It’s early 2023. All the big tech companies have done at least one round of layoffs1. Many midsize tech companies have as well. The rationale for layoffs at smaller startups that aren’t yet revenue positive is simple: cut costs and try to get to profitability faster. But why are big tech companies that make billions of dollars every quarter also laying people off?
- Revenue for big tech companies increased drastically during COVID
- Costs (dominated by headcount), grew to match, but on imperfect time delay
COVID roughly started in March 2020, but the tech hiring boom didn’t really start until late 2020 or early 2021, some time after revenue growth started exploding due to everyone being stuck at home coupled with the zero interest rates.
As revenue grew, companies hired to scale their operations and deal with the increased customer count and product usage. Once vaccinations were widely available and more people ventured out of their homes, revenue growth for many big tech companies settled back down into a more regular growth rate. Once again, there was a time delay for companies to slow down their hiring. This created a period where costs were growing more than revenue, decreasing the relative margins, even if revenue and profit overall were going up. In the graph, you can see this as the green line between the revenue and costs curves before COVID, and after COVID.
The biggest cost for the big tech companies is employees. So to work back towards their previous margins, companies laid off employees. Why do companies care about their margins so much? Public companies need to either constantly grow revenue or increase margins over time to maintain (and grow!) the value of their stock over time2.
Does this mean most of the layoffs were well executed? Definitely not. Did some leaders exacerbate the problem by hiring too much and waiting too long? Absolutely. Should they be held accountable? Yes.
It is a bit odd that the non-tech parts of the economy seem to have a worker shortage, while tech is doing layoffs. But it’s straightforward public company math that explains how we got here.