As more and more candidates enter the field for the 2020 Democratic primary, each one is trying to stand out from the rest with various policy proposals. Ideas like breaking up companies, a single-payer health system, and green new deals have been tossed around as candidates vie for an early edge.
I usually do not pay much attention to political campaigns this far off from actual elections, but one of these proposals has brought some cause for economic discussion.
Bernie Sanders recently proposed forcing all companies to sell off a chunk of themselves to their employees through funds called employee stock ownership plans (ESOP’s). The goal behind such an initiative would be to spread the wealth and profits of corporations from the investors at the top to the workforce as a whole.
The controversial aspect of this proposal is the forced redistribution of stock to employees since this is by nature socialistic. Take this part out, though, and ESOP’s on their own are something worth talking about. An expansion of ESOP’s done right could in fact be beneficial for both companies and employees.
Both Sides Stand to Benefit
Before hitting some details, let’s get a better idea of what an ESOP is. Employee stock ownership plans are third-party administered funds that manage a chunk of a company’s stock that is owned by employees. Based on how the plan is structured, a certain amount of stock is reserved for employee ownership (can be anywhere from 5% to 100%) and employees as a result have a stake in the company. Workers then receive dividends, use their shares as a means of retirement savings, and have a voice on the company’s board.
Around 10,000 companies in the U.S. have such a plan set up. The largest of these include Publix Super Markets, Penmac, and WinCo Foods.
Clearly if so many companies have ESOP’s set up, there has to be some major benefits. One such benefit comes from the boost in productivity that employee ownership can cause. Workers put more effort into their job when they know that higher sales and profits can have a direct financial impact on them. If I do my job better today and profits grow, I can boost my income for tomorrow.
An old-but-still-relevant article from the Harvard Business Review confirms that many companies that form ESOP’s indeed see stronger growth. They concluded that in the five years after an ESOP was established, these companies saw 5.05% higher employment growth and 5.4% higher sales growth than comparable, non-ESOP companies. Their findings pointed to improved performance in nearly three-quarters of all surveyed ESOP companies.
Employees stand to benefit as well. For one thing, an ESOP can provide a lucrative platform for retirement savings. In an age where most Americans are not adequately prepared to retire, this can be vital. According to the National Center for Employee Ownership, ESOP balances are often three to five times larger than company 401(k) balances.
Along with this, having a say in a company can also boost job security. With seats on company boards, representatives of workers can fight to move businesses in directions that will benefit not only the executives but the business as a whole.
Not Universal Though
These positives make it seem like ESOP’s are a great idea for every business, and people feeling the Bern will surely focus on these across-the-board benefits when campaigning for an ESOP requirement.
It is important to know though that not every company should establish an ESOP and that there can be major draw backs if done poorly.
To start with, employees only stand to benefit when the company continues to perform well after the ESOP is established. Think about those retirement savings. You are all in on one company, so if it were to fail, your entire life savings could disappear.
This happened to the employees of Weirton Steel. The company established an ESOP in the 1980’s that gave employees 100% ownership in an effort to revive growth as the steel industry shrank. After a few years of improved profits, losses began to mount and the company went bankrupt in 2003. Thousands of employees were then left with worthless stock and broken pension promises.
ESOP’s can also crowd out investment in other areas of business, like opening new storefronts and R&D. For example, when employees leave an ESOP company, the company must buy back their share of stock as part of the agreement. If too much money is spent on buybacks, future development of the company can be squeezed.
So who shouldn’t create ESOP’s? As Weirton showed, surely not companies is shrinking industries. In the 80’s it was steel. Today, industries like coal mining or small scale newspaper printing would be terrible candidates for ESOP’s.
On top of this, companies who are not performing well and who have limited cash flows should also avoid ESOP’s since they would be most at risk of the previously mentioned crowding out effect. Indeed, that Harvard Business Review article mentions that the most successful ESOP companies were the ones already performing above average prior to the ESOP. Companies with poor prior performance likely would not have seen the same boost to growth.
Expansion, But Not Require
I am not advocating for a universal ESOP requirement like Mr. Sanders since many companies and employees would in fact be harmed. A refresh of ESOP incentives could be useful though since many still stand to benefit from them. We will see if ESOP talk stays in the far left fringes of the Sander’s campaign or if the idea can be mellowed out into the mainstream.