The Economic Basis for Employee Share Schemes

A. The Summary Position

The economic basis for employee share ownership is founded on the relationship between employee share scheme involvement and a range of economic indicators as follows:-

  • The relationship between share options and productivity

  • The relationship between share options and corporate performance

  • The relationship between share options and corporate growth

  • The relationship between broad-based employee share ownership and share price performance

  • The relationship between employee share ownership in ESOP companies and employee compensation (remuneration)

  • The relationship between share options and organisational stability

  • The comparison between pure ESOPs and poison pill ESOPS

B. The Detailed Results

The Relationship between Share Options and Productivity

The General Accounting Office ("the GAO") in the U.S.A. performed a study in 1988 which concluded that companies that embrace employee share ownership on an all-employee basis show more improvement in productivity where their employee ownership initiative is accompanied by a policy of employee involvement in corporate decision-making through work groups or work committees having the opportunity to make recommendations to management. These findings suggest that employee share ownership pursued as a policy in isolation from general employee involvement policies does not maximise the benefit for the business of the employee share ownership initiative. As a base position, though, the study also concluded that the productivity of companies that have introduced employee share ownership is at least comparable with the productivity of companies that have not introduced employee share ownership, supporting the position that at the very least employee share ownership does not have a detrimental effect on productivity.

The studies performed earlier over 1986 and 1987 by Quarry and Rosen provide more substantial support for the productivity benefits of employee share ownership. This key study which is recognised to have been tightly controlled focused on 45 companies in the U.S.A. and established their sales growth five years before the introduction of employee share ownership and also five years after the introduction of employee share ownership. The conclusion was that the sales growth in comparison with the competition was an additional 1.9% before the introduction of employee share ownership but 5.3% after the introduction of employee share ownership. However, this study, as with the GAO study, emphasised general employee participation in corporate decision-making as a major factor in the success of the employee share ownership initiative.

A study performed by Gorm Winther in 1987, also as a before and after analysis on employee share ownership, focused on 25 companies in the state of New York and 28 companies in the state of Washington. It also concluded that any positive result from employee share ownership was dependent on wider employee participation generally.

The study performed by Professor Hamid Mehran of Northwestern University's J.L. Kellogg Graduate School of Management for Hewitt Associates in 1998 is regarded as influential in the field, most especially so given the size of the sample of 382 publicly quoted companies all of which had introduced an ESOP. However, it is also regarded as being tightly controlled in its measurement of the economic parameters. The study which refers to the companies as ESOP companies considered the financial returns of the companies for two years before implementation and for four years after implementation and compared each company to industry norm Return on Assets ("ROA") positions for both periods.


The performance and productivity conclusions of the study were as follows:-

  • For the 303 ESOP companies that survived the full four year ESOP period ROA was 14% higher than the comparator group.

  • For the 382 ESOP companies as a group ROA was 6.9% higher in the four year ESOP period.

  • For the 382 ESOP companies the Total Shareholder Return increased by 12% compared with the peer group over the ESOP period.

Interestingly, the analysis showed that for over 60% of the companies there was an increase in the share price in the two day period following the introduction of the ESOP. The average increase for all companies in the group was 1.6%. These statistics indicate a positive response from the market to the introduction of an ESOP.


The study also reported on attitudinal responses of executives to matters of ownership culture as follows:-

  • 82% of executives reported that employee share ownership increased corporate performance.

  • 18% of executives reported that employee share ownership improved employee behaviours.

  • 85% of companies reported increased access to company information for employees, including financial information, corporate strategies and customer expectations.

In the U.K. the work of Professor Richard Freeman of Harvard University and the London School of Economics and Martin Conyon of Wharton School, University of Pennsylvania investigated the consequences of introducing employee share ownership in approximately 300 companies, again a substantial sample. The study analysed the productivity of U.K. companies by measuring their added value before and after the introduction of an Inland Revenue tax-approved all-employee free share plan, either in the form of the Profit-Sharing Employee Share Scheme or subsequently the Free Shares module of the Share Incentive Plan. Added value equates in general terms to gross profit which to labour economists is accepted as a fairly accurate indicator of labour productivity. The general conclusion is that the study found a 17% increase in added value following the introduction of the free shares arrangement.


