizing

Martin G. Evans, Hugh P. Gunz, & R. Michael Jalland

Faculty of Management University of Toronto

Toronto Ontario Canada

Financial Post February 24 1996
The Provincial Government and its many agencies are about to enter a phase of their life-cycle that has, over the past decade, been experienced by private sector firms: downsizing. Despite the official end of the recession three years ago, hardly a week goes by without an announcement about more job losses. Yet experience of private sector organizations with this supposed remedy to corporate ills has, to a surprising extent, been dismal.

Success of Downsizing

Studies by The Wyatt Company show that few downsizing episodes meet their desired goals in terms of increased competitiveness and profitability. The majority of organizations meet their immediate cost reduction goals, but this improvement is not sustained in other areas, especially in the critical long range goals of improved service and increased competitive advantage.
Today, similar issues are facing the public sector as governments begin the difficult task of refocusing on their core activities. This refocusing is expected to result in many layoffs. Does that mean that downsizing should be abandoned? We believe the answer is a qualified no. Research suggests that often the problem does not lie in downsizing per se, but in doing it the wrong way. Just as physicians choose the most appropriate weight-losing regime for their patients -- vigorous exercise may be just right for an obese teenager but disastrous for a middle-aged man with a heart problem -- so wise downsizers choose the most appropriate approach for their organizations.
In a previous article (Financial Post July 19, 1995) we discussed some of the best practice procedures that a firm could use to accomplish downsizing effectively. In this article we will examine the five main differentapproaches to downsizing, reviewing their advantages and disadvantages.
Before doing this we must reiterate two bedrock principles that are essential if downsizing is to be pursued effectively. First, any form of downsizing must be guided by a clear strategic plan that refocuses the organization on its core activities; some of the forms outlined below fail this simple test. Secondly, there must be a sharing of the cuts by the senior management of the organization. It is hard to judge how the Provincial Government scores on these two fundamental criteria. There have been differential cuts to various public sector agencies, but whether these are guided by strategic choices or political expediency is unclear. In the case we know best, the University sector, the situation is clear: the strategic horse is to be preceded by the downsizing cart. The cuts have already been announced, but the strategic review of the University sector is not to begin until early this year.

Alternative Kinds of Downsizing. Organizations can downsize in many different ways.

