Do Layoffs Mean You Actually Lose Your Job?Published: March 28, 2001 in Knowledge@Wharton
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No word yet on whether Mickey Mouse has been pink-slipped, but with even Walt Disney announcing layoffs recently, one has to wonder just how deep the cuts will go in a work force accustomed to unprecedented growth and prosperity. Is it true, as the folks at Disney have always said, that ‘It’s a small world after all"?
Yes, and getting smaller, at least among some parts of corporate America. The unemployment rate announced last week for the month of March – 4.3% - was the highest in 20 months and the number of actual jobs lost – 86,000 - was the largest since November 1991. Each day seems to bring another announcement of job cuts, lowered earnings and other signs of economic distress. The damage can be seen across the board – from high-tech to low-tech; from online to offline; from banks and brokerages to media, automotive and consumer goods.
So what’s up with the labor market? Are we all about to lose our jobs? Should we stop spending and start hoarding? Is anyone out there hiring?
Before hitting the panic button, suggest several observers, it might help to look more closely at these recent layoff announcements. "What’s interesting about this downsizing, for example, is that it’s happening so much more quickly than it would have years before in equivalent circumstances," says Wharton management professorPeter Cappelli, director of the school’s Center for Human Resources. "Companies are taking the initiative in laying off workers even before they are experiencing any real shortfalls in their business." The reason, Cappelli says, is that companies "want to send signals to the investment community that they are on top of things, that they can move quickly and be responsive" to changing market conditions.
The danger, he adds, is that these companies will have to hire employees back fairly quickly if the economy doesn’t continue to weaken. Rehiring could be tough in the tight labor market – unemployment is at a relatively low 4.3% - that exists now.
In addition, Cappelli notes, "it’s pretty well-known that companies announce more layoffs than they actually carry out – another sign that they are playing to the investment community. It’s a reminder of the real power held by shareholders, especially institutional investors."
Brian Bushee, an accounting professor at Wharton, wrote a paper three years ago entitled "The Influence of Institutional Investors on Myopic R&D Investment Behavior." Choosing companies that had at least 1% of sales in R&D, Bushee looked at whether the short-term focus of institutions leads U.S. corporate managers to underinvest in long-term intangible products such as R&D in order to maintain strong short-term earnings growth.
"I found that companies were more likely to cut R&D to make earnings targets if they have a lot of high turnover investors owning their stock," Bushee says. "The idea is that investors who trade frequently are very focused on earnings; managers worry that if they don’t meet their earnings targets, it could trigger large-scale selling by these transient investors" and lead to an increasingly depressed stock price.
Bushee’s research also showed that "managers are less likely to cut R&D to reverse an earnings decline when total institutional ownership is high, suggesting that institutional investors as a group reduce incentives for managers to act myopically. This is because the majority of institutional investors tend to hold their stocks for the long-term and are not as sensitive to, or critical of, short-term performance measures as are high-turnover investors."
By analogy, says Bushee, "if short-term investors are looking for a company to maintain profitability, whether or not this includes trying to streamline the workforce, managers may feel pressure to institute layoffs" as a way to prevent these investors from taking their money elsewhere. "This could be either good or bad," Bushee says. "If the company does have too many employees, then these investors are serving a good purpose by encouraging market discipline, but if they are forcing managers to cut below what is optimal just to show layoffs, then it’s obviously bad."
At times, of course, it’s hard to know the difference. "Some of the layoffs may be to appease the street," notes Wharton accounting professor David Larcker, "but I think that these companies in fact are trying to cut some of their costs. And I think it’s probably a good thing. You have been in this gigantic expansion, and maybe you hired a little more aggressively than you should have. So now you sit down and figure out a strategic plan, part of which may involve scaling back your workforce. It doesn’t mean the stock market is sitting there like the grim reaper. It may just be good management."
In some cases, Larcker adds, layoffs may reflect the decision to get out of marginal lines of business. "Cutting 4,000 people across an organization is different than cutting 80% of the employees" in an under-performing business unit. In addition, some companies announcing layoffs include those, like Delphi, that have been in trouble for some time, he says.
