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Saturday, April 27, 1996

Alternatives to Downsizing

Alternatives to Downsizing

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

Rotman School of Management, University of Toronto

Financial Post April 27 1996
Downsizing has been a pervasive managerial practice for the past ten years. It has been the unquestioning norm that, if a company finds itself in financial difficulties, THE way out is to downsize by cutting personnel. Yet concern is growing about the human costs that accompany downsizing, and questions are being asked about its impact on the macro-economy: as more people are downsized out of jobs, who is there to buy the downsized companies' products? Furthermore we now know that downsizing rarely returns the benefits expected of it: a downsized firm is often worse placed, not better, to compete.
Does that mean that downsizing is always to be avoided? Clearly not; sometimes it is unavoidable, and in previous articles (Financial Post July 19, 1995; February 24, 1996) we discussed some of the best practice procedures that firms can use to accomplish downsizing effectively. But there are alternatives which it may well be wise to consider first, before taking the risk of joining the 80% of firms dissatisfied with the outcome of their downsizing activities, and we list some of them in this article.

Alternatives to downsizing

Over the past decade, a number of companies have resisted the downsizing fad and made alternative arrangements. These alternatives typically exploit the skills and expertise of their employees rather than losing them and expertise can be lost just as surely in "survivors" as it is in those who leave. The central paradox of downsizing is that the very people who are likely to suffer the job cuts are expected to be the source of accurate information about what to cut. But anyone fearful that their is job at stake is sure to develop rationalizations and good rationalizations about why their jobs should be safe in the coming organizational decimation.
Although alternatives to downsizing do exist, managers, especially in the public sector, need reminding of them as the siren call to downsize dominates the political agenda.
1. Adopt a compensation system similar to that used by many large Japanese firms: a base salary coupled with a bonus based upon profitability and exceeding performance standards. If the bonus in the most profitable year is about 20% to 25% of base salary, then in years that the firm is not profitable, a major cost saving can be achieved without layoff. This tactic requires a proactive stance by the organization. The new compensation scheme has the best chance of adoption when the firm is fairly profitable, not when cost reductions are imminent. In situations where employees are unionized, the scheme can be negotiated as a way of securing job security -- a priority item with today's unions. Unfortunately, for obvious reasons, this tactic is unavailable to public sector managers.
2. Share the cuts across the organization. Rather than firing 10% of the workforce, all members of the organization can take a 10% cut in both hours of work and pay. Perhaps surprisingly, this is the alternative for which employees often vote given the chance. It attracts a number of objections:
If coupled with a reduction in the number of functions performed, or in the services and product lines delivered, it may be necessary to reassign and retrain employees from the discontinued work areas.
Fringe benefit costs will not be proportionately reduced (they represent semi-fixed costs) so that a larger percentage of salary cut may be required. However these costs are, in the short run, likely to be less severe than the costs of downsizing.
Reducing wages renders the firm uncompetitive in the labour market. There are three responses. First, if the firm is considering downsizing then allowing some people to be attracted away helps achieve that aim; although it is the good people who have the most mobility, these are the same people who typically leave when the firm downsizes anyway. Second, it is often better to retrain some of the existing workforce than to go through the expensive and risky process of hiring . Third, the compensation cut is temporary: it can be restored when the firm recovers from the current crisis. Such an action can enhance the attractiveness of the firm in the external labour market.
3. Adopt the "hour bank", a strategy recently adopted by BMW in Germany. A variant of flexitime (also first introduced at BMW), employees who are asked to work overtime probably when the economy is booming can, instead of receiving overtime pay, bank those hours. Then, if the firm has to go to a shorter work week, the employees can draw on their banked hours and receive full pay for working a partial work week.
4. Instead of contracting work out, the organizations can reduce the amount of work contracted out and bring the work "in house." For example components usually bought can be manufactured, services bought outside can be performed in-house. The feasibility of this approach will depend upon the skills and competencies of the current work force as well as the status of existing contracts with suppliers.
5. Services or products currently provided to in-house departments can be sold to outside customers. For example, the cash management services provided by banks, or internal consultants in MIS selling their services externally.
6. Use staff more flexibly. As some parts of the business expand and other parts decline, employees can be transferred from one to the other. This, of course, requires additional training to ensure that the transferees have the knowledge and skills to do the new tasks. Skilled employees can be assigned as trainers to keep training costs down. This may also require the geographical relocation of employees. The strategy followed by IBM for forty years (but which it has recently abandoned), it is still used by companies such as Hallmark Cards, Hewlett Packard, and Federal Express. Often, the firm benefits if it breaks out of the conventional narrow concept of the degree of flexibility that is possible. In some case (e.g., Hallmark Cards) factory employees are retrained for office jobs. This ability to escape conventional views of which person is suitable for which job enables the firm to develop creative solutions to the cost containment problem. In addition, the payoff to the organization from retaining and retraining workers, in terms of increased loyalty from employees, is incalculable. If people believe that there will still be a job for them in the organization, they will be more likely to develop innovative cost cutting ideas. Absent that belief in the ultimate security of their position, such suggestions are unlikely to be broached.
7. Make more use of Part-timers, Sabbaticals and Leaves of Absence. Not every employee wants to work full time. Employees can be polled for the kinds of flexible arrangements they prefer. Some full time employees who are later in their career can welcome the chance of a part-time, part pay schedule. Others might opt to take a leave of absence for a year. Yet others might prefer a deferred compensation arrangement in which they work full time at 80% salary for a number of years and then take a full pay sabbatical. Freeze hiring. Again this means reassigning people to new positions with concomitant retraining costs.
Paradoxically, there are even advantages to hiring when the rest of the world is downsizing:
a. When firms are downsizing and jobs hard to find, the quality of applicants is much higher than at other times in the economic cycle. This is manifested in two ways: first, in the skills and competencies of the employee; secondly in their commitment to work. By comparison, at the peak of the economic cycle good people are harder to find, more expensive, and more readily lured away by better offers elsewhere.
b. The demographic mixture of the organizational "survivors" is not skewed severely. Under most downsizing scenarios, older people leave the organization taking their experience with them. Counter-cyclic hiring can replenish the pool with persons with experience in other organizational settings and avoid dramatic "bulges" in certain age groups which play havoc with succession planning and hiring patterns.
c. The firm is better placed to exploit any upturn that occurs at the end of the depressed phase of the cycle.
There is nothing new in these techniques; they are all in use today. But the downsizing fad has pushed them from centre stage, and the risk is that they are considered too late, if at all. As we learn more about the human, economic and social costs of downsizing it is not hard to foresee a time when downsizing has the same status in society as environmental pollution. Far-sighted firms in the late 60s and early 70s adopted environmental policies which their competitors saw as uneconomic and uncompetitive, and as a result were much better positioned when the environmental revolution struck. Will "free-market riders" companies that unload loyal and dedicated employees onto an unwelcoming labour market face the same stigma in the near future?