10 Across-The-Board Cost-Cutting Measures


The 10 approaches that should be considered are:

  1. Voluntary severance incentive. Offer an incentive to employees to leave the company voluntarily. Many may have considered the idea but resisted for lack of a push and funds.

  2. Early retirement incentive. Offer an incentive to employees close to retirement age to take an “early out” that accelerates benefits related to retirement. Again, many may have thought about doing this but need a push or extra funds to take the step.

  3. Shorter work week. Reduce hours to be worked during the work week and reduce base pay.

  4. Mandatory pay cut. Require everyone to take an across-the-board cut in pay, including top management and even the CEO, president, or founder.

  5. Stock options in lieu of pay. Grant employees stock options instead of some part of their current pay or in place of a pay increase. Although not as popular as they were a few years back, stock options can offer an incentive to remain in a company especially if a rebound at the company and in the overall economy is expected. If the company expects to make a public offering down the road, this becomes even more of an incentive.

  6. Reduction of perquisites. Cut out company cars, expense accounts, subsidized lunches, golf club memberships, retreats, travel, and so forth. Few will miss these perks and those who do will learn to accept the change when it is presented for the right reasons.

  7. Reduction or elimination of 401(k) contribution. Reduce the dollar contribution and/or match to qualified retirement plans.

  8. Reduction or suspension of annual pay increases. Cancel all or part of planned merit pay or across-the-board pay increases.

  9. Reduction or suspension of bonuses and incentives. Cancel all or part of planned bonuses and incentive payments. Replace them with bonuses contingent on turning around the business.

  10. Hiring freeze. Suspend hiring new people for the foreseeable future, but let out the word that good people are always welcome to apply. Make it clear that when the company’s situation improves, applicants will be considered.

Voluntary Severance Incentive

Voluntary severance is an incentive to leave the company on one’s own volition. A severance package can be offered to all employees or to a segment of the labor force. For example, it can be targeted at employees in the factory, at a call center, or in administrative headquarters. It can also be targeted at hourly or salaried employees. Although the company can govern the group that voluntary severance is offered to, it should not discourage an individual eligible for a voluntary severance package from accepting it once he or she has opted to take it. If so, the company may risk litigation under federal laws and regulations.

Severance packages vary in what they offer. In general, severance pay includes a formula for one or more weeks pay for each year of service. At higher levels of the company, more generous offerings are made. The package may include accrued vacation pay, outplacement services, and other benefits.

The main benefit of a voluntary severance program is that it reduces work force costs without directly asking anyone to leave. It is less disruptive than a layoff.

The major ramifications of voluntary severance involve the lack of control over people who leave and the direct costs involved. Of course, once offered, anyone can accept a voluntary package. In effect the company may lose some of its good people and the important skills it needs to recover and grow in the future. This can be minimized if the program is properly targeted. The expenses incurred may also be a problem regarding current cashflow. As shown in Chapter 5, a careful analysis of the economics of short- versus long-term costs should be reviewed before considering a voluntary severance program. The shorter the period of crisis and turnaround that is anticipated, the less likely employees are to adopt this type of incentive.

The legal and regulatory issues regarding voluntary severance programs are complex, and it is quite important to comply with them. The consequences of noncompliance are severe. [1] Important issues include the following.

Employee Retirement Income Security Act (ERISA). Formal written severance policies may be subject to the reporting and disclosure requirements of ERISA. As such, severance would be treated as are other company benefits. Companies must carefully structure and communicate policies related to severance incentives and whether they should report the program to the government annually and comply with specific procedures for administration.

Older Workers’ Benefit Protection Act (OWBPA). A voluntary severance incentive cannot be used as a means to discriminate against older workers or negatively affect other benefits that might be forthcoming to those eligible for retirement. In addition the company must comply with provisions of the Age Discrimination in Employment Act (ADEA). The OBPWA specifies regulations and rules for protection of employees who may be offered a number of benefits related to their employment termination. The act also specifies conditions under which employers may require waivers of future claims of discrimination. It is important to secure waivers to avoid future individual and/or class action litigation. (See Appendix A for a sample separation agreement.)

