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When it comes to loss-making and redundancies, managers have choice

Blog Post

Written by John Berry on 29th June 2020. Revised 4th November 2020.

6 min read

Young man in street gregory-hayes-2guarBycJJQ-unsplashFirst Brexit uncertainty, then pandemic. And next, Brexit for real. All in all, pressures on the economy right now are universally downwards. The result, we hear, is that unemployment will rise. But why must that be so? Is it inevitable? And how should managers change to better manage their firms through short periods of unsettled trading?

Redundancy is one of potentially dozens of management responses to external pressures on the firm. It arises from the interaction between the firm’s profit and loss account and its balance sheet. On the P&L account, sales or income allow the firm to operate. And cost of goods and staff costs, as expenses, determine the profit it will make. Profits stack up as reserves in the balance sheet as a measure of the firm’s overall health and resilience.

From this ‘accountant’s eye view’, if sales fall and expenses are kept the same, profits will fall, maybe driving the firm to turn a loss. Loss making is not an existential problem, provided of course, that the firm has reserves, or that it is able to ask investors to put more money in.

Whether loss-making is allowed depends on the attitude of managers and shareholders. If the firm must turn a profit, and if the firm must retain its reserves or pay what would be reserves as dividends, losses are intolerable. If losses are intolerable, the only variable is staff costs.

Given the predicament in which the UK finds itself, and assuming that staff costs are the only variable, redundancies are inevitable. The only question is how many.

The projected final UK redundancy figure later in 2020 or in early 2021 is anywhere between 5% and 20% with pundits centring on a figure of around 10%. The pre-pandemic unemployment rate was 3.9%. At the peak of the economic shock back in 2008/2009, it climbed to 12.2% (though quickly recovered to about 7%). In May 2020 it was already at about 8.4%. This time, 10% would seem a huge success.

While we’ll have to wait for final figures, Germany and Denmark, as examples of more socialist or even humanist nations are likely to report figures in the 4-6% range. In the USA, with its hire-and-fire culture, the figure is forecast to hit 25%.

So, there we have the backdrop. Whatever happens, we’re headed for north of three million workers soon to be without a job.

But back redundancy. Redundancy is a management variable. Whether managers see it as the primary variable or not depends on their attitude and on their ability to control price and other costs. Management attitudes is itself a function of the manager’s personality, preferences, training, experience, social outlook and their response to stakeholder pressures.

So, what are the arguments in favour of redundancy as a tool?

Simply, it supports labour market flexibility. If employees are suitably qualified and experienced, being made redundant is no big deal. They’ll get another job quickly. This allows their present employer to adjust his or her firm in light of local pressures. Firms can be flexible and management is simple.

Of course, that’s all fine if employees are supported to keep their skills tip-top. But those likely to be made redundancy are often the unskilled or semi-skilled. It also assumes that managers will fund training, even considering that they might use redundancy to slim down some time later.

But is redundancy all bad?

Well, yes. Given that people offer the firm capability, that capability is inevitably reduced by dismissing workers. That reduced capability includes reduced skills, knowledge, experience, productivity, employee commitment and engagement: all the characteristics that the firm claims to hold dear.

Redundancy is a very short-term fix.

So, is there ever a case for redundancy?

Well, yes, again. Redundancy allows the firm to react to longer term changes in its product markets. If the people in the firm are not the ones needed for the future, the firm has to adjust its skills and knowledge to protect itself against lower customer demand. But that’s not what’s happening in the 2020 slump.

Redundancy as a response to an economic downturn is the simplest reaction. It can be done almost without effort. The business case is simply made and it’s easily defended when challenged at tribunal.

Redundancy avoids managers having to do hard work.

So, what are the alternatives to redundancy?

There are two perspectives here. First, government can legislate. As in Germany and other more socialist, humanist countries, workers are on the boards of firms. And workers would only vote for redundancy when the majority of their colleagues would, in the end, benefit.

We could go on to lobby government about measures it could take, but being realistic, no government is going to act, even in the medium term.

That leaves us looking at what’s to be done in firms.

Firms, represented by shareholders and managers, will change if there’s benefit.
To change perspective, one must look at firms like Ocado, the groceries supplier. Such firms don’t start up to make a short-term profit. Their shareholders are in it for the long haul, investing heavily for some point in the future.

This model shows that profits are not the only desirable outcome. Many firms now talk too of sustainability. Sustainability is not about green-ness. It’s about having a firm that’s in business for the long haul, that will be here next year, the next again, and for the foreseeable future.

As soon as shareholders and managers embrace sustainability, redundancies cease to be inevitable.

As soon as shareholders and managers accept the hard work that comes in managing the toing and froing between P&L and balance sheet, options abound. As soon as the flow is not one-way, as soon as losses are possible, wealth can be re-defined. Since people add value, redundancy in such a new world would simply be an unacceptable loss in value. This loss would degrade the firm’s ability to survive long-term.

Redundancy as a response to depression makes no sense. Economies bounce back. But will you take the longer-term sustainability viewpoint? Or will you just add to the statistics?