Many organizations use a combination of one or other of the following approaches:
1. Across the board cutbacks. In this type of downsizing, Each department or unit is expected to cut a fixed percentage of its
The pain is shared across the organization (by organization here, "organization" we can mean any one of include several levels of analysis: the whole broad Ontario Public Sector, it applies to sectors like Health Care or Municipalities, it applies to a single Ministry like the Ministry of Labour, and it applies to or a particular agency like a University; all levels of the organization are affected..
Most crucially, the efficient parts of the organization are hurt more than the less efficient;
the former are already running a tight operation, so have lesser ability to absorb cutbacks. This is the major argument against using this approach.
The downsizing is not guided by a clear strategic plan, a key component of downsizing success.; every unit is affected equally.
There is little opportunity to transfer good people from one part of the organization to another.
2. Early retirement and voluntary turnover. In this type of downsizing The firm offers opportunities to those near retirement
to retire early with no financial cost. Others are offered financial incentives, usually based on age and length of service, to quit the organization. No one is forced to leave. This is often used as a first stage in the downsizing process. It is often followed by a less voluntary process.
This Concentrates the layoffs on those people most willing to experience them.
Higher paid employees at each job level are likely to leave, so the positive cost impact is high -- though it may be offset by the cost of the retirement or severance package.
People with most opportunity to be hired elsewhere (i.e., high performers) take the package and leave.
Concentrated losses may occur unpredictably in one or two parts of the organization with no guidance from a clear strategic plan, leaving major human resource gaps in units with more senior employees.
The downsizing is not guided by a clear strategic plan, every unit is affected, but the effect is based upon age and service distributions in the organization. Those units with more senior employees are most severely affected.
The loss of corporate memory and tacit knowhow is severe.
3. Delayering the organization. A horizontal slice of the organization is removed. Middle
managers are reassigned or laid off and not replaced. This means that one of two things has to occur:
a) more senior managers take over the decision making responsibilities of the managers who have left, or
b) decision making is decentralized to lower level employees.
Which of these is the appropriate action requires careful diagnosis. Research shows that top managers' knee-jerk reaction is to take the centralization option because they worry about losing control in difficult circumstances. This, of course, was the Ontario Government's justification for the centralizing components of the notorious Bill 26. If the layer were unnecessary and the more senior managers were not fully utilized, centralization may be a wise choice then the centralization option can be taken. If, however, senior managers are already working at their full capacity, decentralization of decision making to lower level employees ought to happen. This may well require additional training for these employees, those at lower levels, as well as reassignment for anyone incapable of taking on the added responsibility.
Pain is shared across all departments, though it is concentrated at particular levels.
Decision making, if decentralised, occurs at a more appropriate level -- closer to the customer, to where the variations in performance or demand happen.
The organizational memory and tacit knowhow are diminished.
Top management may become overloaded.
The costs of retraining may be excessive.
Transition costs may be high.
4. Specialised functions which are not part of the organization's core activities (e.g., blood
testing, garbage collection, payroll, data entry, public relations) may be contracted out at lower
cost. In most organizations, a variety of activities are not part of the core activities of the organization and may be contracted out at a lesser cost. Two forms of cost reduction must be identified. First, costs may be reduced because the contractor has may offer major economies of scale, so can provide the service at a lower cost. The second form of cost reduction, (and this the one that seems to be most prevalent), is that work currently undertaken by higher paid union members may be contracted to lower wage-cost non-union firms. A careful diagnosis is required to ensure that a) the activities really can be contracted out with no diminution of the quality of the work; in many cases, a contractor may not understand the true needs of the organization so that coordination and quality control costs may outweigh the anticipated cost savings; b) long term cost savings really can be justified; a lock-in with a contractor may be more costly in the long run as the contractor takes advantage of the specific knowledge of your organization's requirements.
Early and immediate cost saving.
Potential long term cost increases.
Cost of coordinating the activities of a number of subcontractors.
Time required to train subcontractors in your specialized requirements.
Lack of control over subcontractors.
5. Product lines or programs may be dropped. Here the organization takes a hard look at its corporate strategy and asks whether or not it should be in each of its businesses or programs. For those businesses or programs for which the answer is "No," the organization closes them or spins them off as independent companies (whose lower overhead or lower labour costs enable them to be profitable or cost effective). When undertaking the diagnosis of the centrality of the business or program to the organization, one issue is often overlooked: firms sell several products to a single customer. In a number of instances firms have closed money-losing units whose customers then responded by ceasing to buy from a firm's more profitable units -- the closed unit provided a unique resource to the customer. Once that was lost, purchases of items from the more profitable units went to competitors.
Concentration of the disruption in a single business unit.
Close connection to the strategic planning of the organization.
Potential unanticipated business losses.
Only a few people carry the burden.

Research shows that organizations minimize their chances of failing at downsizing by adopting a clear guiding strategy, and choosing the downsizing approach appropriate to that strategy. It is hard to judge how the Ontario Government scores on this principle. There have been differential cuts to various public sector agencies, but whether these are guided by strategic choices or political expediency is unclear. In the case we know best, the University sector, the situation is clear: the strategic horse has been preceded by the downsizing cart. The cuts have been announced using across-the-board cutbacks, which rewards the inefficient and punishes the efficient but the strategic review is yet to begin. Where, we wonder, is the common sense? As the Ontario Government readies its plans for downsizing, it must make its first priority to reestablish Government priorities and to publish those priorities. At present, the only message that has emerged from Queen's Park is of across-the-board cuts, which are well-known to punish the efficient and reward the inefficient (who can afford them better). Without a clear strategic focus, anything else will fail. Once this is in place, a combination of downsizing, reassignment, and changing the mix of services represents the best approach. Will the Ontario Government have the common sense to do this.