Severance Season: What's Really Happening

Every week, another headline appears: "Company X is cutting jobs because of AI."

What started as a normal vacation ended abruptly.

A client was on a tour in Paris with his family when he got an email that a call with his manager was urgent. They'd always had a great relationship, so the frigidity of the tone was a little confusing.

During annual reviews, I always ask one question, because it's critical to stress testing the financial plan:

How certain are you that you'll be here next year?"

I've worked with enough corporate employees to know that the guillotine falls without warning and without cause.

In one recent severance situation, there was little concern about who would pick up the work left behind — "the survivors will take care of it."

When asked the question in our last annual review, he answered, "I'm 100% certain I'll be here in one year." He'd never worked at a publicly traded company before, and he'd come in through an acquisition. They were doing great work and he was excited about the future. His total compensation — with bonus and stock — exceeded seven figures.

We ran the layoff hypothetical anyway, just as a precaution.

The call with his manager was quick: "Thank you for everything you've done for the company. Your services are no longer needed. Here's your package, and your last day is Friday."

As stock-based compensation makes a bigger dent in company financial statements, expensive employees end up in the crosshairs. Veteran employees at publicly traded companies know this, and there's a persistent fear that they might be next — the more expensive and the more senior you get, the risk increases of an unexpected exit.

AI has become the latest justification for reducing headcount and eliminating some of the most expensive people on the payroll.

The narrative is simple: AI creates efficiency, fewer people are needed, and layoffs are the inevitable result.

But the savings don't always show up where companies claim. In many cases, stock-based compensation keeps growing while the work is simply redistributed among the employees who remain.

It's the Hunger Games of corporate finance.

Severance

Fans of Apple TV's Severance know the premise: workers arrive one day and discover their work lives and personal lives have been completely separated.

Today's version is less fictional. Employees arrive to find that their careers have been separated from the companies they helped build.

The more important question is: “Have you prepared for the possibility that you might not be here next year?”  

In the last three months alone, we've reviewed multiple severance packages, helping clients move seamlessly into the next chapter of their lives.

The frameworks companies use are similar even though there's no legally mandated "standard" severance.  The exact severance package often tells you as much about a company's risk concerns as it does about its generosity.

If there's one takeaway, it's this: don't wait for the call to find out where you stand.

A severance simulation — run before you ever need one — is one of the simplest ways to know how fit your financial plan is in the face of adversity.  

The Stress Test

Simulating financial hardship is relatively simple.

The outcome is the same regardless of the catastrophe – total loss of income is the worst-case scenario. It is why pilots train in flight simulators for the uncomfortable so that if it ever happens, the brain has already pre-programmed the response.  It is not pleasant but it is also not new.

Step 1 in the simulation – turn off the income.

Step 2 is understanding how your Lifestyle Cash Flow will change if your employment stops.

It is simply the money to support the life you live -- home, mortgage, insurance, tuition, vacations, food, and fun. We track fixed and variable expenses separately because some expenses have flexibility and others do not.   

Lifestyle Cash Flow answers a practical question: month to month and year to year, how much do you need to keep your mortgage paid, kids in school, insurance paid and food on the table without wages?

This is expressed as Personal Profitability below.  

Step 3 determines how long you can live without wages.

This is where you test the strength of the balance sheet. Liquidity is never a concern until it is a concern. Cash, after tax investments all check the box.

You can sell vested RSUs but you can’t sell real estate, cash in your 401(k), or 529 plans, etc. They look great on the balance sheet but they don’t help in a crisis.  That is sometimes why maxing out every tax-deferred plan can be too much of a good thing. It can make your balance sheet weak. 

What happened?

The story above does have a happy ending, but it wasn't without discomfort.

They had two and a half years of liquidity to survive on, and they needed every bit of it. The job market was rough. He took one job that didn't work out. Cash balances started to dwindle, but they had the brokerage account as a backup.

We set a six month target to revisit the decision to sell or keep the home. The mortgage was over a million dollars, but they had been smart about making a large down payment at acquisition, so there was $2 million of equity in the home. If they sold, they could take that $2 million and pay cash for a new home. We ran various scenarios and found they could make it one more year without selling. The home was in a desirable neighborhood, and as long as the market held, they felt comfortable they could make the swap later if needed.

They also had a backstop: taking the kids out of private school and into public school. Vacations were cancelled, and that austerity would extend their runway from one year to two. The decision to keep the home and wait for the right opportunity was made knowing they had the resources to back it up.

The first six-month check was bleak.

Months went by without an interview. But it was worth the wait. He is now back in the C-suite of a well-funded, rapidly growing startup. His salary is half of what it used to be, but he's earning equity in a company on the rise. They could afford to keep the home, keep the kids in private school, and recalibrate their personal spending to support their lifestyle cash flow. The strong balance sheet gave the family the leverage to wait for the best opportunity — and it paid off.

Have you run your layoff simulation?  

If not, it might not be a bad idea to put yourself in the uncomfortable position just to make sure your balance sheet is battle tested. 

Let's talk.

Important Disclosures

Mutual fund performance figures shown are net of each fund’s internal expenses, as reported by the fund company or third-party data providers (e.g., Morningstar, Bloomberg), and no separate investment management or advisory fees are deducted at the 401(k)-plan level in the performance shown. Investment return and principal value will fluctuate, and fund shares, when redeemed, may be worth more or less than their original cost; past performance does not guarantee future results and is not a guarantee of future returns. Performance information is presented for illustrative and educational purposes only and does not represent the results of any specific participant or account, as individual results will vary based on investment selection, timing of contributions and withdrawals, and other factors. 

This material is intended for general educational purposes only and is not individualized investment, tax, or legal advice, does not take into account your particular objectives, financial situation, or needs, and is not a recommendation to buy, sell, or hold any security or to implement any specific strategy; before making any investment or distribution decisions under your 401(k) plan, you should carefully review your plan documents and consult with a qualified financial professional.