Early Retirement Incentive

Early retirement incentives are similar to severance incentives in that the company offers an enhanced package of additional benefits to leave active employment at the company. The enhanced package usually involves acceleration of pension benefits that are tied to years of service, level of pay, or both. By changing the benefit formula, retirement becomes a more attractive alternative. As with voluntary severance, the company can offer the incentive but cannot in any way coerce employees to stay or leave. A key difference between the early retirement incentive and voluntary severance incentive is that the population attracted to it is typically more tenured and older.

Employers can target this retirement incentive, but in a different way from voluntary severance. Targets can be set with regard to age and years of service that relate to the plan’s design and benefit formulas.

The severance costs for early retirement incentives are borne by the pension plan and do not come directly from current revenue. This program, therefore, is less expensive in terms of the income statement or one-time capital costs than what’s involved in a voluntary severance plan. Because the program is voluntary, it is much less disruptive than involuntary layoffs. Again, the downside is that management cannot control who stays and leaves. Therefore, the company may lose some of its critical human capital.

As with voluntary severance plans, the legal issues are complex and critical to consider before leaders act. The OWBPA governs conditions for requiring employees to sign waivers. There are also important considerations regarding the ADEA and Title VII of the Civil Rights Act.

Finally, the company must consider the potential conflict between incentives for early retirement as opposed to incentives for voluntary separation. If the company offers both plans, there may be some important legal considerations regarding potential discrimination.

Shorter Work Week

Typical work weeks in the United States are 40 hours or fewer. All employees are paid either by the hour or by a predetermined salary. If paid by the hour, employees are subject to the overtime provision and the Fair Labor Standards Act (FLSA) and state laws, if applicable. Accordingly, if the hourly employee works more than 40 hours in a given week, in most cases the employer must pay 150 percent of the base wage for every hour worked over the first 40 hours in the week.

Some salaried workers may also be subject to the overtime provisions of the FLSA based on the content of the job. If they are, the company is required to pay 150 percent, as it does for hourly workers, but this is subject to specific requirements of the law on a job-by-job basis. Some employers voluntarily pay overtime to salaried workers, especially if they work alongside the hourly workers when overtime is required. Most important, regardless of job title or pay level in the company, any employee who is paid by the hour is subject to the FLSA overtime requirements.

It is clear that the ripest of the “low-hanging fruit” (e.g., the first place to cut), which managers pick for cost cutting, is elimination of overtime as a company policy for a period of time to get through the business crisis. In addition, the company can reduce hours for a shorter work week by cutting the number of hours per day or cutting part of a day, such as a Friday afternoon.

For hourly employees, cutting the number of hours below 40 is automatically self-correcting because pay is based on the actual number of hours worked. For salaried employees, the situation is more complicated. By reducing the hours of salaried employees, the company may inadvertently change the status of salaried workers to that of hourly workers. So any hours over 40 worked by the salaried workers in this circumstance could generate an overtime premium for them. This is another case where the complications of legal compliance may make it too difficult to implement a cost-cutting measure.

A shorter work week raises morale issues regarding the amount of work required by employees. In a plant or factory, reducing the number of hours fits with reduced operations. In an administrative situation, the level of work required is not as identifiable. Senior leadership and management must clarify workloads and expected levels of effort to manage effectively throughout the crisis.

Overall, cutting hours back to 40 hours a week is a prime cost-cutting measure. Cutting hours below 40 is also a good cost-cutting strategy for hourly employees and salaried employees who are “not exempt” from overtime premiums of the FLSA. Cutting hours back for other salaried workers may not be a reasonable cost-cutting approach.

Mandatory Pay Cut

A mandatory pay cut applies to base wages or salaries. It slashes pay without cutting back work required and without consideration of individual performance or skill. In effect it says to employees, “You will receive less money for doing the same thing because we do not have the ability to pay you your complete salary at the present time.”

