Experts Ponder, Why Aren’t There More ESOPS?

With the preponderance of research on employee ownership demonstrating it generates superior performance and growth, improved culture and engagement, and distinctive wealth building for workers, why aren’t more companies embracing employee ownership? In my 30-plus years advising on ESOPs – and structuring and closing over 300 of them – I’ve continually asked that question. Still, while the number of new formations hasn’t grown meaningfully, recent momentum on several fronts signal that this extraordinary wealth and jobs opportunity awaits millions more workers.

Indeed, the mystery about employee ownership was a topic my colleague Jake Cravens and I discussed recently on the Conscious Capitalists’ podcast with co-hosts Raj Sisodia and Timothy Henry. Given ESOPs’ well-documented benefits for companies that have established them and for their employees, it’s a question well worth exploring. Our discussion centered on why embrace employee ownership – and it offered the chance to accentuate the positive initiatives.

First, it’s striking that of the estimated 1.56 million U.S. companies with 10 employees or more that the North American Industry Classification System (NAICS) counts, companies with ESOPs numbered just 6,232 in 2020 (by the National Center for Employee Ownership’s count.) Or compare the estimated 400 ESOPs created last year and this year with the 4,300 U.S. private equity deals completed in 2022 and the 5,200 in 2021.

So, why so few ESOPs? Groundbreaking research that our firm Verit Advisors initiated provides insights into that and other critical questions. We surveyed leaders from 200 companies across various industries, including 90 that had completed a full or partial ESOP, 80 that are considering one, and 30 that aren’t.

These business leaders identified key factors that hinder and also heighten interest in ESOPs:

1. Operating rules and the complexities of reporting to regulators as well as the time involved to comply with regulations are key deterrents . Other potential challenges – the cost of repurchasing shares, company capitalization and employees’ understanding of the ESOP structure – proved less severe than leaders initially had expected.

2. Tax savings are a key consideration for establishing an ESOP with company founders tending to prioritize personal tax benefits while non-founder ESOP leaders find corporate tax benefits more persuasive.

3. More so, over time, the workplace culture and employee benefits of an ESOP play a larger role in CEOs’ appreciation of employee ownership. Research bears this out: Rutgers University and Employee Ownership Foundation-funded surveys find that nearly three-fourths of employees would prefer to work for an employee-owned company, where turnover is three times lower than at conventionally owned businesses. During the pandemic, employee-owned companies dramatically outperformed firms key metrics including maintaining employees’ jobs and work hours, salary, and workplace health and safety.

4. CEOs of prospective ESOPs shared that they gained significant information and insights about employee ownership from networking with their peers and talking with advisors on employee ownership.

5. Business leaders suggested that employee-ownership advisors do more to talk up the advantages of employee ownership and dispel common myths about ESOPs.

As for the future, many encouraging factors are appearing. There continues to be support from Republicans and Democrats in both houses of Congress for preserving and expanding S-ESOPs founder and company tax benefits. In 2022, the Biden administration and Congress took steps to promote employee ownership companies. The Worker Ownership, Readiness, and Knowledge (WORK) Act of 2022 requires the Department of Labor to establish an Employee Ownership Initiative. Its goal: to support employee ownership and employee participation in business decision-making. The funds appropriated by Congress can be used to finance existing state programs or to create new ones.

State legislatures are taking similar steps. California, Colorado, Massachusetts, Missouri, and Washington have set up centers to encourage employee ownership and adopted tax and other financial incentives. Other states, including Iowa, Nebraska, New York, Pennsylvania and Tennessee, are considering comparable proposals.

Prominent business leaders also are promoting employee ownership. In June, the Aspen Institute and Rutger’s Institute for the Study of Employee Ownership and Profit Sharing co-hosted the Employee Ownership Ideas Forum that focused on how to grow employee ownership. The Institute’s Adria Scharf is conducting a research study on it.

KKR partner Peter Stavros is playing an invaluable role as well. Stavros, co-head of global private equity, founded the nonprofit Ownership Works that has made employee ownership a mainstream topic among business owners and advisors. He and his wife contributed $10 million to establish the Center for Shared Ownership, and an impressive number of private equity, other major financial institutions and individuals have joined them to help reimagine equity to build wealth for all.

These and other positive developments contribute to my previously stated view that the 2020s will be the Decade of the ESOP. As these tailwinds continue, I believe the experts of tomorrow will pinpoint the present moment as when employee ownership attained the tipping point and became mainstream.