The Relationship between Share Options and Corporate Performance

The study performed by Douglas Kruse, Joseph Blasi and Jim Sesil of Rutgers University and Maya Krumova of The New York Institute of Technology in 2000 focused on the relationship between share options and corporate performance.

This study provided data for companies that made options available to most or to all employees. The sample of 105 companies contained 91% of companies whose shares were traded through stock exchanges. The study concluded that productivity rates improved once a share option scheme was introduced. The productivity scores for the overall sample for the period before introduction, 1985 to 1987, were compared with the period after introduction. Productivity levels were up 14.8% when the comparison group was all non-option group companies and 16.8% when analysed as paired comparisons with otherwise similar non-option companies. These results were mirrored in returns on assets which showed an improvement of 2.5% relative to the non-option group companies and 2.05% when analysed as paired comparisons with otherwise similar non-option companies. There was no mirror though on total shareholder return which showed no statistically significant difference in the comparators across the pre-introduction and the post-introduction periods. The study concluded that any share dilution caused by the introduction of broad-based share option plans is counterbalanced by enhanced productivity levels.


The Relationship between Share Options and Corporate Growth

The study performed by Douglas Kruse and Joseph Blasi of Rutgers University also in 2000 focused on the relationship between share options and specifically corporate growth measured across a range of parameters.

This study is the largest and most significant study conducted on the performance of ESOPs in closely held companies. The process was based on 343 companies for the overall sample although there was ultimately missing data that reduced the comparison opportunities. Comparing pre-ESOP performance with post-ESOP performance, annual sales growth was up by 2.4%, annual employment growth was up by 2.3% and annual growth in sales per employee was up by 2.3%.


The Relationship between Broad-Based Employee Share Ownership and Share Price Performance

The study performed by Douglas Kruse, Joseph Blasi and Michael Conte and from 1993 American Capital Strategies based on data compiled between 1992 and 1998 focused on the relationship between broad-based employee share ownership and share price performance.

The study focused on an investment of equal amounts in a basket of shares in public companies with more than 10% broad-based employee share ownership. The study concluded that these companies generated a return of 170% compared with 143% for the Dow and 152% for the S&P 500. To put the results into context the study did not go as far as to conclude a causal link between employee share ownership and share price performance as it accepted that companies that are of a disposition to establish an employee share scheme may possess other characteristics that are conducive to more superior performance that is reflected in the share price.


The Relationship between Employee Share Ownership in ESOP Companies and Employee Compensation (Remuneration)

The study performed by Peter Kardas and Jim Keogh of the Washington Department of Community, Trade and Economic Development and Adria Scharf of the University of Washington in 1998 focused on the relationship between employee share ownership in ESOP companies and employee compensation (remuneration).

The study, called Wealth and Income Consequences of Employee Ownership concluded that employees in ESOP companies are significantly better remunerated than employees in comparable non-ESOP companies. Using data from the Washington State Employment Security Department, retirement data from companies and from federal income tax forms the study worked on the basis of a comparison between 102 ESOP companies with 499 comparator companies in terms of industrial classification and the size of the workforce. The report stated that on wages the median hourly wage in the ESOP companies was 5% to 12% higher than the median hourly wage in the comparator companies. In the ESOP companies the average corporate contribution per employee per annum was between 9.6% and 10.8% of pay per year compared with between 2.8% and 3.0% for the non-ESOP companies.


The Relationship between Share Options and Organisational Stability

The study performed by Douglas Kruse, Joseph Blasi and Margaret Blair in 1998 focused on the relationship between share options and organizational stability.

The results were based on a study of companies between 1983 and 1996. The study concluded that 74.1% of the ESOP companies remained as independent businesses. In comparison only 37.8% of the comparator non-ESOP companies maintained their independence. The ESOP companies all maintained their solvency whereas in comparison 25% of the comparator companies did not.


The Comparison between Pure ESOPs and Poison Pill ESOPS

The study performed by Donald Collat in 1995 focused on the comparison between companies that did not set up their ESOPs in response to a takeover threat and companies whose motivation in setting up the ESOP was to counter a takeover threat.

The study examined the operating margins in the three years before the ESOP introduction and three years after the ESOP introduction. The results for those companies whose ESOP initiative was not motivated by a desire to counter a takeover threat showed improved margins of 2.1% per annum whereas the comparator group showed a reduction in margins of 3.3%. The improved margins may be explained by the presence of a general ownership culture in those companies.

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