Employee Ownership as a Retirement Plan
As the amount of employee stock in retirement plans exploded in the mid-to-late 1990s, there appeared major articles in the Wall Street Journal, the New York Times, Business Week, and other publications on the subject of whether employees are counting too heavily on employer stock as part of their retirement plans. At Carter Hawley Hale, for instance, employees were strongly encouraged (some say pressured) to invest in company stock in the company's 401(k) plan. The company's matching contributions were also in its own stock. The company suffered through years of economic decline before declaring bankruptcy in 1993. Thousands of employees' retirement plans were wiped out.
These stories raised an important concern. If employees are basing their retirement mostly on the stock of their own company, are they making a foolish choice? And if so, what should employee ownership companies do about it?
The frequent glib reply to this issue is to quote Andrew Carnegie, who reputedly told a young man that to grow rich he needed to "put all his eggs in one basket and watch that basket very carefully." Frankly, that's not very good advice for saving towards retirement. First, unlike Carnegie or the young man, employees have little or no control over the basket. They cannot individually change the course of the company and, in ESOPs and similar plans, they cannot even sell the stock if the basket seems about to fall apart. Second, no financial advisor would ever counsel anyone to rely on an undiversified investment portfolio for retirement. Most telling, the people giving that advice, more often than not, either rely on diversified investments for their own retirement or are a good deal wealthier than the typical employee owner and can afford to take more risks.An Investment, Not a Retirement Plan
All of this is not to say employee ownership has no value as part of a retirement plan. Although some employee owners have left their companies with little or nothing, more have retired with very substantial assets. Moreover, there is good evidence that companies contribute more to employee ownership plans than they do to other kinds of benefit plans. In a 2010 project funded by the Employee Ownership Foundation, the NCEO did an extensive analysis of ESOP companies using data from the U.S. Department of Labor Form 5500 reports. Unlike prior research, the study carefully compiled data from multiple plans within a single company. It was also not a sample. We looked at every ESOP company for which data are available compared to all retirement plans.The study found that * ESOP companies are more likely to offer a second defined contribution (DC) plan than non-ESOP companies are to offer any DC plan at all (56% compared to 47%).Considering only DC assets originally contributed by the company, ESOP participants have approximately 2.2 times as much in their accounts as participants in comparable non-ESOP companies with DC plans, and 20% more assets overall. The average ESOP company contributed $4,443 per active participant to its ESOP in the most recently available year. In comparison, the average non-ESOP company with a DC plan contributed $2,533 per active participant to their primary plan that year. In other words, on average ESOP companies contributed 75% more to their ESOPs than other companies contributed to their primary DC plan. Controlling for plan age, number of employees, and type of business increases the ESOP advantage to 90% to 110% above the non-ESOP companies in our sample.
Nonetheless, the risk remains that an employee counting heavily on employer stock for retirement can end up like the employees at Carter Hawley Hale, or at least see a substantial decline in what they expected. For this reason, it is incumbent on companies to make sure employees understand that their ownership stake should be seen as a substantial investment, with real risks, that should be part of their retirement plan, not most or all of it. They should have alternative sources of income to provide a reasonable retirement in a worst-case scenario with company stock. These can come from several sources: social security, plan diversification, the employee's elective diversification at age 55 in ESOP plans, another retirement plan the company offers, home equity, other savings, or a spouse's plan.
More and more employee ownership companies are getting the message across to their employees that their stock ownership is an important investment, but not a retirement plan in itself. Many of these companies offer 401(k) plans to complement their employee ownership plans. Others, however, are fearful that telling employees there is potentially considerable risk will be demotivating. In fact, employees consistently tell us that they are much more motivated by being treated as people capable of understanding the benefits and the responsibilities of ownership.
