Does the Stock Market Fully Value Layoff Announcements? Employee Downsizing versus Reorganizing

Contrary to popular belief, layoff announcements do not always lead to reduced employment. Using hand-collected data on layoff announcements for S&P 500 firms, I show that 32% of layoffs announced do not lead to employment downsizing. While the market, in the short run, does not react differently to announcements that do and do not lead to downsizing, firms exhibit significantly higher buy-and-hold abnormal returns in the following 300 days when their announcement leads to downsizing. I create a real-time index to predict the probability of a layoff leading to employment shrinkage and show that a simple long-short strategy based on this index will generate abnormal returns of 9.5% - 10.8%. Abnormal returns are strongest in high union coverage industries implying that when firms successfully bargain with workers to downsize, they benefit the most. I find that firms use poor performance and high leverage as sources of commitment to bargaining. Overall, my results suggest that layoff decisions, depending on their type, have important implications for long term performance and corporate policy