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Giving your employees their fair share of success
IMD’s Karl Schmedders lauds business owners’ efforts to align their interests with those of their workforce.
Europe is learning to love employee share ownership. Data from the European Federation of Employee Share Ownership shows that, by end-2022, employees owned €447bn worth of shares in the businesses for which they worked – an all-time record. Among large, publicly listed companies across Europe, 57% now have share-ownership plans of which anyone in the business can take advantage.
Such trends are good news for workers, who finally have the chance to share in the wealth they are helping to create. Moreover, an increasingly strong body of evidence suggests that offering an attractive, well-designed share-ownership scheme drives stronger business performance.
Indeed, numerous academic studies point to the commercial benefits of these schemes. When employees grasp the opportunity to own a share in the business they work for, the business becomes more productive, often growing faster. In uncertain times such as those we are currently experiencing, this means it is less likely to go out of business than counterparts that have neglected to democratize ownership.
Aligning interests
This makes sense. Employee share-ownership plans address the principal-agent problem by eliminating the potential for an oppositional dynamic. When shareholders delegate responsibility for business decisions to C-suite leaders and other middle-management, the risk is that these agents make choices that serve their own professional interests rather than those of the principals and the business as a whole. An employee share-ownership scheme aligns the interests of the two groups.
It’s a well-observed phenomenon in the US, where employee share ownership is even more significant than in Europe. Researchers have identified four inter-related benefits from such schemes: enhanced economic performance; improved job security and greater organizational resilience; broad-based financial prosperity; and fewer workplace discipline issues.
“When employees feel they will share in the rewards of success, their minds will be more intently focused on achieving it”
Naturally, when employees feel they will share in the rewards of success, their minds will be more intently focused on achieving it. They will feel they have a stake in the business, generating a sense of commitment and ownership, reducing employee turnover rates. A stable, highly motivated workforce reinforces competitive advantage, and builds resilience for the harder times. United by shared purpose and assuaged by the knowledge that success will be shared more equitably will nurture a more harmonious workplace with a lower chance of damaging conflict.
Building a savings base
There are also broader social benefits available. One knock-on effect of the increased prevalence of employee share-ownership schemes could be to encourage Europeans to embrace stock-market investment, boosting long-term savings and personal security resulting from investment.
Risk-averse savers in many European countries have traditionally steered clear of equities, despite the potential for impressive long-term returns from this asset class. Exposure to employee share-ownership schemes could give savers a more positive attitude to stock-market investment.
Not that public equity is the only thing on the table. Privately owned businesses are increasingly exploring schemes that provide ownership benefits to their staff, particularly as startups compete (and sometimes struggle) to attract talent.
One recent study found that the share of stock options granted to European scaleup employees has increased from 12% to 16% over the past five years. Europe is, therefore, catching up with the US, where this figure has increased from 20% to 22% over the same period.
On the downside
This is not to suggest employee share ownership is free of drawbacks. Not least, they add to remuneration costs and may dilute the ownership of existing shareholders.
From the employee’s point of view, one concern is that these plans encourage risky behavior. Moreover, they concentrate workers’ wealth in a single source, as they become dependent upon their employer for both salary and ROI. If the business underperforms – or, in the worst-case scenario, fails outright – the employee stands to lose twice over.
Moreover, employee share-ownership schemes also carry costs for employees, who typically are obliged to buy into the business. Research from groups such as the Social Market Foundation in the UK has found that the most common reason cited by workers for not taking part in an employee share-ownership plan is lack of the required funds. Such a circumstance risks exacerbating, rather than leveling up, inequality in the workplace.
“An emphasis on financial education in the workplace can build awareness and understanding of the potential benefits of stock-market participation, mitigating risk-aversion among the workforce and encouraging diversification”
Another issue is that workers do not always understand what they are being offered, particularly where schemes are presented as complex structures. This is potentially a bigger problem in countries that lack a culture of stock-market participation. Some employees may feel that they are being encouraged to take risks that they cannot afford.
Designing for success
Given these issues, C-suite leaders looking to implement employee share-ownership schemes will need to think carefully about the design and presentation of their plans.
Offering shares is one option by which employees may be able to overcome affordability concerns. One study found that offering savings of up to 15% drove higher participation rates. An emphasis on financial education in the workplace can build awareness and understanding of the potential benefits of stock-market participation, mitigating risk-aversion among the workforce and encouraging diversification. It may make sense to work with employee groups, such as unions, to deliver such education.
Policymakers seem willing to offer encouragement. Many countries already provide a range of tax incentives and structural support to companies offering employee share-ownership plans, and to workers taking part, although the EU has come under pressure to create an all-encompassing regime. US legislators are also keen to build on existing structures. In a rare example of bipartisan co-operation, Republican and Democratic lawmakers jointly promoted a bill to encourage employee share-ownership plans in US businesses.
Similarly, in the UK, the Government is currently consulting on potential reforms of its employee share-ownership regime, with proposals intended to increase the take-up of schemes, particularly among low-income workers. One possibility is more generous tax incentives for such employees.
Even private equity businesses have begun to regard employee share ownership as a potential driver of value creation
The UK has also led the way on outright employee ownership of businesses with the launch of employee ownership trusts (EOTs) a decade ago. These structures enable business owners to sell a controlling interest in the business (at least 51% of the shares) to their employees, with no tax to pay on the proceeds. The business is sold to a trust that operates on behalf of employees, so that workers do not have to fund the transaction. The seller is paid over several years out of subsequent company earnings.
According to the Employee Ownership Association (EOA), interest in EOTs is growing fast, with a 37% increase in the number of UK companies owned fully or partially by their employees over the year to June 2023. Just over 1,400 UK companies are now owned through an EOT, almost triple the figure from three years ago, with the EOA suggesting that the more open and expansive the scheme, the greater the potential benefits.
PE joins the party
Even private equity (PE) businesses have begun to regard employee share ownership as a potential driver of value creation. KKR’s recent purchase of publishing house Simon & Schuster, for example, was clinched partly owing to its promise to ensure employees would “participate in the benefits of ownership.”
KKR has set out plans that will allow all its 1,600 employees to buy into its equity. More broadly, it has worked with other PE firms, including TPG and Apollo, to launch Ownership Works, an initiative that will see the industry offer equity in many of its portfolio companies.
The goals of this initiative are ostensibly to benefit wider society; for example, those taking part have pledged to create $20bn of wealth for low- and moderate-income workers over the next decade. But PE is hardly a disinterested party. KKR and its peers recognize the potential of employee share-ownership schemes to increase the value of the businesses in which they have invested.
For C-suite leaders, the lesson is clear. Get employee share ownership right and it can be a winning proposition for all concerned. There are benefits for the business as well as for the workforce, and it makes a powerful statement of commitment to inclusivity.
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