How Microsoft's Job Cuts Will Affect the 'Shadow Workforce'

The company indirectly employs a large number of vendors and contractors who will now work under new rules.

Jul 24, 2014 at 8:10AM

In addition to the 18,000 workers Microsoft (NASDAQ:MSFT) will be eliminating, the company also plans huge cuts to its so-called "shadow workforce" -- the vendors and contractors that work for the company without actually being employed.

Vendors and contractors are plentiful at Microsoft, with GeekWire estimating the number to be 70,000. To put that into perspective, the company had about 130,000 direct employees before the layoffs. Known as contingent staff, these "shadow" workers are not reported as part of the company's workforce because they are employed by outside agencies for jobs at Microsoft. In many cases, the contingent workers report to Microsoft offices every day. 

The company has not detailed its plans for contingent worker cuts, but it did send employees an email about radical changes to how contingent staff is employed. The moves show that CEO Satya Nadella is willing to shake up the company's culture in ways that would have seemed unthinkable under previous CEO Steve Ballmer.

How contingent staff worked
Until the policy change, Microsoft has had three types of workers. Full-time equivalents, or FTEs, work directly for the company and sit at the top of the totem poll. They get Microsoft benefits, company stock, and access to a very nice system of perks. Vendors and contractors may work in Microsoft offices, but they are employed by outside agencies. In many cases, they do the same work as their FTE counterparts, but under a different employment arrangement.

The agencies that employ contingent staff make their own deals with workers. In some cases, two vendor-class workers doing the exact same job can have different arrangements. In the year I spent working on the Windows 8 news and finance apps as a vendor, I worked for an agency that offered paid vacation, decent health coverage (though in no way equal to what Microsoft FTEs get), and a 401K match. Some of my vendor co-workers were employed by a different agency, and they did not get paid time off. They received other perks, or a slightly higher wage, to make up the difference, but the terms were different.

Under the old system, vendors and contractors were identical except for one key thing: Contractors could work for a year and then would have to take a mandatory 100-day break. Vendors could work indefinitely, and some have been working on projects for years. 

The system has its quirks, but it gives Microsoft flexibility to hire staff for projects without swelling its permanent labor pool. Still, the long tenures of some vendor positions and the 100-day break for contractors creates a three-class system within the company. 

What is happening now
A new memo that was leaked to GeekWire outlines changes to the program. There is now a limit to how long contingent staff -- both vendors and contractors -- can work before they must take a prolonged work break. 

Here's a piece of the email: 

The purpose of this mail is to introduce a new policy that will better protect our Microsoft IP and confidential information. The policy change affects US-based external staff (including Agency Temporaries, Vendors and Business Guests) and limits their access to Microsoft buildings and the Microsoft corporate network to a period of 18 months, with a required six-month break before access may be granted again. If your staff does not have Microsoft building or network access, this policy change will not apply to or impact them. The policy went into effect July 1st, 2014.

The IP argument appears a little flimsy. During my roughly 18 months as a vendor, I had access to Microsoft IP, including the not-yet-released Windows 8. Had I wanted to compromise that intellectual property, I could have done so from almost my first day there.

The contingent staff policy was always a workaround. It helped departments get around staffing limits and let the company have a huge cushion against reporting layoffs. Microsoft can cut vendors and contractors without notice and with limited cost. This may not be true of all vendors, but none that I knew signed contracts that bound the company or employer for any length of time. My two deals were for six months and an agreed-upon amount of hours. If Microsoft did not schedule me to work for those hours during the six-month period, I was not paid for them. I could also leave without notice or penalty.

If Microsoft lays off even a few hundred FTEs, it makes the news. If the company terminates the contracts of thousands of contingent staff, nobody notices. 

Short-term pain could be long-term good
This new policy represents an overall change in company philosophy and a push toward using contingent staff for short-term projects, rather than as a way around headcount caps. That makes sense, as the company's permanent workforce should reflect the amount of permanent workers it actually needs.

The change may also be a proactive way to protect from the legal liability created when workers remain on contract for long periods of time doing the same work as regular employees. This so-called co-employment risk can leave a company exposed to lawsuits that would attempt to establish that contingent workers are eligible for benefits received by direct employees. 

These changes will shrink the "shadow workforce" greatly, but it could also create FTE jobs for contingent workers performing roles that are essential. In any case, it should mostly eliminate the company's three-tiered employment system and the resentments it created. In the previous system, contractors resented vendors, since vendors didn't have to take a 100-day break after a year. And just about any contingent worker resented the pay and benefits of FTEs.

At very least, the new policy turns Microsoft into a two-tiered system. But the changes should go deeper than that, and the company will make moves to directly employ some of its longtime vendors who have been a key part of Microsoft's success. If the company does not do that, it has just put a time clock on thousands of deeply experienced workers with an enormous amount of institutional knowledge.

That's an expensive way to save money, and Nadella has shown himself to be smart enough that it seems unlikely he will force the best vendors and contractors out the door. Instead, Microsoft will likely quietly move some of its best long-term contingent workers into FTE positions. 

This is a company going through a lot of short-term pain, but the end result should be a stronger, more cohesive, comparatively lean and nimble Microsoft.

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Daniel Kline is long Microsoft. He left his vendor job at Microsoft willingly to pursue a staff opportunity at The Boston Globe. The Motley Fool owns shares of Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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