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Downsizing or Rightsizing, What Is the Real Cost?
Downsizing or Rightsizing, What Is the Real Cost?

“In practice, downsizing is too often about cutting your workforce while keeping your business the same, and doing so not by investments in productivity-enhancing technology, but by making people pull 80-hour weeks and bringing in temps to fill the gap.” James Surowiecki

Surowiecki appears to be harsh but he isn't entirely wrong. This is how downsizing usually works yet people still opt for it. That’s because downsizing appears like a bright idea on paper.

It’s simple – fewer employees means less to pay every month. But, it doesn’t always mean more savings or profit. This is why most entrepreneurs regret going this route.

In this article, we’ll talk about downsizing and the impact it may have on your business.

What is Downsizing?

Downsizing can be defined as "the permanent reduction of a company's labor force through the elimination of unproductive workers or divisions."

We must mention that downsizing isn't always involuntary. It's often used to create an efficient business model.

Rightsizing is quite similar to downsizing. It can be defined as “the repositioning of employee ranks to achieve a company's strategic objectives.”

Some people use the term ‘lay off’ to define downsizing. Technically speaking, there is nothing wrong with the term but lay off sounds negative, which is why a group of people are against the concept.

Downsizing – Some Examples

Downsizing has been there for decades. There’s nothing ‘new’ about the idea of getting rid of people that you do not need.

HP recently announced to get rid of about 33,000 employees – 10 percent of its total workforce. Fortune compared it to a 'small city'.

CEO Meg Whitman called this 'pruning'' necessary to keep the company afloat. This wasn’t the first time the company announced a major lay off, it has lost over 80,000 employees since Whitman came on board.

But, HP isn’t the only name that has opted for this strategy. Companies around the globe downsized in 2008 during the Great Recession. American firms lost more than 8 million workers by 2010. Here are some more examples:

  • Citigroup announced a major lay off in 2008 due to the credit crisis that took the world by storm. It fired 50,000 employees. The CEO said “there is nothing easy about these decisions and the impact on our people. We do this because we must and not because we want to.”
  • General Motors announced 47,000 job cuts in 2009 due to the poor financial situation of the company.
  • Boeing in a surprising move announced a major cut – 31,000 – in 2001. This was due to the slowdown triggered by the changing situation after 9/11.

Downsizing: The Tricky Question

Nobody likes downsizing. Employees do not like to lose jobs and companies do not like the bad press it brings.

There is a reason to believe that downsizing can have a negative impact and some companies can never recover from it. According to reports, downsizing may increase the risk of bankruptcy since it can result in reduced productivity, morale, and customer satisfaction.

This is because downsizing has long-term consequences, which is why companies prefer to stay away from downsizing and use other tricks such as reducing work hours, pushing employees to opt for early retirement, and giving the option to choose unpaid days off.

Downsizing often results in disability claims and lawsuits. Plus, finding new or skilled employees can turn out to be challenging, expensive, and time-consuming.

It’s evident that companies believe in reducing expenses and getting rid of employees, but they’re scared of the impact that may have on the rest of the workforce. Hence, they find other ways to get rid of the employees they do not need.

An article published in the Journal of Business Research tested the impact of downsizing. The report highlighted the following points:

  • Businesses lose valuable knowledge and talented employees
  • Remaining employees may not be able to handle the work
  • Remaining employees may not have enough time to gain new skills and some may lose trust and motivation

According to the report, having physical and financial resources does not replace the downsized employees since they fulfilled several roles as knowledge bearers, cultural contributors, and workers.

It is important to know if short-term goals are worth it. The company needs to be very thoughtful when answering these questions:

  1. Who needs to let go?
  2. What about severance pay?
  3. What kind of notice will be given?

Different departments including the legal department need to work together to reduce the risk of litigation. Downsizing, in most cases, is executed with a compassionless and brisk efficiency that often leaves employees angry and upset.

But Not Everything Is Bad

Of course, downsizing can turn out to be beneficial but most experts believe that these benefits are short-term.

The trend started in the late '70s due to increased competition from imports. Automotive, steel, and electronics were some of the most widely hit industries. Back in the day, the US automobile manufacturers had about a $1,000 cost disadvantage compared to imported Japanese cars.

Even though only a small percentage of this difference could be attributed to labor cost, companies decide to downsize since it was the easiest option and hence the trend picked up.

Downsizing can be beneficial if you:

  • Only fire people you do not need
  • Still have the same or higher level of efficiency
  • Restructure accordingly

Advocates argue that downsizing has helped the US maintain its position among stiff competition. They believe that despite the increase in downsizing, the overall economy has also grown.

Some believe that more companies would shut down without downsizing, which will impact the whole economy. There is also an argument that technological advancements result in more job declines than downsizing. Plus, there is also the possibility of employees wanting to learn more and improve their skill set in order to increase the chances of finding a better job or not getting fired.

Downsizing The Right Way

A company should stay away from downsizing as much as possible, but if there’s no way out then downsizing should be performed carefully. The best way to avoid pitfalls is to:

  • Allow legal concerns to take part in the process. Employment laws must be taken care of.
  • Give a notice to help employees plan their lives. You must respect their dignity.
  • Understand the effects of downsizing and show empathy.

Moreover, before you decide to downsize, think about the actual problem. Do you really have too many people or you're only making too little profit? A layoff should never solely be used as a cost-cutting measure. You cannot throw away talented individuals just to reduce expenses.

If your business lacks revenue or the ability to generate revenue, then getting rid of intellectual capital will only worsen the situation. Do not go after the headcount but look at the business plan to identify if you truly have too many employees.

Be clear about how your company will look and perform post-layoff. If there is no clearly defined vision among the team then the past will most probably sabotage the future and you will never be able to come out of the mess. This is exactly what happened with Scott Paper when it conducted a major layoff in the 90s. The company could not handle the situation and failed to introduce new products and was eventually bought out by Kimberly-Clark.

But, there are some good examples as well. When Southern National Corporation and BB&T Financial Corporation merged, the company decided to eliminate redundant positions through a hiring freeze.

HP was also known for implementing a unique fortnight program that allowed employees to take one day off without pay until revenue increased.

So What’s The Bottomline?

Downsizing isn’t a route one should go since it requires a lot of effort and work and success is not always guaranteed. Many companies have gone bankrupt after downsizing.

Companies should work on finding alternatives. Japanese firms, for example, appear to be doing well. They have a unique compensation system where employees get a bonus in addition to a base salary based on profitability and performance standards.

Another strategy involves sharing cuts across the firm instead of firing employees. For example, instead of getting rid of 100 employees, all employees can take an 8 percent cut.

BMW in Germany has adopted the 'hour bank' policy where employees are paid according to the hours they work and are asked to work more when there is demand and work less when there is less demand.

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