The Unintended Consequences of Cutting Workers as a First Choice

by Dean Prigelmeier, President of Proactive Technologies, Inc.

Layoffs have often been employer’s “go to” solution during market gyrations. So much so that activist shareholders consider it a normal practice and implement it as a first choice, along with forcing out the most seasoned of management since they are usually the highest paid based on tenure.

Especially since the 1980’s, changes in the financial markets purpose – from sources of needed capital to direct micromanagement of portfolio firms – have turned an infrequent and considered benign practice into a common occurrence. Private equity groups and hedge funds, with just minority positions, rally to send in “change artists” that have a single-mindedness towards cost-cutting to show investors immediate results that make a share price grow. After all, the investment firm may only hold on to the acquisition for a short while until they have gotten all they can, so gutting a holding’s long-term capacity to look more efficient and profitable short-term appears to be just a means to an end. It can also be an effective way to get rid of a brand’s competition by buying them up and breaking them apart in the name of “prudent investment management.”

To the company, layoffs have an often underestimated but always predictable negative ripple effect. As with turnover, layoff cost effects permeate the organization on many levels for an indefinite period of time. The investment in recruitment, selection, training and retention of workers is out the window, leaving behind the opportunity costs of lost capacity and institutional memory to kick in. After an investment group moves on doesn’t mean the shell of a previously profitable company can rebuild itself and continue. Pushed back, perhaps decades, in their development and now bled of its operating capital while the market has moved on, the firm’s challenges to regain its footing can be daunting. There are numerous examples of legacy brands struggling to come back – shuttering stores and factories in a desperate act to save themselves after being forced to cut into the bone and losing their compass.

The ripple continues outside the company’s facility. The turmoil caused to the labor market by such practices is palpable. Workers are reluctant to pursue educational programs that take even a few years for fear those jobs being targeted won’t be there when they graduate but the debt will remain. Families are impacted when the breadwinners can’t keep up with living costs and unexpected expenses. Drive through cities and rural communities and see a growing decay as local discretionary income is diverted from local small business products and services to non-discretionary and necessary expenses often paid to multi-national corporations.

In an article entitled Cutting Too Much: When HR Needs to Pump the Brakes on Layoffs published in Human Resource Executive by Peter Cappelli of Wharton, the author challenges employers on the long-standing practices of “laying off first, determine impact later.” Cappelli cites an example “I suspect that few people know of Stellantis, the holding company that now owns brands like Fiat, Peugeot, Chrysler, Maserati and Alfa Romeo. After being assembled from these component parts, it was (temporarily) the largest auto manufacturer in the world. It has stumbled since then, and according to some analysts, the reason has lessons for all organizations. The list of factors is not too surprising: quality and productivity problems, not producing cars people want and so forth—a pretty sweeping set. Company share price has fallen by half since March, and many executives have left. As is almost always the case with these apparent steep declines, the causes can be seen easily in hindsight.” He continues by contrasting the short-term benefits to the balance sheet versus the long-term loss in capacity, efficiency and work quality with a quote from an industry analyst that sums up the problem: “With a single-minded focus on cost, Tavares [the company CEO] has made Stellantis more efficient than competitive.”  One reason this conclusion is stunning is that it is coming from an industry analyst. They are employed by investment companies, and they have been the players pushing companies, relentlessly, to cut costs. Stellantis has pushed suppliers—hard—and fought them on contracts, as opposed to the Japanese approach of trying to make suppliers partners. It fought the trade unions representing its employees hard on most all fronts. And getting to our main concern, it has staged round after round of layoffs in the desire to get leaner. But the outcome was cars that people don’t want to buy—most notably in the Jeep lineup, which had earlier received a lot of positive attention.”

Author Cappelli summarizes that the Stellantis experience as: “Operating leaner is certainly an important goal. Operating with fewer people can be a good marker for higher productivity, although it can also mean pushing employees harder and paying them less.”

We all have witnessed the effects of short-sighted cuts, some of us may have lived through them. As activist shareholders, through their CFO proxies, have made more and more of the decisions on the future of the company, the focus has seemed to sharpen on what they know best; numbers on a page. The rest of the organization looks at the same situation in tangible terms of value, investments as “works in progress,” while accountants zero in on empirical evidence that often doesn’t tell the entire story.

In an American Machinist article entitled “Continuous Learning in the Shop,” an attempt was made to quantify employee value directly resulting from the employer’s efforts to develop expertise.

• “A trillion dollars. That’s what U.S. businesses are losing every year due to voluntary turnover. And the most astounding part is that most of this damage is self-inflicted.
• The cost of replacing an individual employee can range from one-half to two times the employee’s annual salary — and that’s a conservative estimate.
• So, a 100-person organization that provides an average salary of $50,000 could have turnover and replacement costs of approximately $660,000 to $2.6 million per year.”

These estimates represent the passive development of workers commonly made through informal on-the-job training, which could be substantially lower if a deliberate effort through structured and documented on-the-job training was made.

The shortcomings of knee-jerk cuts in staffing are being challenged more and more. Organizations such as GAAP (Generally Accepted Accounting Principles) are reviewing holes in, and limitations of, practices that only account for labor as “costs” and not as “investments” and “value.” ISO (International Standards Organization) and all of its cousins such as IATF (International Automotive Task Force), AS (Aerospace Standards) and Nadcap (National Aerospace and Defense Contractors Accreditation Program) are requiring employers seeking certification to capture “institutional knowledge” of existing procedures and those who can perform them competently in the event of a disruption in the market in an effort maintain operational capacity and longevity.

Human resources departments can help in times of hard decisions by documenting each worker’s accumulated expertise and corresponding value to offer the decision makers alternative facts to consider other than just cost. Human resource departments need to be the advocate of long-term considerations given the enormous effort they are asked to make to rebuild the workforce after each downsizing.

One seldom hears discussions considering first the selling off of equipment or facilities because of the documented investment made and the historical return. The opposite is also true. We seldom here a discussion about investing a=in new equipment or machinery including the discussion of the investment in the training of workers expected to run them. Maybe considering the wealth each employee embodies as a result of a company’s deliberate development efforts will at least provoke a long overdue discussion on the merits of reducing short-term “labor costs” versus the resultant loss of valuable expertise to run the equipment or operation into the future.

If you recognize these challenges and have shed your fear of even looking for other solutions to increase worker value as an alternative to cutting a valuable asset, check out Proactive Technologies Inc’s structured on-the-job training system approach – the accelerate transfer of expertise® system – to see how it might work at your firm, your family of facilities or your region. Contact a Proactive Technologies representative today to schedule a GoToMeeting videoconference briefing to your computer. This can be followed up with an onsite presentation for you and your colleagues. As always, onsite presentations are available as well.