Downsizing: Making the Right Decisions

The current economic slowdown is forcing many companies to take a long hard look at a possible reduction in staffing levels. With this excellent article Mark Toomey (Managing Director of Informics) issues a strong warning about the dangers of ‘short termism’.

He does this by showing, using several real life examples, how decisions made in an attempt to balance the books in the short term can have devastating effects over the long run. 

Downsizing: Making the Right Decisions

The global financial crisis is biting hard, and despite expectations of some commentators and journalists that IT spending would continue unabated, there is a definite impact on the information technology sector.  Falling demand for equipment, software and services makes it clear that companies which depend on IT are cutting back on their spending plans – deferring projects, delaying acquisitions, and reducing staff.

How many of those companies are taking a strategic perspective on their decisions?  How many of them fully understand the possible long term operational implications as well?

Many management lessons about information technology can be observed in other fields.  It’s worth exploring one such example – the case of a Latrobe Valley (in Victoria, Australia) coal mine which experienced a catastrophic landslip late in 2007.  The collapse of the mine wall resulted in the adjacent Latrobe River breaking into the massive open cut coal mine, disrupted the river’s downstream flow, and flooding the mine with billions of liters of water.  It destroyed millions of dollars worth of machinery, and severely impacting the coal fired power station that the mine supplies.

A report prepared for the state government said that the incident was caused by a lack of proper safety precautions, and that “expert consultants failed to pick up obvious signs of the mine's imminent failure”.  According to a newspaper article in January 2009, the problem went back many years to when experts approved the cancellation of two fundamental mine safety measures in the name of "efficiency".

During the decade of the 1990’s, Victoria’s power generating industry was privatized  Instead of a statutory body accountable to government, electricity generating was transferred in a series of major asset sales to the private sector, where the managers are accountable to their shareholders, as well as to an industry regulator.  Naturally, to make the privatization process as attractive as possible, the government sought to minimize the extent of regulation, relying on market forces to drive efficiency.  Equally naturally, in the interests of their commercial imperatives, the new owners of the industry sought to minimize their costs, and many of the people who had been considered essential in the state run system were subsequently considered surplus to requirement.

With hindsight, it’s not hard to join the dots.  In an effort to reduce costs, the new commercial owners of the generating plants and the mines that supply them with coal would have reduced the number of people not involved in front line operations, and thus took risks (of which they may or may not have been properly aware) by reducing the safety systems and the safety margins.  In particular, full time civil engineers with years of relevant hands-on experience were made redundant, and replaced by demand driven reviews from consultants who did not have the long term knowledge necessary for identifying and resolving minor problems before they became serious.  According to the newspaper, when large cracks appeared on the road on top of the mine wall, a pipe and line of power poles along the wall had begun to curve and water was gushing into the mine at 500 liters a second, the consultants concluded that "catastrophic failure was unlikely".

The situation with the coal mine is instructive because the seeds of the catastrophe were sown years before the event, as a direct result of scaling back on personnel and moving some roles from full-time internal sourcing to demand-based external sourcing.  These exact techniques are extremely common when organizations seek to reduce the costs of their information technology usage.  Indeed, during the downturn in IT spending that occurred after 2000, we saw many organizations shedding their more experienced and senior personnel, running the risk, and in some cases experiencing the reality of significant negative impacts further downstream.

When experts are taken out of a management system, it is likely that the management system will be weakened.  Unless the experts are replaced by additional rigorous protocols and controls, it is likely that the risk of problems is increased.  When removal of the experts is complemented not by an increase, but by a further decrease in the rigor and control, the seeds of future problems are not only sown – their growth is assured and accelerated.

And now, as many of the world’s economies are in, or struggling to avoid recession, we again see corporate leaders trying to reduce costs, and again we see information technology expenditure as a definite target for reduction.  

Recently, two major Dutch technology manufacturing firms announced major layoffs, because of the credit crisis. One company in particular had made significant effort to hire talented people from a limited pool of suitably skilled resources, but was now letting the same people go.  A brief scan of available news reports revealed that both companies operate in the highest levels of technology manufacturing, and that demand for their products has fallen.  They have responded by reducing their own production, and that translates into a reduction in staff.

