Most financial plans assume a single expected future. But when labor is the largest cost in the business, planning around one outcome creates risk. Building long-term labor cost scenarios allows finance leaders to stress test workforce structure before financial pressure emerges.
Most financial plans are built around a single version of the future: The expected version, the one where revenue performs as projected, costs grow at a manageable rate, and the decisions made last year continue to make sense next year.
That version of the future is useful as a planning anchor, it is not useful as a risk management tool. Because the businesses that get into serious financial difficulty are rarely the ones that failed to predict the expected outcome. They are the ones that had no plan for the outcomes that were always possible but never modeled.
I am Josh, and welcome back to the City Shift Finance podcast.
What I want to talk about today is scenario planning for labor costs. Specifically, why most organizations do not build long-term labor cost scenarios, what that gap costs them, and what a more disciplined approach actually looks like in practice.
Labor is the largest cost in most businesses. In service-oriented organizations it can represent sixty to seventy percent of total operating expense. That means the decisions that shape labor cost over a two or three year horizon are among the most consequential financial decisions the organization makes. And yet most labor cost planning stops at the next budget cycle.
The reason is partly structural. Budget processes are annual. Finance teams are measured against near-term targets. The pressure to hit this year's numbers crowds out the thinking required to stress test next year's assumptions. So labor cost is planned one year at a time against a single expected scenario, and the range of outcomes that could actually materialize is never examined.
“The organizations that avoid labor cost crises are rarely the ones with perfect forecasts. They are the ones that planned for outcomes beyond the expected scenario.”
Here is what that gap produce: A business builds a workforce structure calibrated to its expected revenue trajectory. If revenue performs as planned, the labor cost structure works. If revenue comes in significantly below plan, the organization discovers that its labor cost base was built for a scale it is no longer operating at these cuts that follow are reactive, disruptive, and more expensive than they would have been if the exposure had been examined in advance.
Long-term scenario planning for labor cost changes this entirely. Instead of one plan built around expected revenue, you build three. The expected scenario. A downside scenario where revenue is meaningfully below plan. And an upside scenario where growth accelerates faster than expected. For each scenario, you model what the labor cost structure needs to look like. What roles are required. What the total cost is. Where the gaps and surpluses are relative to the current workforce.
This is not a complex analytical exercise, it is a disciplined one. It forces a specific question that most organizations never ask explicitly. If our revenue comes in at seventy percent of plan over the next two years, what does our labor cost structure need to look like to remain financially viable. That question, answered in advance, produces decisions that are qualitatively different from the ones made under pressure when the scenario is no longer hypothetical.
The other dimension of this is workforce flexibility. Organizations that build long-term labor cost scenarios also tend to build workforce structures that have more flexibility built into them. Not because they are pessimistic about their growth trajectory, but because they understand that a workforce that can scale efficiently in both directions is financially more resilient than one that was built for a single outcome.
That flexibility shows up in different ways depending on the business. A higher proportion of variable compensation relative to fixed. A more deliberate mix of permanent and flexible staffing arrangements. Investment in cross-training that increases the organization's ability to redeploy capacity when demand shifts. None of these are radical interventions. They are structural decisions that reflect an honest view of the range of futures the business might actually face.
The question worth sitting with is this. Does your current labor cost structure reflect a single expected scenario or does it reflect an honest assessment of the range of outcomes your business might face over the next two to three years. Because the gap between those two approaches is where most labor cost crises originate. Not in the bad year. In the planning that happened in the good years before it.
Thanks for tuning in.
