How to Control Labor Costs Before They Control You

When times are tough, companies look for ways to cut costs. Labor costs are often one of those cuts. An article from management consulting firm Strategy& suggests a way to retool labor costs. But will their proposal help or hinder businesses heeding their advice?

The Booz article sub-headline suggests, “Despite years of cutbacks, many companies’ pay structures are still unbalanced. Here’s a dispassionate, logical way to realign them.” Booz suggests to use market wage rage analysis to bring company wages to the same level as what ‘the market’ pays. They put particular emphasis on long-time employees who may be paid far more than their peers by virtue of simply having been there longer:

1) Appropriate job categorization and responsibility adjustments – for workers paid beyond market rate, reassign and retrain workers to an area suitable for their pay grade.
2) Voluntary separation – asking employees to leave with a severance package.
3) Involuntary separation and performance management – reviewing worker performance and let the lowest performers go.
4) Wage reduction – a one time salary cut to be in line with the rest of the market.
It seems like a “dispassionate and logical” way to make cuts, and it is.  But perhaps passion and emotion need to be brought into the mix, especially when we are talking about people.

First, we are living, breathing, emotional beings. There is more a person offers any given business, than just labor. There is teamwork, loyalty, and trust to name a few. Each person has a different set of talents and experience to offer their place of employment.

As an example of this, think of two random people in the same type of position that you work with or may know. No two are alike.  Workers are not homogeneous commodities.

Second, we have to remember that market rate isn’t about the average, it’s a bell-curve. There are some companies that pay more for a given position than others, because it may benefit that company to do so. By the same token, there are some companies that pay less for the “same” position because it is not as valued at that company.

As an example, think of a CEO of a multi-billion company versus a CEO of a local shop with less than a million in revenue. It’s the same type of position, but a different pay grade. Likewise, any position, although having the same title, are not homogeneous.

My advice would be opposite that Booz suggests, and somewhat counter-intuitive. Taking the heterogeneity of both a given worker or a given position into account, Booz’s suggestions of (1) responsibility adjustment and (4) wage reduction, both fall apart.

Appropriate job categorization and responsibility adjustment is the last thing a company would want to do. The Peter Principle suggests that “in a hierarchy every employee tends to rise to his level of incompetence.” If a dedicated and loyal worker is excelling at their job, don’t move them just because their pay is higher than market rate.

Build your employee on that strength. Build your company on your employees strength. That worker may just be worth the cost (but only the company itself is the best judge of that.)

Wage reduction to be in-line with the rest of the market may seem plausible. But what if wages are below market, does the same logic follow? Does a company need to raise wage rates to be in line with the market, even during cost cutting times?

This is the counterintuitive part. Rather than look outward towards the market to pay wages like the market, a company needs to look inward and pay wages like itself. It’s fine to pay above or below market average rate. Some companies have a strong culture that attracts workers for lower pay. Other companies may need to provide more wage perks to entice workers to stay. Just don’t let the market average dictate your wage scale. Let employee productivity and loyalty with respect to the economic reality guide that decision.

What do you think? What is the best way to get a handle on labor costs? Looking towards the market, or looking within the company and the employee? What other ways are there to handle labor costs?

Image Credit: madness + gaussian curve by Rétrofuturs (Hulk4598) / Stéphane Massa-Bidal

Jonathan Mariano is an MBA candidate with the Presidio Graduate School in San Francisco, CA. His interests include the convergence between lean & green and pursuing free-market based sustainable solutions.

2 responses

Leave a Reply