Page last updated at 00:26 GMT, Wednesday, 7 January 2009

The financial cost of redundancies

By David Knight
Associate Partner, KPMG

David Knight
David Knight says companies have to consider redundancies carefully

Reports of big job cuts are now an almost daily occurrence as the credit crunch hits both consumers and businesses hard.

Redundancies can sometimes be seen as a quick fix as employment costs often represent a significant slice of a company's operating overheads.

But it can be very challenging to reduce the number of employees, particularly in a unionised workforce.

Furthermore, a redundancy programme can lead to problems when the upturn eventually arrives.

Past lessons

In the last recession some employers learned to their cost that stripping out headcount in a knee-jerk manner made it very difficult to grow the business when economic conditions eventually improved.

This time round, many organisations are exploiting alternative approaches to reducing their employment costs, either as an alternative to cutting staff numbers or in combination.

The options to cut employment costs without actually making redundancies include:

  • Limiting external recruitment, promoting redeployment and retraining.
  • Changing policies on absence, working hours, and working practices that would reconfigure employment policies and terms and conditions of employment. This is aimed at reducing costs or barriers to efficient working.
  • More effective management of the mix of full-time and part-time workers, permanent and temporary contracts, use of agency workers, and outsourcing contracts.
  • Reviewing National Insurance and the tax efficiency of employee benefits.

Sometimes, the only option is to reduce operating costs through redundancies.

While they can produce significant savings over a relatively short time frame, employers must navigate through statutory and contractual obligations.

They also risk unknowingly annoying the existing workforce and damaging their reputation and brand in the market.

Common errors

Breaking statutory and contractual obligations can result in significant financial penalties. So it is essential that companies understand the legal rules.

It is illegal to select people for redundancy on the basis of their disability, sex, race, religion, sexuality or age

Common errors include failing to consult with employees.

On occasions, the criteria for who to select for redundancy fails to comply with regulations.

It is illegal to select people for redundancy on the basis of their disability, sex, race, religion, sexuality or age.

Length of service - but not age - does, however, appear to be acceptable as part of a selection process for a redundancy in some cases.

There are also market reputation and brand considerations.

The business should communicate with staff so they understand why redundancies are needed. This should be the same message told to those outside the company.

A good relationship with the trade unions representing employees is vital to create the right conditions for consultation and to minimise the risk of industrial action and disputes.

Financial costs

Deciding how much to offer the people who are being made redundant is often far from simple.

City workers
The City has not been immune to workers being made redundant

The financial terms to be offered to displaced employees may be influenced purely by affordability, contractual obligations or custom and practice.

Some organisations opt to pay more generous packages to encourage workers to sign up voluntarily.

It is vital to be aware of the cash-flow impact of a redundancy programme and to forecast the costs of redundancy against alternative exit strategies.

All potential costs should be considered, including statutory or company redundancy terms, pay in lieu of notice, National Insurance, accrued holiday, and outplacement.

Understanding the expected pay back period helps management make informed decisions on redundancy as a solution to cost reduction.

For example, in some cases it could take at least 6 months to recover the costs of redundancy in savings from a smaller workforce.

The opinions expressed are those of the author and are not held by the BBC unless specifically stated. The material is for general information only and does not constitute investment, tax, legal or other form of advice. You should not rely on this information to make (or refrain from making) any decisions. Always obtain independent, professional advice for your own particular situation.

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