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The Employee Ownership Update

Loren Rodgers

May 1, 2014

(Loren Rodgers)

New Study Looks at Company Stock in 401(k) Plans

The Employee Benefit Research Institute reports that company stock comprised 7.4% of 401(k) assets in 2012, continuing a decline from close to 20% in the late 1990s. The report, 401(k) Plan Asset Allocation, Account Balances, and Loan Activity in 2012, is based on an analysis of 24 million plan participants.

The report finds that 36% of the employees in the database had access to company stock in their 401(k) plans. In these plans, 18.3% of assets were in company stock. Seventy-six percent of participants had less than 20% of their assets in company stock, and 54% had none. Seven percent had more than 80% of their assets in company stock.

Recently hired employees are increasingly unlikely to invest in company stock when offered. Close to 75% of all employees with two years or less of service had no company stock in their accounts. In 1999, 24% of recently hired employees had a majority of their assets in company stock; in 2102, that number dropped to 8.4%. Similarly, older employees are much more likely to be invested in company stock than younger ones.

Changes in the law allowing employees to easily move out of company stock and greater concerns about well-publicized failures of companies where employee were heavily invested in company stock appear to be the prime drivers of these trends.

Should the Players Own the L.A. Clippers?

In an April 30 guest column for the PBS Newshour, Christopher Mackin argues that the ownership structure of NBA teams is inherently flawed and could be effectively addressed if basketball teams, starting with the L.A. Clippers, became employee- or community-owned.

New Study Shows ESOP A&E Firms Have Higher Valuations Than Non-ESOP A&E Firms

A new survey ("A/E Business Valuation and M&A Transaction Survey") of 205 closely held architecture and engineering firms by the consulting firm Rusk O'Brien Gido and Partners found that ESOP companies had valuations that were higher than non-ESOP companies. For instance, looking at enterprise value relative to net service revenue, ESOPs had a median value of 47.8% of net service revenue compared to 43.8% for all firms. ESOPs represented 20% of the sample overall, so the comparison just to non-ESOP companies would be somewhat higher. The total range of this measure was from 36% for the lowest quartile to 54% for the highest, so the difference between ESOP and non-ESOP firms is significant.

Looking at enterprise value relative to EBITDA before bonuses are paid to partners, the study found a median of 4.18 and a trimmed mean (ignoring the top and bottom 10% of the sample) of 4.88 for the entire sample. For ESOP companies the numbers were 5.9 and 7.52.

Hitachi-MIT Video on Employee Ownership

The Hitachi Foundation and MIT's Sloan School of Management released a video on employee ownership featuring Mary Ann Beyster of the Foundation for Enterprise Development (FED). The 5-minute video discusses research on employee ownership, initiatives to support employee ownership, and the role of the FED.

Testimony by Secretary of Labor Perez on ESOPs

In testimony on March 26, Secretary of Labor Thomas Perez addressed the House Education and Labor Committee and said that he and the Department of Labor are "huge fans of ESOPs," and that they are "remarkably successful in empowering workers to have ownership." Rep. Brett Guthrie (R-KY) expressed concern about the proposed rules for making ESOP appraisers fiduciaries, and Secretary Perez said that the motivation for the proposed rules are that "we have regrettably seen a number of cases where appraisals have been deliberately inflated." Secretary Perez said he would like to meet people from an ESOP company in Rep. Guthrie's district, and suggested meeting to find a solution to the excessive valuation. No transcript of the exchange is yet available, but it appears in the video of the testimony from minutes 1:19 to 1:22.

NCEO Welcomes New Members to Board of Directors

The NCEO welcomes three new members to its board of directors. John Brown is the founder and CEO of the Business Enterprise Institute, a national network of exit planners. Adele Connors is the CEO of Adworkshop, an ESOP-owned marketing agency. Nancy Stenvig is the CFO of Realityworks, a Wisconsin-based ESOP company that develops interactional, educational simulations.

During the board meeting on April 7, the board also elected Judy Kornfeld of ESOP Economics to serve as the board secretary and James Mauch of Tenmast Software to the executive committee. Some long-time and very productive board members left the board, including Karen Needham of Ariad Pharmaceuticals, a member of the executive committee, Todd Leistner of Scot Forge, and Jim Steiker of SES Advisors.

Supreme Court Oral Arguments on the Presumption of Prudence

In the last email bulletin we reported on the oral arguments in the Dudenhoeffer v. Fifth Third Bank case, during which the Supreme Court heard oral arguments on the ESOP presumption of prudence. The case revolves around the decision of the Sixth Circuit Court not to dismiss a lawsuit over trustees' actions over company stock based the presumption. The decision was at odds with most other circuit courts. More details of those arguments follow.

Justice Scalia opened by saying that he was skeptical that holding stock may be a way to protect retirement interests. Justice Kagan worried that prudent fiduciaries would hold on to stock they knew from inside information to be overvalued even if this causes problems in the short run because the information will come out anyway. Justice Kennedy suggested the presumption of prudence could create a "coach class" trustee. Justice Ginsburg said the statue itself did not hard-wire a presumption of prudence.

But when it came to how to remedy this situation, the Justices were much more skeptical. Justice Breyer pointed out that there is "no rule of trust or ERISA law that you can breach a duty to a beneficiary by failing to use inside information. . . . So what is wrong with just saying that an ESOP fiduciary 'cannot have an obligation to use inside information'?" The Chief Justice said that the duties of an ESOP trustee were seemingly simple: "get up in the morning and... buy some of [his] company's stock." He asked the DOL counsel how can you "say that he has breached a duty of prudence when the people investing in this ought to know that what they're going to get is the company's stock?"

Most of the debated focused on what fiduciaries with inside information should do. Selling the stock could cause problems for participants if it pushed the stock lower; buying it would cause problems because it was overvalued. Justices Sotomayor and Kagan seemed clearly to side with the argument that the presumption should not apply and fiduciaries should use the inside information to make decisions for employee interests, but Justices Roberts, Breyer, and Kennedy seemed perplexed about just how fiduciaries could get out between the rock and hard place of the consequences of actions.

The arguments suggested that there may not be enough support just to retain the presumption of prudence rule at the pleadings stage, but also suggested that the Court might try to find some middle ground. A decision is expected in June.

Author biography and other columns in this series

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