Bookkeeping Considerations When Downsizing a Business

The word ‘downsizing’ is often accompanied by a cloud of negative connotations, but it is rarely the result of poor employee performance or leadership mismanagement. Instead, downsizing usually results from other factors like an economic slowdown, overcrowded market, plant closure, or manufacturing outsourcing. Downsizing is simply part of running a business, just like managing rapid growth, which means that leadership must plan, manage, and execute it correctly.
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At the most basic level, managing downsizing requires four steps: developing selection criteria, determining how much notice to give, providing outplacement support to employees that have been let go (where applicable), and protecting employee productivity and morale among retained workers. These activities are typically considered part of HR’s purview, but downsizing has implications that trickle down into other areas of the business. There are numerous bookkeeping implications during downsizing as well. 

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Evaluating Layoff Alternatives
If involuntary layoffs can be avoided, that is obviously preferable. Things like remote work, voluntary layoffs, early retirements, furloughs, sabbaticals, a hiring freeze, pay reductions, and bonus suspensions are all ways to prevent involuntary layoffs (and much of the negative sentiment that goes along with them). However, analyzing layoff alternatives requires an understanding of the financial implications. HR personnel should not be siloed during this process because the health of the overall organization needs to be considered when making these types of strategic decisions. Accountants and bookkeepers should be consulted with during the planning process to get a full picture of the cost of each scenario.
If any layoff alternatives can achieve the same business objectives as involuntary layoffs, analyze the associated financial implications, and proceed with whatever combination makes the most sense for the business.

Remote Work
Remote work is a popular choice among layoff alternatives because it is the easiest way to reduce expenses without taking on legal risk. Jill Pappenheimer, a Partner with HR Consulting Practice, sheds light on the financial advantage by saying, “With commercial office leases typically composing anywhere from two to as much as 20 percent of a business’s revenue, there is unquestionably prime opportunity here to reduce expenses.”  This is shift is something that many organizations were forced to undertake this year, but many will likely continue long afterwards due to the cost savings related to forgoing the office.

Furloughs
Furloughs allow businesses to get back to normal operations much more quickly than layoffs because they place the workforce on standby to free up cash immediately without incurring layoff-related costs like severance packages. This makes furloughs a flexible option for organizations that want to free up cash to remain agile.

However, Jill Pappenheimer cautions, “Accountants should make clear that just because furloughs allow companies to avoid the costs associated with layoffs, that does not [mean] furloughs are completely ‘free’ either. For instance, per federal law, businesses that institute furloughs lasting one or more full workweeks do not have to pay salaried, overtime-exempt employees their usual weekly salary. However, if the furlough lasts less than a week, and any salaried employees have worked at all that week, the employer must pay those employees their full weekly salary.” These kinds of financial intricacies must be conveyed to decision-makers while layoff alternatives are being considered to inform strategic decisions.

Pay Cuts
Pay cuts are likely to be an unpopular choice among employees, but if it can save jobs, it is a strategy that should be considered. Cutting pay is complicated for exempt employees because while the number of pay periods they work can be reduced, their pay cannot be reduced for an individual pay period. As a result, this strategy is typically a better option for nonexempt employees. Proper classification of employees is a crucial starting point before discussing whether their pay can be reduced enough to generate positive cash flow for the business. An accountant can ensure that employees are being classified as exempt or nonexempt in keeping with federal regulations.

Payroll
As employees are let go or furloughed, have their pay decreased or bonuses suspended, or see their hours reduced there are accounting considerations to keep financial statements accurate. Payroll must be adjusted when utilizing a layoff alternative strategy, which will ripple through to benefits calculations as well. These changes must comply with state and federal guidelines to avoid legal issues. An experienced bookkeeper or accountant will have the financial acumen to make the necessary changes to the books in conjunction with these types of changes.

Expenses
The cost of severance packages and outplacement services needs to be properly reflected on financial statements. The costs may be one-time expenses when employees are let go, or they may be ongoing expenses for an extended duration after the layoff. The longer they remain on the books, the more important it is to get them right to maintain the ongoing accuracy of financial statements.

Smaller companies may also outsource HR and legal functions when downsizing to mitigate business risk, which carry associated expenses that must be categorized correctly on the balance sheet.

Forecasting
Accountants must adjust expected numbers to reflect the available output from the newly trimmed workforce and look for ways to increase capacity and efficiency to maintain as much production as possible with less staff. Additionally, financial projections should consider the impact that downsizing can have on employee productivity. While these can have short-term impacts, there are also long-term forecasting implications to consider as well.

Future hiring may also be affected if brand damage is done during the downsizing process, which is something that will need to be understood from a financial perspective. Even if layoffs are well executed, employees are far less likely to return to a business after they have been laid off than they are if they have been furloughed, which means finding qualified employees may be difficult depending on the local job market. Longer hiring cycles can result in significant cost to the business, which needs to be reflected in forecasting.

If your downsizing is due to a downturn in the market, you will likely benefit from hiring an accountant or outsourcing your financial functions to an accounting firm. An experienced accountant can help your business weather a recession and come out poised for long-term growth.