Retrenchment among small manufacturing firms during recession

Retrenchment, defined as a set of organizational activities undertaken to achieve cost and asset reductions and disinvestment, has received strong academic and practitioner support as an expeditious means for reversing declining financial performance (Schendel, Patton, and Riggs 1976; Hofer 1980; Bibeault 1982; Heany 1985; O'Neill 1986; Robbins and Pearce 1993; Pearce anti Robbins 1994). The contemporary turnaround paradigm regards retrenchment as the first stage of a two-stage turnaround strategy. With this approach, the retrenchment phase is overlapped and often obscured by a subsequent recovery stage as the firm implements its strategic redirection. Few studies or discussions of retrenchment are able to focus explicitly on the retrenchment process alone. To date researchers have rarely studied retrenchment as a distinct strategic response. Retrenchment is of special importance to small firms during recession (Pearce and Robbins 1994; Robbins and Pearce 1993). The business press advises firms in industries where profits rise and fall with the general business cycle (hereafter called procyclical) to use retrenchment as a response to poor macroeconomic conditions (McLaughlin 1990). The alternative recommendation from the business press is to alter the scope of the firm (Altany 1991a; 1991b), but a small firm faces a higher level of undiversified risk; its success and survival are tied to its core business (Heany 1985; Ang 1991). Other strategies such as divesting a strategic business unit, diversifying into a more stable business, or smoothing operating distress with short-run financing from a parent company are not generally available to the small firm. Also, the potential confluence of personal and firm income and the weakening of limited liability makes recession survival very important to small businesses and their owners (Ang 1992). Therefore, it would seem that small firms need to understand retrenchment as a possible response to poor macroeconomic conditions. This article studies small firms' use of retrenchment in recession. The research is both descriptive and prescriptive: we describe how small firms retrench, and we test why they do what they do. Specifically, we study firms in the procyclical durable goods industries over the duration of the most recent business cycle (1987-1992) to address the following research questions: (1) Is retrenchment prevalent among small firms during recession? (2) Which cost, asset, and human factors of production(1) are priorities for retrenchment? and (3) Can theory explain the choice of factors targeted for retrenchment? Retrenchment Empirical Foundations Retrenchment is frequently observed among successful turnaround firms (Ansoff 1979; Hofer 1980; Goodman 1982; Bibeault 1982; Altman 1983: Slatter 1984; Sloma 1982; O'Neill 1986; Robbins and Pearce 1992, 1993; Pearce anti Robbins 1994). For the firm confronting severely declining performance, restoring profitability and stabilizing operations almost always entail pursuing strict cost reduction measures followed by a shrinking back to those segments of the business that have the most likely prospects of good margins (Hofer and Schendel 1978; Hambrick and Schecter 1983; Hambrick and Crozier 1985; Bailey and Szerdy 1988; Finklin 1989; Dumaine 1990). Although operational definitions of retrenchment strategy have varied among researchers, all have viewed cost and asset reduction as essential components. Major field projects by Hofer (1980), Hambrick and Schecter (1983), and Robbins and Pearce (1992) describe the essence of retrenchment. Hofer (1980) conducted case analyses on twelve poorly performing firms and identified three successful operating turnaround strategies: cost reduction, asset reduction, and revenue-generation. In a large sample study, Hambrick and Schecter (1983) found significant numbers of firms following the retrenchment strategies of cost reduction or asset reduction, but revenue-generation was not found. …