The Hidden Cost of Cutbacks

Matthew is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

You’ve seen the press releases trumpeting the improved efficiencies and costs savings when a company announces a round of layoffs.  Sometimes it’s called rightsizing, other times it'll be termed a repositioning, but the bottom line is that a large number of people saw their whole livelihood turned upside down.  Sure, that’s life and it will go on, and most times they’ll do even better.

Meanwhile, their former firm, while enjoying the immediate padding to the bottom line, will not always see the lean, mean profit making machine it was hoping to create.  That’s why I have to raise an eyebrow at Citigroup’s (NYSE: C) planned repositioning of 11,000 jobs.  The company expects to see about $900 million of cost savings in 2013 which will grow to $1.1 billion by 2014 as the company both increases business efficiencies and streamlines its operations.  While I have no doubt that these cuts need to be made and it’s best for Citi’s business, there is a hidden cost that might be missed by the investors who bid Citi’s stock up six percent on the news.

The Citigroup news is just the latest in a string of layoffs this year.  Tech giant Hewlett-Packard (NYSE: HPQ) is the leader to date with 27,000 job cuts that will save the company an estimated $3.5 billion.  Then you have Pepsi (NYSE: PEP) which on the one hand announced it was cutting its global workforce by 3% in an effort to trim $1.5 billion of expenses by 2014, while also announcing a 4% dividend hike to go along with a $3 billion stock buyback.  It’s no wonder investors typically cheer layoff announcements.

However, consider for a moment the case of J.C. Penney (NYSE: JCP) which has a very successful cost-cutting program.  As writer Demitrios Kalogeropoulos points out, the company has actually been a little too successful in the program.  As J.C. Penney has reduced headcount it has weakened morale to the point where further turnover has become a problem.   It’s not your typical retail turnover but it’s a real brain drain and to the point where CEO Ron Johnson noted that:

These reductions ... have resulted in a substantial amount of turnover of officers and line managers with specific knowledge relating to us, our operations and our industry that could be difficult to replace. We now operate with significantly fewer individuals who have assumed additional duties and responsibilities ... These workforce changes may negatively impact communication, morale, management cohesiveness and effective decision-making.

In the cases of Citi, HP and J.C. Penney, the cuts are in an effort to turn around struggling businesses but the cost to morale only makes that turnaround more difficult to achieve.  These companies need motivated employees performing at high levels to not only pick up the slack of their departing peers but to drive the new initiatives the turnaround is sure to bring. 

This is the hidden cost of cutbacks: that no matter how hard a company tries, low morale will have a long lasting and very public effect on the business.  Layoffs are part of business, and in all likelihood a necessity for an organization that’s become bloated, however, the boost to the bottom line can only be temporary when you consider the effect morale has on motivation and innovation. 

So, before you celebrate a stock that has popped after a layoff announcement, just remember that it lost its fizz a long time ago as the business went flat.  Letting people go might pad the bottom line, but it’s not what’s going to drive the growth engine as morale declines and brain drains are a very powerful force that’s not easily overcome.   Layoffs surely aren’t the first sign that a turnaround is progress, quite the contrary; it’s the sign that the turn still is a long way off.

latimerburned has no positions in the stocks mentioned above. The Motley Fool owns shares of Citigroup Inc and PepsiCo. Motley Fool newsletter services recommend PepsiCo. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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