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Are we in the midst of a “Patagonia Vest Recession?”

BACKGROUND

Amazon became the latest major technology company to announce plans to lay off about 10,000 employees, its largest round of job cuts yet. They’ve joined the likes of Twitter, Meta, and other tech giants that have also announced significant major layoffs. A few short months ago, the dominant economic news story surrounded worker shortages and the struggle to restaff to pre-pandemic levels. So, what gives? Is this trend likely to accelerate? Will other industries be implicated?

Some economic contractions are driven by reductions in consumer spending which hits blue-collar employees, such as truck drivers or construction workers, first.

Other recessions, like the dot-com recession of the early 2000s, hit white-collar workers the hardest and had little implications for the overall economy.

Scott Galloway has been calling the current situation the “Patagonia Vest Recession” in that it will primarily impact information worker jobs the hardest. The below table shows information for companies that have announced layoffs in the last few months.

Major Tech Layoffs In Past 90 Days

According to Scott Galloway, many of these companies over-hired during the 2019-2022 growth period, and rising interest rates meant the cost to finance that growth got more expensive. In addition, rising rates also meant that future earnings potential was also discounted at a higher rate. In essence, it now costs more to get to cash flows worth a lot less, impacting the stock price and leading to ongoing job cuts.

For technology companies, the most expensive fixed cost is usually labor, as they tend to have low levels of physical capital, such as factories, but high levels of investment in human capital, i.e., the highly educated workforce that are being laid off en masse. This can be measured by looking at a company’s operating expenses, specifically the SG&A or Selling, General & Administrative expenses which cover nearly all business expenses that are not directly attributable to making a product or performing a service. These typically include salaries, rent advertising, marketing expenses, and distribution costs—first things cut when companies get serious about belt-tightening.

Below is a table showing the valuation metrics discussed above for companies that have announced recent job cuts. Many companies in this list have grown their headcount from year-end 2019 to year-end 2021, and in many cases, the revenue growth was not proportional to employee growth. In many instances, the SG&A expenditure outstripped the employment growth, meaning that every additional employee added more expenses than they could bring in as revenue. Thus, the wave of job cuts we are currently seeing.

Valuation Metrics 2019 – 2022

Since many of these technology companies are new ventures started and backed by young entrepreneurs, their working knowledge of the dot-com bubble, a structural market decline, or what happens in a technology bear market is limited. They were in grade school in 2001; recessions were something that happened to their parents—not them (though Zuckerberg, who was 17 in 2001, has been no stranger to layoffs).

CONCLUSION

This recession-like environment is similar to the bursting of the dot-com bubble in the early 2000’s recession in that rising interest rates dried up venture capital, shifting investor mentality from “growth-over-profits” to one where irrational exuberance could no longer be tolerated. The dot-com bubble led to the NASDAQ 100 plummeting 78% from peak to trough, and except for a glut of programmers concentrated in a handful of cities, most of the “real economy” was surprisingly resilient. These growth technology firms were hoping for a V-shaped rebound that failed to materialize, and now, leadership must make tough decisions.

Download the full article here.

Thomas Galvin is the Director of Research for Stream Realty Partners’ Southwestern Region. He is a real estate economist with a focus on understanding and explaining macroeconomic trends through a commercial real estate lens.

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