Thursday, May 5, 2011

The Real Jobs Crisis

So I’ve been reading a never ending stream of news articles, analyses, and opinion pieces centered on the jobs crisis in America, but I feel that without fail, none of these articles truly grasp what we are seeing happen to the economy. Most recently, I was reading this opinion piece in the Financial Times by Richard Florida and out of everyone he comes the closest to actually grasping the current crisis. He states:
“America and other advanced nations are now in the early throes of a new jobs transformation, which requires an equally imaginative response. It creates two new distinct categories of jobs. The first includes millions of the best jobs America has ever seen: high-pay, high-skill jobs in professional and creative fields. The second, including such routine service work as care assistants and home health aids, retail sales clerks and food preparers, is less good. Pay for such jobs is roughly half that of manufacturing jobs. The result is as simple as it is tragic: a bifurcation of the job market and an increasingly unequal and polarised society.”
This analysis is spot on and is the real crisis that we are facing, but Florida then proceeds to propose a solution that makes me question if he really gets it. Basically he points to Zappos, REI and Starbucks as examples of companies who have created “career” path for that second cohort of jobs. As if providing the opportunity for a handful of those retail employees to eventually become store managers will solve everything. The fact of the matter is the problem is in the structure of these companies, not the culture, and this solution is like trying to use a band-aid to deal with a heart attack.

To illustrate what the real problem is I will go through the financials of two example companies. Google and Nordstrom. Both companies have been very successful in recent years. Picking Nordstrom as an example of the lower cohort employer is actually being extremely generous, because as primarily a luxury retailer, this company has much greater margins to work with than Wal-Mart and other big-box retailers. I went to BusinessWeek and grabbed 3 key pieces of data for both companies from their 2010 10k. Number of employees, Total Sales/Net Revenue, and Gross Profit. Gross Profit is basically calculated as Sales minus the cost of goods sold. So for Nordstrom if they sell a t-shirt for $90 and the cost for Nordstrom to acquire the shirt was $50 then they’d have a gross profit of $40. This is the money that a company has to apply to the costs of running its business, such as rent, supplies, and most importantly, wages.

Here is snapshot of how this data panned out for Google and Nordstrom in 2010:

Take a look at this for a second. While Google is only 3 times as big as Nordstrom on a sales basis, it is 6 times as big on a gross profit basis. The structure of the company is such that it is able to keep twice as many sales dollars to pay towards its fixed cost structure as Nordstrom. The next big difference is that Nordstrom needs almost 2 times as many employees as Google to run its business. The fact is that the actual difference in terms of employees needed to actually run the business is probably even greater. Google is known to be staffing up to expand into new product categories and brace itself against possible assaults from Facebook, Apple, and other tech heavy weights. Many of the employees Google has brought on board as a part of this strategy are responsible for generating little if any revenue for the company.

So what does this mean? The result is that on a gross profit basis, Google is pulling in $775k per employee compared to Nordstrom pulling in only $66k per employee. This means that if Nordstrom allocated every single one of its gross profit dollars to wages, (ignoring rent, marketing, supplies, and of course Net Income), it could only pay an average salary of $66k across its workforce. Any higher and the company is losing money on an operating basis. Google on the other hand can (and does) pay very generous salaries and still have a substantial amount of money left over for other costs and income.

Overall among retail employers, Nordstrom employees are actually fairly well payed and as a result they are known to have some of the best employees in the retail space. The margin they get from providing luxury goods allows them to pay above market wages and get the best retail employees which of course helps them to ensure a fantastic customer experience. Big discounters like Wal-Mart have lower margins, but leverage their massive scale to try and keep costs of sales down. But the problem is greatest in the small and medium sized business space where many retailers and service providers are operating with tiny margins and extremely un-automated processes. The ability of these businesses to pay high wages simply does not exist and many of these businesses are barely scraping by as is.

So what is the solution? The more I look at this the more I wonder if what we need to do is the exact opposite of the approach many politicians and economists have been taking. Rather than strive to encourage employers to take on yet more employees into marginally productive roles, further degrading the gross profit dollars per employee metrics, perhaps we should do the opposite and try to destroy jobs. And what I mean by trying to destroy jobs, is to attack the sources of unproductively in these low-economy of scale businesses to vastly reduce the workforce needed to generate the same amount of gross profit, this will allow these employers to raise wages (as indeed they will, competing for the best talent) and the lower cost structure will lead to lower prices (another way to raise real wages).

If we reduced Nordstrom’s workforce from 52k to 24k (leaving them still 1/3 as productive as an average Google employee), what happens to the other 28k people who no longer are needed at Nordstrom? Well the theory is that with higher average wages across the board and lower cost structures leading to lower prices, consumption will increase. Further, savings and investment will increase, leading to more new companies, new products, and ultimately new jobs. This process however takes time.

Further the jobs being eliminated across the board are the lowest skill jobs (most easily automated) and the new ones being created (at the leaner Nordstrom as well as at new businesses) are high-productivity jobs that are generally very high-skill requiring substantial education and preparation. We could invest as a society in jobs-retraining programs and send unemployed people back to college, but even these solutions will not work for everyone.

I’m not really sure what to do in the interim. Though it does lead me to wonder if ever higher workforce participation is really the goal we should be striving for. With years of automation in place, the cost of basic goods have never been lower and many people can and do have fulfilling lives on very low incomes. Perhaps, our goal should be the exact opposite. We should be trying to eliminate work as a necessity, to break the lockstep between work and life. Perhaps we should be moving towards a society where work is an option rather than a requirement, where once can have a fulfilling life as an artist or educator, a scientist or raise a family, without having to worry about how they are going to make a living. I'm not really sure how this would work in reality, but it is something to think about.

1 comment:

Carson said...

I'm fairly intrigued by your analysis of the real job crisis, especially since you utilized Nordstrom as an example, the company that I work for. I do have some questions about your post however. My first question is I understand the first part of your solution, in trying to make the company more efficient by retaining the talents (the people that are productive) versus the people who are not. However hasn't that been what every companies basic goal has been ever since capitalism existed? Weed out the people who are not productive and retain the ones who are, therefore finding the best talents? That's why people get college degrees to better themselves and compete with one another. Isn't that one reason why we have a job crisis in our hands because too many people are bettering themselves it is hard to even hire people who are productive, or put it in an even simpler prospective I feel like the reason behind the job crisis is that the world's population is growing at too fast of a past but, in the other hands there are less and less jobs for the growing population because people are more efficient to achieve the same amount of productivity with less people. Sorry if I don't seem like I'm making much sense.

Second question I have, this one really is a question. I didn't fully understand your second suggested solution, which was the idea of "the lower cost structure will lead to lower prices". Do you mind defining "cost structure".

Thanks again for an interesting analysis, it really got me thinking, because I've also been reading a lot of articles about our unemployment rates and job crisis, but this definitely was a nice new perspective on it. :)