Is downsizing good for efficiency

By Rob Goodfellow and Trent Sebbens

WOLLONGONG, Australia (JP): In the developed world there have been changes in fundamental philosophies governing organizations. In the last two decades both the private and public sector have increasingly chosen downsizing as a means to improve efficiency.

The belief that downsizing will lead to improved financial and operational performance has survived through periods of economic growth and decline. However, the results of such corporate restructuring are rarely analyzed in terms of achievement of original goals and objectives. What is downsizing and why should Indonesian companies beware?

For much of the 20th century, corporations only reduced their workforce when faced with crises. However, in the private sector a prevailing trend has seen profitable companies lay off employees even in times of increasing sales or demand -- all in the name of boosting the share price.

The logic of this is straightforward. It holds that most firms perform poorly because of inefficient labor processes and the excessive bureaucracy this supports. To remedy this, many organizations simply reduced their workforce by slash and burn restructuring.

Better earnings and improved competitiveness should logically lead to better financial performance and drive up share prices. This has not always been the case. Is downsizing really an effective way to improve operational ability, productivity, financial performance and shareholder wealth?

Is it an appropriate tool for Indonesian managers now grappling with the tail end of the worst economic collapse in history?

Over the last decade, Indonesia's southern neighbor, Australia, has experienced profound labor market restructuring. One survey revealed that 57 per cent of Australian organizations had downsized between 1993 and 1995, with 71 per cent of organizations having downsized twice or more, and 44 per cent downsizing three or more times.

This figure rose to 62 percent of companies downsizing between 1997 and 1998. Even during periods of job expansion, retrenchment appears to be part of the experience of nearly one in every 20 workers in Australia.

What is driving organizations to downsize is globalization. Globalization is underpinned by a radical belief that national governments should remove all protective regulations and free individual enterprises to respond to transnational competitive pressures. In Australia this has been met by the deregulation of capital, product and labor markets.

The logic is that lower labor costs result in increased profit margins or in the ability to control price competitiveness as a means of increasing the share price.

However, research indicates that any gains for an organization achieved through downsizing are usually short-lived. In fact, downsizing often leads to an immediate increase in expenses.

Direct costs include severance pay in lieu of notice, payment of accrued holiday and sick leave entitlements, and associated administrative costs.

There are also a large number of indirect liabilities such as the creation of redundancy strategies, time lost to re- organization, unfavorable publicity, the recruiting and employment overheads associated with hiring replacement staff (or the use of former staff paid at higher consultancy rates), training or retraining for new tasks and technologies, and legal claims associated with wrongful dismissal.

More significantly, however, crucial human expertise disappears. This leads to institutional memory, experience, contacts, and infrastructure being eroded, disrupted or completely lost. The organization is left with employees who are potentially less competent or less mobile.

The loss of organizational skill breaks the system of entrepreneurial networking. This destroys organizational follow- through, which in turn leads to a loss of customer or client confidence.

Downsizing also reduces labor productivity with remaining employees often burdened with longer working hours and increased workload, performing tasks for which they are not always trained.

These "survivors" of downsizing also tend to experience a range of psychological problems. These include betrayal, anger, animosity, job insecurity, depression, fear, guilt, risk aversion, distrust, vulnerability and powerlessness.

The cumulative effect of this includes decreased performance, morale, motivation, job satisfaction, loyalty and trust. These all aggregate to reduce risk-taking, resistance to change, and slower decision-making.

Despite this, major downsizings continue to have a positive effect on stock prices. This has all the hallmarks of an economic cult characterized by socially determined responses that look favorably on organizations that cut staff numbers despite outcomes.

Investors think downsizing is a signal that an organization is serious about the bottom line. This attitude has been accompanied by positive media reports. This is reflected in language, where the negative connotations of redundancy and lay-offs become identified by the highly positive, but meaningless term -- "rightsizing."

The failure of most downsizing efforts appears to lie in their overly simplistic, quick-fix approach, often equating to mere across-the-board reductions of head count.

Downsizing undertaken without strategic insight is more likely to be a formula for compounding organizational problems rather than a solution for them. To work effectively, downsizing needs to be a strategic transformation that can be used to change an organization's culture and the way it operates.

In this sense downsizing should become part of a continuous improvement philosophy that assumes a long-term perspective instead of merely short-term cost cutting. Other alternatives apart from downsizing might be even more effective, although downsizing appears to be the first choice of managers, and not the last choice.

While about 90 per cent of organizations focus on workforce reduction, only about half make any attempt at workplace redesign, and less than a third implement a strategy of systematic change.

Productivity growth, in the simple but powerful words of Nobel laureate Robert Solow, is "a better way to produce leading to a better way to produce".

Unfortunately in Australia it seems difficult to imagine a reversal of the downsizing ethic given the enormous attraction of expected short-term profits. At the micro-economic level this choice makes sense, as the gains appear to mask, or perhaps outbalance, the longer-term negative effects.

However, the trade-off between short-term gains and long-term productivity must be resolved. Once a proponent of downsizing, leading United States financial analyst, Stephen Roach, has had a reversal of belief and now states that if "companies remain fixated on downsizing, opportunities for growth may vanish".

Similarly, economist Richard B. Freeman of the London School of Economics suggests that while downsizing continues apace, there is a growing body of opinion that the process of job reduction has gone too far in many organizations.

Moreover, he argues that companies that downsize simply by slash and burn may be putting the longer-term viability of their organizations at risk, not to mention the very fabric of civil society.

Equipped with a more socially balanced view of the rights and responsibilities of capital, Indonesian policy planners and business managers would do well not to follow Australia down this path.

Rob Goodfellow is a social researcher and Indonesian cultural consultant to Western businesses based at the University of Wollongong, Australia (sujoko@ozemail.com.au). Trent Sebbens is a researcher in industrial relations and legal studies, also at the University of Wollongong.