Home > Workplace > Is your employer overselling an ESOP?

Is your employer overselling an ESOP?

Important Update – November 2009:

My relatively recent plunge into blogging about lots of non-workplace issues along with my recent plunge into social networking (primarily Twitter – where I’m @sjdorst) makes it far more likely that you will be able to identify my employer. Thus in fairness to the owner, I want to explicitly state that the overselling described in this post was NOT done by him, but by a now departed General Manager. The same is true about my “How much does the Boss need to know?” post – the ignorance that inspired the post was that of the same General Manager, not the owner.

We now return you to the original post:

My company stopped contributing to our 401K a few years ago and started an Employee Stock Ownership Plan (ESOP) as the receptacle for future employer contributions towards the retirement of their employees. The 401K remained available for us to contribute our own pre-tax money towards our retirement.

My company has paid money into the ESOP once. Since then, because of the decline in the construction business and other reasons, no further money has been contributed by my company.

This probably seems all too common. So why am I posting about it? Simply, my company has “sold” or “explained” the ESOP to us in ways that are, at least, highly exaggerated, and possibly crossing the line into outright falsehoods!

So, what is certainly true about ESOPs?

  • An ESOP is a retirement plan where the funds contributed BY the company are converted into shares OF the company, held in the name of the employees. From the employees’ point of view, this is all it is — until and unless the ESOP becomes the majority shareholder of the company — and perhaps not even then!
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  • An ESOP is a method – and a very good method – for the owners of a closely held company to withdraw from the business by gradually selling it to the ESOP rather than closing the company, selling the company or finding other, private money (primarily venture capitalists) to invest in the company by purchasing the shares currently owned by the person who wants out.
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  • An ESOP has (I’m told by people I trust) some very interesting tax advantages to the company that creates it. I can’t go into more detail because I don’t know more than what I’ve said.

OK – so what might be true about ESOPs, depending on circumstances?

  • As I alluded to above, once the ESOP is the majority stockholder of the company, it can impart a degree of employee control (not just ownership) of the company. ESOPs are required to poll their members for certain major decisions, such as buying another company, opening a new branch, closing an existing branch or closing the entire company (there may be others). However, the results of this poll direct a single ESOP Trustee on how to vote the ESOP shares, so the voice of an individual employee is NOT heard at the shareholder level if that employee is not in the majority of the employees. Further, less momentous decisions that come to a shareholder vote are voted by the ESOP Trustee with no requirement that the members of the ESOP be consulted. In many ESOPs, the Trustee simply votes as management recommends. Depending on how the ESOP is structured, the members of the ESOP might never have more control on decisions other than the required polls! Remember United Airlines? Purchased 100% by their employees through an ESOP, yet structured such that employees had no functional voice in, much less control over, critical decisions.
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  • An ESOP might make a company “better”. This is certainly true, in a small way, simply by virtue of the tax advantages that an ESOP offers the company. In other ways, however, a company’s claim that an ESOP improves the health of the company is essentially false, because the ways that companies show substantial improvement have no real relation to the presence (or absence) of an ESOP.

An ESOP will not instantly give employees a sense of ownership of the company. Nor will it empower the employees. To empower, or give a true sense of ownership, employees must know how their decisions and acts affect the bottom line of the company – and this is true whether or not there is an ESOP. Since an ESOP is essentially a retirement plan, it cannot give the more immediate feedback obtainable through pay increases, bonuses, incentive plans or even honest — and regular — disclosure within the company of the financial health of the company in ways the employees will understand (unless the company is in the financial sector, most employees can’t decipher a balance sheet or P&L statement.)

Another way to empower employees is to consult with them and heed what they have to say! They need to feel that their opinions and expertise are valuable to the company. Simply consulting them, without incorporating their responses visibly in management actions is a good way to DISempower them! Not consulting them at all is even worse.

If management cannot lead the company through hard times without an ESOP, there is little chance that an ESOP will save the company.

So I leave you with this warning: If your company emphasizes the things that are certainly true about an ESOP, then they are probably on the up-and-up. However, if the try to “sell” you on an ESOP based on it’s making the company “better” or based on the ESOP making the employees into owners of the company – without detailing exactly how that ownership translates into control of the company – be wary! Be VERY wary!

Postscript: Our 401K has recently been closed, for what I believe to be good reasons (as long as the company restarts it as a vehicle for employee contributions in a timely manner as they have promised.) This post isn’t about the 401K, so I haven’t included details. A further post MIGHT be made with the details, but I have to ponder whether or not the details I’m aware of should be made public. In all honestly, I’m currently leaning towards NOT expounding the details, I’m just not fully decided.

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Categories: Workplace

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