Media Hype or Reality
Adding to the alarm over layoffs is the role that the financial press plays in reporting labor figures accurately, and in context. "The headlines say layoffs but if you read the story carefully, it says job cuts," says Wharton management professor Chip Hunter. "You can get job cuts through attrition, especially in an environment where there is only about 4% unemployment and people are changing jobs anyway." Job reductions can also be achieved through early retirement, or they can be phased in over time.
In other instances, Hunter adds, layoffs may sound drastic but they won’t have much effect on the U.S. workforce, as is the case with Daimler Chrysler’s recent downsizing. "These layoffs won’t hit Americans at all. Enormous amounts of pain are being felt in some of the company’s international operations, but in this country employees getting laid off have great union contract protection. They will still get paid; they just won’t have to go to work."
Overtime, he adds, probably will be cut back, Hunter adds. "It’s interesting what can happen in response to job cuts. In companies where people were getting lots of overtime, they will get less. And in places where people don’t get paid for overtime, they will end up working more because there will be less people to do the existing work."
In addition, he observes, "it’s "historically unprecedented to see announcements of layoffs precede the increase in the unemployment rate. Usually that rate goes up, signaling that the business cycle is beginning to turn down, and then companies start cutting back. But the unemployment rate so far hasn’t gone up [very much] and yet we’re hearing all these announcements of layoffs. It doesn’t track."
[The unemployment rate was 4.2% in February; from the fall of 1999 to the end of 2000 unemployment has hovered between 3.9% to 4.1%.]
Dan Rodriguez, professor of organization and management at Goizueta Business School at Emory, contrasts the current market conditions with 1996. "If you read a book written back then called The Downsizing of America by the New York Times, it’s clear that layoffs five years ago were much more significant than this past January. AT&T was laying off 40,000, Delta 15,000, Sears 50,000, Boeing 15,000 and DEC 20,000. The raw numbers were much worse."
The 4.3% unemployment rate that we have now, he adds, "is very low by historical standards. The reality is that if you have these downsizing announcements and the unemployment rate stays about the same, then many of these people being downsized in December or January are finding new positions," Rodriguez says.
He agrees with Hunter that the financial press can tend to misrepresent the story. "The media will tend to focus on headline grabbing stories, like Lucent laying off 20,000. What you don’t see is that 500 other companies hired 40 people each. Hiring tends to happen more slowly over a longer period of time, whereas downsizing can occur very rapidly. So it’s easier to see the downsizing and harder to see the hiring, even though you know it’s going on because the unemployment rate remains low."
Another distinction that Rodriguez makes is between a worker being displaced and a worker being fired for cause or quitting. "The reason people say downsizing is so tough is that it can happen even if an employee has worked hard and done a good job. There is an apparent randomness about it from the employee’s perspective. But in reality it is not a random process. Firms like Lucent or Xerox that have grown very rapidly and made incorrect strategic decisions have had to correct those mistakes and reduce the size of their workforce. So from an aggregate level it is not a random process at all. It hits specific firms for specific reasons."
The Fate of Flex Time
As for the employees who are actually losing their jobs, manufacturing was especially hard hit in the latest unemployment statistics, although such sectors as construction, insurance, real estate and service have remained fairly steady. Those with high-end talent – such as programmers and skilled technical people - are the most likely to be sought after by employers. Cappelli cites a recent announcement that Microsoft was laying off 5% of its workforce in order to hire top people from the dot-com companies.
Wharton management professor Nancy Rothbard worries that job layoffs – real or exaggerated – will adversely affect work-life balance issues. "In the last few years, with such a tight labor market, companies have been more willing to promote flexibility and work life initiatives in order to retain employees," she says. Given the economic downturn, she wonders whether "companies will now abandon these initiatives."
One reason they might not, she points out, is the amount of money it takes to train new employees. "You don’t want to lay people off unless you have to because training new ones is a huge expense. Training is one of the most expensive costs an organization has, especially in areas that require complex skills."