Declining Industry Firms Differ in Retrenchment Strategies
Firms in growth industries that face retrenchment should unload fixed assets rather than cutting costs and personnel. Firms in declining industries, however, should focus on cutting costs. Trimming fixed assets is less beneficial for them. Those are among the findings by three professors of business whose research into the impacts of retrenchment on 412 firms was reported in a recent Journal of Management. "All retrenchment is not the same," says Dr. Bert Morrow, associate professor of business administration at Birmingham-Southern College in Birmingham, Ala. "Depending on whether a firm is in a growth industry or in a declining industry has implications for whether it's best to cut costs or reduce assets."Morrow was lead author on the research. Co-authors are Richard A. Johnson and Lowell W. Busenitz, both of the University of Oklahoma. They examined only firms which, between 1980 and 1995, had experienced three years of declining performance in their returns on investment preceded by two years of increases in performance. Each firm had publicly announced its retrenchment plans.A total of 253 of the firms operated in mature industries while 98 were in declining industries and 61 in growth fields. Both cost and fixed-asset retrenchment was undertaken by 237 of the firms while 107 reduced assets only and 68 cut costs only.Firms in growth industries reduced costs an average of 3.42% while they cut assets by 6.49%, the researchers found. In declining industries, firms cut costs an average of 4.61% and fixed assets 4.05%. "The percentage of asset retrenchment is significantly larger in growth industries as opposed to declining industries," they write. "Furthermore, the percentage of cost retrenchment is significantly larger in declining industries than it is in growth industries."The results suggest that for firms in growth industries, cutting costs and staff and implementing strict cost controls reduces the level of innovation, leaving a firm vulnerable to competitors who are developing new products and investing more on market research and in marketing. "If firms in growth industries with declining performance cut people and costs while successful competitors are increasing expenditures they are likely to fall behind in innovation and lose out on customer service and market gains," Morrow says.For such firms, the results suggest that reducing fixed costs by selling assets and trimming excess production capacity can be a better choice. There is usually a strong resale market for equipment, machines and other fixed assets that may be deployed in growth industries.By contrast, under-performing firms in declining industry sectors appear to benefit when they control costs by "selectively eliminating activities to stabilize profits and gain efficiencies." In declining industries there tends to be less need to invest in research and development, production process innovations or new marketing programs, the authors say.Also, the demand for fixed assets of firms in declining industries tends to be weak. Selling assets yields less revenue and can hurt the firm's efforts to maintain share within a shrinking market. "There has been comparatively little research done on business turnaround strategies," notes Morrow. "Most of what has been done has shown that both cost and asset retrenchment are positively associated with turnaround in a firm's performance. But the research was done on a small number of firms operating in mature industries. We wanted to look at a large number of firms in both growth and declining industry sectors."This report is new this week in The Business Journal's small business how-to section. To see what else is new, click here or click on the "how-to" tab at the top of The Daily Business Journal Online home page."
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