Analysis: the short-term interest of financial investors is now what drives every organization, which is bad news for employees
The past few weeks have brought headlines about layoffs and layoffs. Although job losses and fear of them are not new, the relationship between layoffs and organizational success has changed. In previous decades, layoffs were associated with business failures and closures. Today, layoffs are often portrayed as a positive sign of strong leadership, and even rewarded with a short-term increase in an organization’s stock price. So what has changed?
In earlier, traditional models of “managerial capitalism,” business leaders applied industry knowledge to develop an organization’s ability to produce products and services that succeed in the consumer market. The role of financial investors was to provide the long-term capital to fund production and, as one early commentator pointed out, “where business leads finance follows”.
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From RTÉ Radio 1’s The Business, Silicon Republic’s Elaine Burke and Digital Action’s Liz Carolan on the current wave of redundancies in the tech sector
An organization’s success and economic value in managerial capitalism came largely from consumer markets, via profit from sales. Financial investors had a claim on future profits, and they also bore the risk of business failure. Managerial capitalism dominated until the 1980s and employees were a key source of value and success during this time, through their important role in designing and delivering profitable products and services.
But managerial capitalism has been replaced in recent decades by “financed capitalism” as the priorities of financial markets dominate, and even override, consumer markets as the driver of success. Meeting the short-term needs of investors is the first requirement for business leaders, before meeting the needs of customers. This shift in business priorities is called “financialization” and a small, open economy dependent on foreign investment like Ireland is deeply immersed in financial business.
Financialization shapes all of our lives, from the housing market to the way we work, especially within organizations such as multinational corporations or organizations owned by private equity. The time frames have shrunk and now the quarterly profit is the holy grail.
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The now common focus on short-term performance is actually a fundamental change. Financiers do not see themselves as guardians of the economy’s long-term stability or a company’s success in consumer markets. This makes current investors, who are reluctant to fund long-term growth strategies, different from the former financial leaders.
The Harvard Business Review published a special issue of papers exploring how contemporary investors are “bad for business”. Indeed, in most OECD economies, the stifling of long-term innovation has led to claims of “too much funding”. There is increasing evidence in developed economies that excessive and ongoing returns to investors inhibit “real” economic growth and undermine the wage stability of workers who sustain consumer markets, societies and individual lives.
So how do financial investors get into companies? Well, the dominant metrics that investors use to value companies actually steer business leaders away from internal business investments and long-term, value-creating activities. In particular, popular financial measures are ratios, consisting of a numerator and a denominator that are an indication of investors’ returns and costs, respectively. Some notable metrics include price-earnings ratio, dividend payout ratio, price-to-book ratio, earnings per share, and return on earnings.
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From RTÉ Radio 1’s Drivetime, Twitter layoffs are the beginning of the end of the tech boom with The Business Post’s Emmet Ryan and Fine Gael TD Emer Higgins
Business leaders are increasingly improving their organization’s financial ratios by reducing the denominator through cost reduction, which is more predictable and yields returns within a short time frame. Executive compensation packages encourage and reward this short-term focus. Increasing the growth side of the ratio over the longer term is less certain and less welcomed by investors. Prominent innovation strategists lament this trend toward the “wrong” kind of innovation, namely “efficient innovation” that eliminates jobs rather than “market-creating innovation” that creates them.
These financially designed interventions are designed to remove investor risk and ensure investor returns, and are often accompanied by other costly activities such as share buybacks and debt issuance. Money is taken out of the organization and this feeds into ongoing corporate restructuring that has increased sharply in recent decades and these resource-consuming activities are spun into a narrative of a better future for investors.
As a result, risk is removed from investors and transferred to employees. Ultimately, financial promises must be delivered, and employees often bear the brunt of the stories that executives tell investors. Employees are shouldering the burden as the short-term promises made to investors meet a moment of truth within organizations and in consumer markets. Financial ratios improve, not through consumer success, but through cost reductions delivered through employees via layoffs, outsourcing, centralization, and increased wage uncertainty and inequality.
Reducing operating expenses is a key activity for business leaders to signal commitment to investors
Reducing the fixed personnel costs is a central feature of the financialisation. Employees are not a financial asset, never mind the “biggest asset”. Personnel-related expenses are categorized in financial accounts as an expense, namely operating expenses (OPEX). Reducing operating expenses is a key activity for business leaders to signal commitment to investors. Financial markets respond positively to these downsizing announcements, particularly layoffs and outsourcing, which provide returns in the short term, even if the organization’s ability to succeed in the consumer market is undermined in the longer term.
As demonstrated by what happened at Boeing, the damage can be significant when an organization primarily caters to investors and does not invest enough in quality products and services. Within funded organizations, success in the consumer market is still important, but it is secondary to how organizational resources can be continuously (re)structured to deliver constant returns to investors. The constant restructuring and constant “reorganizations” drive increased job insecurity and role insecurity, as an individual’s position and status within the organization is in perpetual flux.
As more headlines about layoffs emerge, many will be framed in corporate euphemisms related to efficiency, rights alignment and changing consumer demands. However, it is likely that the changes will favor one stakeholder over others, namely the short-term interests of the financial investors. The funding is here and the employees are already paying the price.
The views expressed here are those of the author and do not represent or reflect the views of RTÉ
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