Corporate restructuring occurs when a company makes significant changes to its financial or operational structure, for example, by changing its complement of employees or assets through downsizing or upsizing. A common set of factors drives decisions to restructure, including decisions to divest or to acquire employees, assets, or both. In order of priority, these factors comprise current and prior company performance, managerial foresight, economic conditions, political uncertainty, industry, and technology. Companies typically downsize employees to stop eroding profitability and to increase the likelihood of future profitability. The economic rationale that drives it is straightforward: companies become profitable when revenues exceed costs, an outcome obtained by increasing revenues, decreasing costs, or both. Because future revenues are less predictable and controllable than future costs, decreasing costs is compelling. Managers often do that by reducing the size of the workforce and its associated labor costs.
Employee downsizing makes sense when it is a reaction to an emergency, such as the COVID-19 pandemic. Employee downsizing can also be part of a broader workforce strategy designed to adjust workforce competencies to align more closely with the overall strategy of a business.
Organizations typically use one or more of four broad methods to downsize their workforces. The simplest is natural attrition. Alternatively, firms may offer buyouts—to individual employees (voluntary severance), to entire business units (corporate restructuring), even to the entire organization. A third strategy is involuntary layoffs—termination—with no choice by the departing employees. Businesses large and small that were hard hit by the pandemic had little or no choice but to use this strategy. A final strategy is early retirement offers, often part of a broader buyout scheme. From an organizational view, early retirement has the advantage of opening up promotion opportunities for younger workers.
When firms downsize employees, they incur direct as well as indirect costs. While almost all the direct costs, such as severance pay and accrued vacation, are short-term (realized in the year they are incurred), indirect costs, such as decreased productivity, reduced morale, and aversion to risk among survivors, begin to accrue immediately and may continue for longer periods.
When considering alternatives to downsizing employees, decision-makers must first assess if the downturn in business is permanent or temporary. If permanent, the only alternative to layoffs is to upskill, reskill, or retrain employees to develop new lines of business. If temporary, then there are numerous alternative ways to cut costs besides laying off workers. These range from reducing work hours to redeploying workers.
A central issue for many stakeholders is the financial consequences of corporate restructuring. Regarding acquisitions, there is little evidence of a net beneficial effect on the performance of the acquirer, as measured by profitability. Rather, such actions often yield a lower rate of return than growth through internal investment. With respect to divestiture of assets, meta-analysis reveals a mixed picture of subsequent performance. Evidence does indicate, however, that different performance effects can be attributed to different conditions of the macroeconomy. With respect to within-company changes in employees, assets, or both, large-scale research reveals that corporate restructuring undertaken during difficult financial conditions, on average, outperforms corporate restructuring undertaken under more benign conditions.
An important lesson for managers is to avoid downsizing as a quick fix to restore or enhance profitability. Layoffs are the most frequently employed method of downsizing but provide the smallest payoff. When faced with deteriorating results, it might be more prudent to be patient and to undertake the more demanding and comprehensive downsizing of employees and assets. As for upsizing employees, assets, or both, high-profitability upsizing does not automatically lead to better stock market performance. It tends to yield better results when the company’s performance needs improvement.