It is not the purpose of this article to cast judgment on whether these staffing reductions are appropriate or not – that is the job of the executive management teams and the board of directors of these two major firms.  However, it is appropriate to point out questions that should be considered by the executives and directors as they make their decisions.  The key area of risk is not in the reduction of staff, but in the targeting of which staff will be put off, and propose that two key issues are considered:

•    First, if the recession is prolonged (and the indicators suggest that it will be), the technology that they manufacture today may not be what the market requires when growth returns.   If they have not retained the capability to design new products, and bring them on stream quickly, they may find themselves surviving the recession, but then unable to compete effectively with other organizations that acted differently during the downturn.  Conversely, if they do retain the capability to design new product, and they exploit this capability well, they may be in a very strong competitive situation when the market picks up.

•    Second, if the reduction in production results in “mothballing” of high tech production machinery and systems, the return of demand will probably require that such equipment come back on stream, and there will be a requirement for relevant skills to achieve that goal.  It would be unwise to expect that the skilled people can be rehired when needed, as competitors taking advantage of the situation may already have hired them, and others will have retrained for different work, relocated, or retired.

The point here is not that organizations should not downsize their workforce. But, when they do downsize, they need to be very careful to not remove the very people that they will need to keep the business operating as effectively and efficiently as possible during the downturn, and those who are key to effectively ramping up the business again when prosperity returns.

Just as Victoria’s energy industry has learned, dispensing with the seemingly expensive people who are focused on long term sustainability of the organization and its operations can be a hugely expensive mistake – not only because of the damage that eventually occurs, but also because of the subsequent reactions of customers, shareholders, analysts and regulators.

The same thinking should apply in the context of business systems and applications – especially older systems which typically lie at the core of business support.  In many cases, the ongoing viability, reliability and performance of these systems relies on key personnel, with specialized knowledge and long term experience that is not adequately reflected in documentation and procedure.  When these experienced people are removed from the system, for whatever reason, the result can be constraining at best, and chaotic at worst.  

A useful illustration of this reality came when a major bank decided to outsource all aspects of maintenance and support for its automatic teller machine (ATM) network.  The first bill carried a surprise - the service charges were approximately double what had been expected.  A short investigation revealed that the quite extensive ATM network was made up of numerous different makes, models and variants of ATM, and that the contractor had no records of what machines were installed where.  Thus, every breakdown translated into two service calls, the first being solely to identify the machine.  It became clear that the bank previously had a small team that maintained the relevant records, but that this team, and its work, had not been included in the outsourcing placement.  However, the saving from not having the team had been taken up, the team had been made redundant and paid out, and the simple application they used had been scrapped.

In any situation where changing circumstances appear to demand a reduction in personnel, one way to validate the proposed changes is to ask some questions about the people who would be retained:

•    Are they the cheapest people, or the best people?

•    Are they people that the company will need to strengthen and renew its product portfolio?

•    Are they the people the company will need to fine tune and optimize the production processes?

•    Are they the people the company will need to lead the return to prosperity when it comes?

•    Are they the people who will recognize and resolve emerging issues before they become debilitating?

If the answer to any of these questions causes discomfort, then perhaps the decision is worthy of some further thought.

Organizations which depend on information technology for their operational performance and their strategic future (which is the normal situation for most organizations today) will find themselves at a disadvantage if they are unwise in shedding senior IT personnel who would play key roles in preserving the viability and integrity of the business, optimizing it for the downturn and ramping it up again when the market rises.

Mark Toomey is a world leading specialist in corporate governance of information technology.  He was deeply involved in development of ISO/IEC 38500, and has significant ongoing roles in the development of Australian and international standards relating to governance of IT.  Through his company, Infonomics, Mark provides knowledge transfer and governance improvement services throughout the world.

Mark is author of The Directors IT Compass, and several short papers on corporate governance of IT.  He will shortly publish his new book: “Corporate Governance of Information Technology”.  www.infonomics.com.au for more information.

This article is adapted from The Infonomics Letter, a monthly publication designed to help top executives and board directors make better, more informed and more relevant decisions about information technology.  Free subscriptions to The Infonomics Letter are available at www.infonomics.com.au/Newsletter.htm.