This approach differs from a shorter work week. With a shorter work week, fewer hours are worked and less work gets done. Presumably, there is less work to do because of a fall-off in volume, customers, and clients. A mandatory pay cut requires the same amount of work as before and may be perceived as unfair or inequitable. However, most employees perceive it as better than losing a job.

There are some important issues for senior leadership to consider in contemplating a mandatory pay cut.

Pay Competitiveness. When the company recovers, it will face a fall-off in the overall competitiveness of the pay package and will have to adjust pay upward. In the future, there will be the opportunity to increase pay rates selectively based on individual skill and performance.

Deferrals. Pay cuts can be handled as a deferral with a clear commitment to repay the deferral at a specific time in the future. (See earlier example.) The impact on morale may be dampened if the pay cut is handled as a deferral; however, employers should not make weak promises to repay in the future when employees look for strong leadership and stability about the future of the company.

Morale. Across-the-board pay cuts demoralize because of dashed expectations or, just as important, because of the impact on the employees’ financial commitments such as mortgage or car payments. A pay cut may force individuals possessing critical human capital to consider alternative employment, and it invites headhunters to cherry-pick the best employees. However, a mandatory pay cut does not include reduced employee benefits. As long as a benefits package is not cut, people are less likely to leave in the short run.

To minimize morale from slumping, a turnaround incentive program like the kind described in Chapter 3 should accompany a mandatory pay cut. This will provide hope and a reason to remain with the company through the crisis.

Stock Options In Lieu Of Pay

Some publicly traded companies have provided stock options to supplement or replace part of base pay when cashflow decreases. This type of cost-cutting measure and incentive is used more typically in emerging entrepreneurial companies, especially in telecommunications and information technology.

A company cannot provide stock options as a supplement to pay below competitive levels for a very long time. Continuing to pay below competitive levels over several years will reduce the company’s ability to retain talent. Employees with critical skills will eventually seek employment elsewhere. However, if the stock options accrue in value, they may become a retention tool. Eventually, as the company recovers from the crisis, base pay should return to competitive levels.

Stock options do not have the same intrinsic value to all employees because they represent the accrual of value over a period of years. If the paycheck represents an employee’s primary means to meet basic needs, he or she will be less interested in being compensated tomorrow rather than today.

Reduction of Perquisites

Perquisites are benefits provided to employee groups or individual employees, that have value to the employee and are work related. Perquisites range from subsidized meals to club memberships and expense accounts. In some cases the perquisites are taxable to the employee. Following are perquisites that companies should consider for the first round of cost cutting:

  • Automobile lease or cost reimbursement. Automobile cost reimbursement can be cut back to only those employees who need autos for work on a daily basis.

  • Club memberships. Club memberships, often provided to a broad group of managers and executives, can be cut back or eliminated, except for meals taken for business.

  • Entertainment. Budgets for customer entertainment can easily be reduced or scaled back.

  • Meal subsidy. Cafeteria service and catered lunches bought on the premises can be reduced or eliminated.

  • Travel. Business-related travel can be replaced by teleconferences or video conferences, or at the minimum first-class airfare travel and expensive hotels should be shelved in favor of less costly options.

An important reason to consider cutting perquisites is morale. In general “perks” are provided to managers and senior leadership rather than the broad-based employee population. By reducing or cutting perquisites that are perceived as luxuries, the company is spreading the pain among all classes of employees. Senior leadership makes the point best when it states: “We all must share in tightening our belts during this crisis.”

REDUCTION OR ELIMINATION OF 401(K) CONTRIBUTION

Most companies provide qualified profit-sharing programs and/or 401(k) programs as a benefit. In both cases the company makes a contribution. In the case of a 401(k) plan, the company may make a contribution as a “match” to the employee contributions.

Cutting the employer contribution is a reasonable place to cut costs. Reducing contributions can easily cut costs by 1 percent or more of payroll on an annual basis. However, there are some important issues senior leadership should consider before moving ahead with this option. First, cutting contributions requires modifying the legal documentation for a qualified benefit plan, which can take time and can be quite costly to execute. Second and more important, a 401(k) plan is a long-term benefit for a company, and changing it should be taken very seriously. It represents a long-term commitment to employees. Studies have shown that employees who take advantage of the employee matching contribution consider it an important part of their retirement planning. If the company expects the crisis to be short lived, then modifying the 401(k) plan could be more disruptive to the long-term employee than the company might want it to be.

