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The Employee Ownership Update

Corey Rosen

April 14, 2010

ESOP Tax Costs Projected at $1.7 Billion

The White House fiscal year 2011 budget estimates that the special ESOP rules will cost $1.7 billion in 2010 and $1.8 billion in 2011. For context, this comes to 1.79% of the total tax costs of retirement plans and 3.2% of the tax costs of 401(k) plans, even though ESOPs have about 30% of the assets 401(k) plans do and roughly the same percentage of employer-contributed assets.

Broad-Based Employee Ownership Alive and Well in 2010

Somehow, we passed the first 10 years of the 21st century without ever agreeing on what to call them (the "oughts" never caught on). Maybe a lot of people would just as soon forget them. Certainly, there were a lot of challenges for employee ownership. The decade started off with the implosion of the ESOP at United Airlines; the "stock-drop" disasters of Enron, WorldCom, and the like; and the dot-com bust and its attendant wipeout of equity values for a lot of technology sector workers. The middle of the decade brought new equity accounting and shareholder approval rules. Some companies, egged on by compensation consultants convinced that only "key" employees matter, used those rules as a reason to eliminate broad-based equity plans so all the equity could go to the top. The end of the decade, of course, brought the great recession and all the problems it caused for employee ownership (and everything else).

Despite all that, employee ownership survived. In our newly released 2010 version of the issue brief The State of Employee Ownership, we find that ESOPs grew over the decade, with the number of participants doubling and the asset value almost tripling. Broad-based equity plans shrank, but they covered only about 15% fewer employees than at the height of the dot-com boom and have shown some signs of growth in the last year. Research on the impact of employee ownership continues to show that these plans are good for companies and employees. With baby boomers set to retire, tax rates going up, and the M&A market less active, ESOPs in particular look more attractive than ever as a means for business transition. Meanwhile, the widespread disgust with exorbitant executive pay may cause some companies to rethink who really should get equity and how much.

The State of Employee Ownership is available for $15 to NCEO members and $25 to nonmembers.

French Companies with Employee-Elected Directors Perform Better

French law requires that employees who own shares in public companies be allowed to elect one director if they own at least 3% of the stock. Partially privatized companies must reserve two or three board seats regardless of employee ownership. In "Employee Ownership, Board Representation, and Corporate Financial Policies" by Edith Ginglinger, William L. Megginson , and Timothee Waxin in Labor Personnel Economics eJournal (January 10, 2010), the authors found "directors elected by employee shareholders unambiguously increase firm valuation and profitability, but do not significantly impact corporate payout (dividends and share repurchases) policy or board organization and performance. Directors in the partially privatized companies elected by employees by right of employment rather than owning shares significantly reduce payout ratios, and increase board size, complexity, and meeting frequency—but do not significantly impact firm value or profitability."

Boards of Advisors Instead of Boards of Directors?

In recent years, many ESOP and other employee ownership companies have created more formal boards of directors, including independent directors. While this is a best practice, current company boards may be reluctant to take on the added costs these boards can create, may worry about losing too much control, and/or may have difficulty finding people willing to take on the fiduciary responsibility. An alternative is to create a board of advisors, a non-fiduciary group that can provide input into any corporate issue without having fiduciary responsibility for it, provided the advisors are really just that, not de facto decision makers called something else. These boards can also be set up when there is a more formal board. For instance, they can be a way for getting employee input into corporate-level decisions without raising all the potential legal and conflict-of-interest issues that could otherwise arise.

Author biography and other columns in this series

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