The Independent View: Employee ownership and responsible capitalism go hand in hand

The Fourth of July was a day of celebration in the UK this year. It was the first annual Employee Ownership Day, designed to raise awareness of employee owned business. Celebrations were more reserved than the Fourth of July celebrations in the US – the most indulgent thing I could find was a commemorative cushion cover made in a John Lewis factory in Lancashire. But employee ownership is definitely something to be celebrated, even if we don’t go in for the carnivals and fireworks.

Employee Ownership Day is part of a wider government strategy to promote employee ownership. Other initiatives include the publication of guidance on how employees can obtain shares in their company and tax breaks for employee owned companies.

The proposed tax breaks, which were opened for consultation last week, will come in two forms. First, income tax and national insurance will not apply to annual staff bonuses of employee owned companies. Second, there will be capital gains tax relief where a controlling stake in a business is sold to employees through a collective structure such as a trust.  Both these measures were passed as Liberal Democrat party policy at the Autumn Conference 2012 in passing the policy paper ‘Mutualisation, Employee Ownership and Workplace Democracy’.

The financial underpinning for this policy is £50 million set aside in the Budget. This follows on from an independent review by Graeme Nuttall, published in July 2012 as well as encouragement of employee ownership by other organisations.

CentreForum has been at the heart of this agenda, publishing two papers in early 2012 – one on employee ownership ) and the other on employee empowerment more generally – in which we recommended the introduction of a capital gains tax relief similar to the one now seen in the Budget and the consultation paper.

JS Mill suggested in 1848 that employee ownership would lead to “the relations of masters and work-people [being] gradually superseded by partnership”.  This holds true as a liberal principle today just as it did in the nineteenth century. Indeed, research evidence now supports Mill’s view that employee ownership leads to more harmonious workplace relations. Job satisfaction tends to be greater, absenteeism tends to be reduced and workers’ pay tends to be better.

But there are other reasons to back employee ownership. There is mounting evidence that is has positive effects on the economic success of companies. A recent study by Cass Business School found that employee owned companies tend to plan for long term sustainable growth, rather than short term returns, and there is a wealth of evidence that they fare better in times of economic downturn. Numerous studies have reported positive results in terms of company performance and productivity, and employee owned companies tend to have a smaller differential between the high and low paid.

All of these effects are displayed most strongly when companies are completely employee owned and when employee ownership goes together with more participative management.  But effects are still seen with partially owned companies. This is illustrated by the performance of the employee share ownership index which the London Stock Exchange has recently launched.

Employee ownership is not without its drawbacks. The flipside to the resilience of employee owned companies in times of recession is that there is some evidence that they grew less quickly when the economy was booming in the early 2000s. And they are not appropriate for all companies – capital-intensive businesses such as oil and gas companies do not suit the model. But they are particularly effective where the success of a business relies on good customer relations – like retail companies – or where employees work remotely so the shared sense of purpose brought on by employee ownership compensates for the relative lack of supervision.

With a more fulfilled workforce, more sustainable economic development and greater innovation, we have every reason to want to promote employee ownership. The guidance that BIS intends to publish will dispel the fears some workers have about the difficulty of setting up employee ownership, and the proposed tax relief will hopefully provide the extra incentive needed to get more businesses on board. ‘Responsible capitalism’ is an idea that is easy to support but difficult to realise; employee ownership will provide at least part of the answer.

The Social Liberal Forum will be hosting a conference ‘Ownership and Democracy: where does power lie?’ on 13 July 2013. Click here  for further details.

* Anna Muncey is a research assistant at CentreForum, the liberal think tank.

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16 Comments

  • Eddie Sammon 9th Jul '13 - 11:48pm

    The problem with this is that when employees leave you no longer have an employee owned business but a business owned by other people and sometimes even competitors.

    Businesses should be free to give shares to employees, but we shouldn’t be wasting taxpayers money on encouraging it.

  • Eddie Sammon 10th Jul '13 - 6:29pm

    Carole, it doesn’t matter whether the employees own the shares outright, via a pension or rights to an employee benefits trust, because when they leave the business they will become ex employees who have rights on the business.

    You cannot force ex employees to sell their shares or give up their rights and the original shareholders can’t just keep giving their shares to employees or trusts because then they will have none left.