Reduction Or Suspension Of Annual Pay Increases

Annual pay increases can be the same for all employees (e.g., an across-the-board amount or a cost-of-living adjustment). They can be distributed according to merit or performance or by means of some combination.

With the exception of situations where there is a binding union contract, senior leadership has substantial flexibility regarding the size and timing of annual pay increases. A typical annual increase budget is about 3 to 5 percent of base pay. Trimming the annual increase by 1 to 2 percent can put a big dent in the company’s cost reduction requirement. In an extremely difficult cash crunch situation, the company could even consider completely suspending the annual increase. However, before slashing the annual pay increase budget, senior leadership should consider the following.

Maintaining Pay Competitiveness. Cutting back or suspending pay increases reduces the competitive level of pay. Furloughing the increase for 1 year may affect morale somewhat, but if there is a commitment to reinstate increases at a certain future date, the impact on morale will be minimized. Of course, withholding pay increases places the company in jeopardy, and headhunters will attempt to pick off attractive candidates for other expanding companies.

Losing the “Merit” in Merit Pay. Merit pay programs generally provide larger increases to higher level performers, and vice versa. If the annual increase budget is reduced to 2 percent of base pay or even lower, there is little room to reward above-average performers. It is almost impossible to reward excellent performers and, at the same time, spread the remainder of the budget to the great bulk of employees. If left with a small budget, it makes sense either to change the merit pay plan during the crisis to pay an across-the-board pay increase or to withhold increases, except to those few truly outstanding performers.

Reduction Or Suspension Of Bonuses And Incentives

Bonuses and incentives may be self-correcting costs during a business crisis. If incentives are based on business performance targets at the corporate or operations level, then the poor performance that precipitated the crisis may result in attenuated incentive payments. Or simply put, no business, no bonus.

The places to look for cost cutting are in the areas of discretionary bonuses or other bonuses that are not dependent on reaching performance targets. These are the types of bonuses and incentives that are targets for reduction, suspension, or elimination.

At the same time, morale is an important consideration to take into account. Employees often consider bonuses a reward for longevity or loyalty. Some cash bonuses distributed regularly at the end of the fiscal year or during the holiday season are often considered by employees as a deferral of salary. Reducing or suspending these bonuses may be very disruptive to morale, so whether to cut these types of bonuses should be weighed against the severity of the crisis.

Finally, leaders should consider redirecting incentives instead of dropping them completely. As noted in Chapter 3, the turnaround bonus is an important way to motivate and keep key employees during a crisis. Without a way of positively directing efforts for future success, the company can create a self-defeating void.

Hiring Freeze

The last cost-cutting strategy involves a freeze on hiring. A freeze reduces costs in two ways. Replacements for unfilled positions are not made, and replacements are not made for positions vacated after the freeze goes into effect. On this basis the company does not experience increased costs, and costs are reduced by attrition as people leave the company. Over time a hiring freeze may be a significant cost reduction. However, in actuality little is saved at the time of the immediate crisis. Nevertheless, this is a significant cost-cutting choice because it sends a clear message to employees about the seriousness of the situation and the need to focus on resolving the crisis.

[1]For more detail on this subject, refer to SHRM White Papers, “Severance Pay” by Terry L. Baglieri; “A Brief Overview of the Older Workers Benefit Protection’ Act”; “New EEOC Guidance on Discrimination in Employee Benefits” by Timothy S. Bland; and “What Is an Employee to Do: Employment Termination, Severance and Waivers” by Frank A. Tola and Christopher K. Ramsey, Alexandria, VA: Society for Human Resource & Management.




The Headcount Solution. How to Cut Compensation Costs and Keep Your Best People
The Headcount Solution : How to Cut Compensation Costs and Keep Your Best People
ISBN: 0071402993
EAN: 2147483647
Year: 2002
Pages: 143

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