A man being laid-off to reduce costs.

Are Layoffs the Right Way to Reduce Costs?

Facing a downturn and reluctant to reduce staff? Worried you’ll cut too deep and hurt long-term growth? You’re not alone. Layoffs are one of the last cost-cutting methods CEOs choose in a business turnaround. In my years as a turnaround CFO, I’ve seen tragically too many businesses layoff staff without achieving the desired business expense reduction.

Read on to learn the mistakes and wins I’ve seen with layoffs during my turnaround consulting.

When should a company do layoffs?

Reduction in force is just one part of a business turnaround strategy, and timing plays a crucial role in the big picture. In my turnaround consulting experience, most small businesses wait too long to perform layoffs.

I recommend you consider layoffs immediately after a significant reduction in revenue with low chances of a near-term correction. These common business situations often merit immediate layoffs:

  • Losing a major customer 
  • Ending a large and often unprofitable product line
  • Missing a budgeted ramp-up in new sales
  • Losing a significant volume of sales 

Aside from revenue disruptions, companies should also consider reducing staffing after failing to close a capital round while burning cash. 

No matter your cause, layoffs should be modeled using a reliable business forecast. This ensures you cut the right number of staff at the right time. Our business turnaround services can help you build or modify a forecast to suit this purpose.

When should a company avoid layoffs?

A business which is profitable but undercapitalized may face cash distress that cannot be solved by layoffs. This typically occurs when a business owner takes on too much debt or over-distributes cash to shareholders, leaving an otherwise healthy business without enough working capital. 

No cost-cutting methods will fix an undercapitalized business. Instead, it must raise capital, preferably through equity, but sometimes through debt or debt refinancing. A turnaround CFO can help you evaluate if undercapitalization is the cause of your cash shortfall.

How do you cut costs without laying off employees?

There are several great alternatives to layoffs for small businesses. In general, the smaller your team, the more alternatives are available. Here are a few of my favorite payroll cost-cutting methods:

    • Variable compensation. Tie your team’s pay to performance, sharing the business risk with them. Top performers often love this while slackers often choose to leave.
    • Furloughs. If you feel your downturn will be brief, giving teammates a pseudo sabbatical may make them happy.
    • Reduction in hours. Many employees are happy to get 8 or 16 hours per week back for personal time. This is especially true for parents of young children or workers nearing retirement.
    • Convert W2 to contract work. This is essentially the most extreme version of variable compensation. Contractors are the best cost-risk mitigation but may become unavailable during busy seasons.
    • Across-the-board pay cuts. These resonate well with small, egalitarian teams who fear losing anyone. They do not work well with individualists who desire special recognition.

The right way to do layoffs

Remember that a reduction in force is an extremely sensitive event that will evoke strong emotional reactions from your team. Always conduct layoffs with professionalism and respect. Include key managers in the planning and execution and follow up with your team to explain why layoffs were necessary. 

Aside from the ethical importance of your actions (which is reason enough), unprofessional terminations can result in reputational damage to your brand. Business turnaround management is difficult enough without also having to face a PR nightmare.

Work with an HR professional to ensure legal compliance with state and federal regulations. 

If you’d like advice specific to your facts and circumstances, schedule a consultation with our team of financial experts.

This article was written by a CFOshare employee with assistance from generative AI for rhetoric, grammar, and editing. The ideas presented are a combination of the author’s expertise, original ideas, and industry best practices.

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