    A better way to improve employee participation is through profit share schemes for existing employees only, because then they can’t benefit from profits when they leave, whereas they could if they actually become owners of the business.

    The only problem with profit share schemes is that you cannot share losses, but they would be a much better idea than full blown employee ownership.

    Regards,

    Eddie

  • Eddie Sammon 10th Jul '13 - 6:36pm

    I just want to emphasise that a profit share scheme for existing employees, what I am recommending as an alternative, cannot be classed as employee ownership in any way.

  • Stuart Mitchell 10th Jul '13 - 7:21pm

    “‘Responsible capitalism’ is an idea that is easy to support but difficult to realise; employee ownership will provide at least part of the answer.”

    Try telling that to the John Lewis cleaners who are shamefully excluded from the profit-sharing that everyone else who works in the stores enjoy. It’s just same old, same old capitalism.

  • Eddie Sammon 11th Jul '13 - 11:02am

    Carole, you say when an employee leaves the business they “get the money for their shares”, but employees won’t get a good price for them if they are told when they have to sell and who they have to sell to. This is not employee ownership.

    Employee Benefit Trusts were used for years by the international banks as mass tax avoidance vehicles, so I disagree with the rosy picture that people paint about tax breaks for employee share structures.

    The best system is a simple one with employees and shareholders. If people are both then great, but we shouldn’t be trying to create a third category of “employee owners”.

  • Eddie Sammon 11th Jul '13 - 7:29pm

    Thanks Carole, I’ve read your arguments, I just disagree with them.

  • Eddie Sammon 11th Jul '13 - 8:23pm

    I also want to say that there is no formula that can accurately value a business. You can’t put the expectations of future profit into a formula because it is entirely subjective. Extrapolating past returns would be extremely inaccurate.

  • @Eddie ” there is no formula that can accurately value a business” and that includes the stock market…

    I think many of the issues you are talking about are more to do with companies that are 100% employee owned and hence are unlisted and have strict rules linking ownership and employment.

    The real value of “employee owner” (and differentiator to say profit share schemes) is, as Carole notes, about having a tangible stake in the business and a right to participate and influence ie. one or more seats on the board. Hence for stock market listed companies what this “third category” entails is tracking employee share holders and holdings, so that depending upon the number of shares held by employees an appropriate number of board positions can be made available and that employee shareholders get to choose the people who will occupy those positions. Obviously, government/taxation incentives along with simplifying the administration of stock registers, encourgae the explicit ring fence a percentage of the share capital just for employees and wrap it up as an ESOP (the ESOP becomes the owner of the shares as far as the shares register is. The downside to this is as you observed, these shares need their own trading arrangements.

    With respect to people leaving employment, this doesn’t have to be the cliff edge you and Carole talk about. The scheme I was involved in establishing , we decided to allow ex-employees to retain their (ring fenced) shareholdings, however they lost their voting rights and their sale was still subject to constraints. We did this for many reasons, but specifically for two reasons, firstly to ensure that employee’s did not financially loose out if they lost their job through corporate restructuring etc. and also we took the view that an ex-employee is still an ambassador for the company; we also hoped that this would mean that the ‘employee’ share of the issued share capital would increase over time.

  • Eddie Sammon 12th Jul '13 - 4:42am

    Thanks Roland. My major objection is as follows:

    If I own a business with 100 shares, I can’t keep giving away shares to employees because then I would end up with no shares, so the model is unsustainable.

    In reality, businesses don’t give shares to their employees, they sell them to them in return for lower wages and tax breaks. Neither of which are good for society.

  • @Eddie “If I own a business with 100 shares, I can’t keep giving away shares to employees because then I would end up with no shares, so the model is unsustainable.”

    You can! through share dilution eg. 1 old share becomes 10 new shares, and capital enlargement – the issuing of new shares either to the market or to satisfy the needs of share option schemes (yes for most FT100 companies the share options given to directors and employees are paid by the company simply minting new shares – a bit like Quantitative Easing!)

    The issue is maintaining the “employee” holding at or above 10% (if using an ESOP), particularly with capital enlargement, as employees need to purchase more shares or have their holding diluted. The hard maths of stock enlargement helped us to make our decision regarding ex-employee’s, as we reasoned that over time there would be sufficient shares available to new employee’s through a combination of employee sales and new shares to satisfy demand and if it didn’t the company would simply create sufficient new shares to satisfy any shortfall. So share’s like currency has moved away from being linked to something tangible to effectively being linked to ‘confidence’ hence a reason why the stock market is now so hard on companies that don’t deliver against their forecasts etc.

