EMPLOYEE DOWNSIZING

Case Code- HROB016
Publication Date -2002

DOWNSIZING BLUES ALL OVER THE WORLD

THE DOWNSIZING PHENOMENONWORLDWIDE

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THE FIRST PHASE 

Till the late-1980s, the number of firms that adopted downsizing was rather limited, but the situation changed in the early-1990s. Companies such as General Electric (GE) and General Motors (GM) downsized to increase productivity and efficiency, optimize resources and survive competition and eliminate duplication of work after M&As. Some other organizations that made major job cuts during this period were Boeing (due to its merger with McDonnell Douglas), Mobil (due to the acquisition of Exxon), Deutsche Bank (due to its merger with Bankers Trust) and Hoechst AG (due to its merger with Rhone-Poulenc SA).

During this period, many companies started downsizing their workforce to improve the image of the firm among the stockholders or investors and to become more competitive. The chemical industry came out strongly in favor of the downsizing concept in the early 1990s. Most chemical and drug companies restricted their organizations and cut down their employee base to reduce costs and optimize resources.

As the perceived value of the downsized company was more than its actual value, managers adopted downsizing even though it was not warranted by the situation. A few analysts blamed the changes in the compensation system for executive management for the increase in the number of companies downsizing their workforce in 1990s. In the new compensation system, managers were compensated in stock options instead of cash. Since downsizing increased the equity value (investors buy the downsizing company's stocks in hope of future profitability) of the company, managers sought to increase their wealth through downsizing. Thus, despite positive economic growth during the early 1990s, over 600,000 employees were downsized in the US in 1993.

However, most companies did not achieve their objectives and, instead, suffered the negative effects of downsizing. A survey conducted by the American Management Association revealed that less than half of the companies that downsized in the 1990s saw an increase in profits during that period. The survey also revealed that a majority of these companies failed to report any improvements in productivity.

One company that suffered greatly was Delta Airlines, which had laid off over 18,000 employees during the early 1990s. Delta Airlines realized in a very short time that it was running short of people for its baggage handling, maintenance and customer service departments. Though Delta succeeded in making some money in the short run, it ended up losing experienced and skilled workers, as a result of which it had to invest heavily in rehiring many workers.

As investors seemed to be flocking to downsizing companies, many companies saw downsizing as a tool for increasing their share value. The above, coupled with the fact that senior executive salaries had increased by over 1000% between 1980 and 1995, even as the layoff percentage reached its maximum during the same period, led to criticism of downsizing.

In light of the negative influence that downsizing was having on both the downsized and the surviving employees, some economists advocated the imposition of a downsizing tax (on downsizing organizations) by the government to discourage companies from downsizing. This type of tax already existed in France, where companies downsizing more than 40 workers had to report the same in writing to the labor department. Also, such companies had liable to pay high severance fees, contribute to an unemployment fund, and submit a plan to the government regarding the retraining program of its displaced employees (for their future employment). The tax burden of such companies increased because they were no longer exempt from various payroll taxes.

However, the downsizing tax caused more problems than it solved. As this policy restrained a company from downsizing, it damaged the chances of potential job seekers to get into the company. This tax was mainly responsible for the low rate of job creation and high rates of unemployment in many European countries, including France.

LESSONS FROM THE 'DOWNSIZING BEST PRACTICES' COMPANIES

2003, ICMR (IBS Center for Management Research).All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means - electronic or mechanical, without permission.

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This case study is intended to be used as a basis for class discussion rather than to illustrate either effective or ineffective handling of a management situation. This case was compiled from published sources.