The Free essays given on our site were donated by anonymous users and should not be viewed as samples of our custom writing service. You are welcome to use them to inspire yourself for writing your own term paper. If you need a custom term paper related to the subject of Economy or Downsizing, you can hire a professional writer here in just a few clicks.
The economy was strong, inflation was falling, and real GNP was growing at a steady, confident pace. Corporate profits had reached historically high levels, and investors were on a buying spree in the stock market, pushing it from one record close to the next. Unemployment had fallen to a level that many economists felt was consistent with non-accelerating inflation. Expectations of inflation were abated, and the boom seemed to be poised to last for a long time, with no economic downturn in sight. At the same time, the major corporations in the US appeared to be firing workers by the hundreds of thousands, and job insecurity had risen to a surprisingly high level. Regardless of seniority, the company's profitability, or the surging demand for the firm's outputs, the threat to an employee of finding a pink slip in the next pay envelope was real and widespread. No job seemed safe. The above statements, describing the US economy in the mid 1990s, seem inconsistent not only with a standard textbook characterization of an economic boom, but also with any historically observable relationship between the labor market and other economic arenas, such as the financial market or the goods market. Politicians and unions pointed to the greed of corporate America, and the insensitivity of management to the contributions and value of workers. Standard microeconomics was at a complete loss to explain the phenomenon. If strong firms were anticipating a greater demand for their products during the economic boom, and labor costs were not rising excessively relative to productivity, why were firms firing workers? The term "downsizing" was coined to describe the action of dismissing a large portion of a firm's workforce in a very short period of time, particularly when the firm was highly profitable. In a standard downsizing story, a profitable firm well-poised for growth would announce that it was firing a large percentage of its workforce. The equity market would get excited, and initiate a buying frenzy of the firm's stock. This goes counter to a standard micro-economic analysis, in which a weak firm anticipates a slump in the demand for its products, and lays off workers, while a strong firm foresees a jump in the demand for its products, and hires more workers to increase production. Investors care about downsizing, since it contains severe implications for the short-term profitability and even the long-term growth of a company. A downsizing is quite unlike a traditional layoff: in a layoff, a worker is asked to temporarily leave during periods of weak demand, but will be asked back when business picks up. In a downsizing, the separation between a worker and a firm is permanent. A downsizing is also not a dismissal for individual incompetence, but rather a decision on the part of management to reduce the overall work force. Through a downsizing, the management inadvertently (or perhaps deliberately) signals to investors what the future economic health of the firm is. In the 1980s, the largest layoffs were executed by weak companies, who were losing market share to foreign firms, or had large drops in demand for their products. Downsizings were clearly regrettable, but understandable, as they helped the firms to survive. Such a large amount of workers was certainly unnecessary for a firm doing a smaller volume of sales, so the workers were released in large numbers over short intervals of time. Investors noticed that major layoffs were taking place, and downgraded their expectations of the firm's future profitability, so they dumped the stock. Yet, this perfectly logical explanation seems inconsistent with what was actually taking place in corporate boardrooms and on the trading floors of the New York Stock Exchange of the 1990s: the companies ridding themselves of workers by the thousands were strong, and had bright economic futures ahead of them. Upon learning of downsizings, the alleged signals of firm weakness, investors went on a buying spree, and sent the company's stock price soaring. This paradox leads to the first two questions addressed in this thesis: 1.Why does the value of a firm increase when it announces a downsizing, especially since downsizing is supposedly a signal of rough economic times ahead? 2.Why do strong firms lay off workers in a boom, but not in a recession? Another simultaneous-and possibly related-phenomenon in the 1990s is the popularity of a new form of compensation for executive management. Instead of being paid in cash, many are now compensated in stock options. If downsizing as a strategy increases equity value (investors buy the stock of downsizers), then it increases management's compensation, and appears all the more attractive. This leads to the next issue, which seriously questions an ideology which both academics and businessmen hold dear: that stock options improve firm value by aligning the interests of owners and managers. This thesis will show that stock options are not the cure-all that many claim them to be: 3.Did the proliferation of stock options in executive compensation contribute to the wave of downsizing, especially downsizing that engendered short-term gains, but reduced long-term firm value? By re-aligning management's interests with stockholders', the managers care more about the perceived value of the firm, not the actual value of the firm. The stock price is based only on the perceived value-a function of the limited information which shareholders can obtain. Managers will undertake strategies that will improve the perceived value of the firm, and to the extent that the two are correlated, as a by-product, management may or may not improve the actual value of the firm. This raises an ambiguity about the relationship between downsizing and the actual strength of a firm: 4.Is downsizing a signal of the strength of a firm? If so, why do firms in similar situations in a given market follow markedly different employment policies? Lastly, downsizings may or may not be surprising to the extent that they are anticipated or accompanied by other news pertaining to earnings or mergers. There may be a systematic under or over-reaction to a given news variable. The downsizing announcement is relevant if it changes the expectation of the future cash flows that a stock will generate: 5. Does the stock market under or over-react to a downsizing? If so, what should an investor do following the announcement of a downsizing? The next section will present how this paper will address each of these issues, and offer solutions, answers, and commentary. I.2. Scope of the Downsizing Study Utilizing theoretical, empirical, and strategic arguments, this thesis will probe the downsizing craze of the 1990s, and offer explanations to the issues and paradoxes presented above. The thesis will consistently emphasize the importance of the information flow between the firm and its investors in determining the stock price. The two major topics to be addressed are (1) when and why do managers utilize downsizing as a strategic technique, (2) how do (or should) stockholders react to this news. Chapter II focuses on the history of downsizing as a fad, from its inception in the 1980s, when only moribund firms downsized, to the mid 1990s, when all kinds of firms downsized. The macroeconomic impacts of downsizing will be addressed by examining its impact on inflation. This has serious implications for equity values in the market as a whole. The remainder (and bulk) of the thesis will focus on the microeconomics of downsizing: why individual firms make the choice to fire a large quantity of their workers all at once. Chapter III offers an event study, and examines whether or not downsizing actually constitutes relevant news to the equity value of a firm. Downsizing is shown to be a rare event in the evolution of a stock price. Using stock returns for the 38 most notorious downsizings, news pertaining to the downsizing is proven to have no statistically significant impact on the stock return. The number of workers fired however, tends

Our inspirational collection of essays and research papers is available for free to our registered users

Related Essays on Economy

Problem with American Schools

Education is the key to any countries economic success. For a country to be economically sound, the business and industry within that country must be financially prosperous. In today's ...

read more
A report on American economics

Most of the problems of the United states are related to the economy. One of the major issues facing the country today is social security. The United States was one of the last...

read more
Economic Growth

Economic Growth is defined as the way that the real income of an economy increases over time. This generally signifies that the economy is wealthier and producing more, individuals are bet...

read more
economics and comupters

Computers & Economics In the business world today, computers and the software applications that run on them basically control a well organized business. Every major company is equ...

read more
Elements of Successful Organizational Diversity Management

Why is organizational diversity important? Historically, diversity in the workplace has been recognized as an employment equity issue. Now, however, diversity in the workplace is be...

read more
European Economic and Monetary Union (EMU)

On January 1, 1999 11 countries agreed that 2002 would mark the year that the Euro replaces the national currencies. Here we have another year for an absolute. By 2002 a single curre...

read more