    “In reality, businesses don’t give shares to their employees, they sell them to them in return for lower wages and tax breaks. Neither of which are good for society.”

    I think this depends upon your view as the same can be said for profit share schemes. I suspect that many employees would happily take a slightly lower wage if they could fairly benefit from the profits and growth of the business and they saw that the business was actually profitable/growing in value. As you noted, it only takes a couple of years when a company doesn’t produce enough profits to fund a profit share scheme or grow the share price for people to become disillusioned and cynical.

    We didn’t give shares to all employee’s, we insisted that employee’s paid for their shares, albeit at a highly discounted price compared to the market and with additional free shares for holding on to the shares for set periods of time. This was because we wanted people to be motivated to participate and also we wanted to avoid discussions around basing shares allocations on years of service etc. This in itself raises another issue, whilst we wanted all employees to participate, we knew that we wouldn’t achieve this, so my experience is slightly different from those companies where the norm is for all employees to be ‘owners’, which is probably Carole’s experience.

    Taking your point to the extreme, I assume you would be happy if directors didn’t get stock options but did receive an enhanced salary?

  • Eddie Sammon 12th Jul '13 - 5:28pm

    I thought about share dilution, but if I follow my example through:

    If I own 10 shares out of 100, and I split the stock so I now own 20 shares out of 200, if I give any more away I’ll still end up with less than 10% of my business. Every percentage giveaway won’t pay for itself through higher productivity, otherwise everyone may as well just own 0.0001% of their business and it doesn’t work like that. Giving away shares is not a free lunch for the person giving them away.

    Yes I would be happy for directors not to get stock options because I don’t think they are sustainable (not saying I want to ban them). I would prefer to offer incentives through a profit share, or profit share of their department, which is exactly what the banks do through their bonus schemes. They offer this in return for lower wages, because it helps the fixed costs and is performance related.When the employees leave, they stop receiving bonuses.

    Yes banks do give shares away in their bonus schemes, but that is only because they are traded on the market so they can go into the market and buy them from someone looking to sell and then give them to their employees, the banks just don’t keep asking existing shareholders to give their shares away.

    Regards

  • “Yes banks do give shares away in their bonus schemes, but that is only because they are traded on the market so they can go into the market and buy them from someone looking to sell and then give them to their employees”

    Companies that practise this approach are relatively rare, many simply mint new shares and give them to their employee’s; the employees can then sell these new shares in the market… The view being that when you have say 70 billion shares in circulation, creating another 1 million say to satisfy employ bonuses etc. isn’t going to do much to the share price.

    But yes if you really want to maintain your stock holding at 10% of the issued share capital then you need to find ways of granting yourself new shares as you enlarge the number of shares in circulation. But basically, as a shareholder in a listed company you can expect over time your share holding to represent a steadily decreasing percentage of the total stock in circulation. Interestingly, UK law makes it quite straight-forward for companies to enlarge the stock held within an ESOP so as to maintain it at 10% (ie. they can just mint sufficient new shares), because (normally) these shares are not traded in the open market.

    In some ways as you suggest a profit share is a much simpler approach, but doesn’t give ‘ownership’. I suspect that part of the problem is ‘our’ desire to make one corporate style – the ‘stock market listed company’ fit all and so have to resort to complicated mechanisms to make things fit.

    Personally, I like both shares and profit share: profit share because it can be quite finely tuned down to the departmental level. Putting this into the context of Amazon, Google et al, would mean that the UK staff could get a profit share based on the profits made in the UK and a slice of the capital growth and dividends arising from the global operation.

  • Eddie Sammon 13th Jul '13 - 4:59pm

    Thanks Roland. A good way to increase share ownership would be to give all employees the option of setting up their own limited companies and become contractors rather than employees. After all, they are selling their labour, so this should be seen as a supplier-buyer relationship rather than employee-employer, which has negative connotations.

    Yes this would require the employee to take more risk, but they would be able to charge a risk premium for it. Again, this would be entirely optional.

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