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Use of ESOPs

The two most common uses of ESOPs are to buy the stock of a retiring owner in a closely held company, and as an extra employee benefit or incentive plan. These two uses probably account for over two thirds of all the ESOPs now in existence. The proportion of ESOPs created to buy out a retiring owner can be expected to increase with time, because tax provisions encourage retiring owners to sell to an ESOP. Other companies have used ESOPs as a technique of corporate finance for a variety of purposes--to finance expansion, make an acquisition, spin off a division, take a company private, etc. In a small number of cases—about 2%—ESOPs have been used to buy out a failing firm that would otherwise close.

Buying The Stock Of A Retiring Owner

Many closely held companies have no plans, or incomplete plans, for business continuity after the departure of retirement of the founder or major shareholder. If the company repurchases a retiring or departing owner's shares, the departing owner sells his or her stock to another company, the proceeds will be taxed as ordinary income, or as capital gains if certain requirements are met, and, finding a buyer is not always easy even for a profitable closely-held company. Even if possible, it is not always desirable; furthermore in a family business, a retiring owner may face an unpleasant choice between selling to a competitor or conglomerate, or liquidating.

An ESOP can provide a market for the equity of a retiring owner—or any interested major shareholder—of a closely held company, and provide a benefit and job security for employees in the process. Retiring owners of closely held companies incur no taxable gain on a sale of stock to an ESOP, provided that the ESOP owns at least 30% of the company immediately after the sale (sales by two or more stockholders may be counted in this 30% if these sales are part of an integrated transaction), and that the sale's proceeds are reinvested in qualified securities within a fifteen month period beginning 3 months before the date of the sale. This tax-deferred rollover is a most tax favored way for an owner of a closely held company to sell his or her stock.

Employee Benefit Or Incentive

Most ESOP companies had the desire to set up an employee benefit or incentive as one reason for starting their plan, but for many companies that's the only reason. Some companies hope that by making employees owners they will increase their dedication to the firm, improve work effort, reduce turnover, and generally bring a more harmonious atmosphere to the company. Research has shown that giving workers a significant stake in their companies can improve employees' attitudes towards their companies, and that these improved attitudes towards their companies can translate into bottom line improvements. Other companies want to set up some kind of benefit plan, and find that an ESOP is the best choice.

The Employee Ownership Foundation released convincing evidence in February 2012 from the most prestigious social survey in the U.S., the General Social Survey (GSS), that showed employees in the U.S. who had employee stock ownership were four times less likely to be laid off during the Great Recession than employees without employee stock ownership.

Specifically, the 2010 GSS, funded primarily by the National Science Foundation and conducted by the National Opinion Research Center at the University of Chicago, found that 3% of employees with employee stock ownership, which include the ESOP model and other forms of employee ownership, were laid off in 2009-2010 compared to a 12% rate for employees without employee stock ownership.

In addition, the 2010 GSS data indicated that 13% of the employees with employee stock ownership intended to leave their companies in the coming months whereas the rate was 24% for employees without employee stock ownership. This indicates significantly lower expected turnover for workers with employee stock ownership.

Additionally, the survey found that employee ownership rates remained stable since 2006 with 17.4% of individuals reporting they owned company stock. About 19 million U.S. citizens own stock in the companies in which they work.

The Employee Ownership Foundation provided significant funding for the supplemental series of questions on shared capitalism in the survey. Shared capitalism is defined as broad-based employee, current or deferred, stock compensation programs, such as ESOPs (employee stock ownership plans), stock purchases, stock options, gain sharing, profit sharing, and bonus programs. The shared capitalism series of questions were developed and analyzed by well-known employee ownership researchers, Professor Joseph Blasi and Professor Douglas Kruse (School of Management and Labor Relations at Rutgers University) who submitted an application for their inclusion in the GSS. The researchers are continuing to analyze these and other related data from the Survey to shed light on the role of employee stock ownership in the U.S. economy.

In 2009, the Employee Ownership Foundation, conducting its 18th Annual Economic Performance Survey, found that a very high percentage of companies, 88.2%, declared that creating employee ownership through an ESOP (employee stockownership plan) was “a good decision that has helped the company.” In addition, the EPS asked companies to indicate their performance in 2008, relative to 2007. Approximately 50.4% of respondents indicated a better performance in 2008 than 2007, 9.4% indicated a nearly identical performance, and 39.7% indicated a worse performance. Around 57.9% indicated that revenue increased while 42.1% indicated revenue did not increase. In terms of profitability, 50.4% indicated that profitability did increase and 49.6% indicated that profitability did not increase in 2008.  Finally, in 2009, 88.5% of companies responding to the survey indicated they outperformed the three major stock indices in 2008 including the Dow Jones Industrial Average, the NASDAQ Composite, and the S&P 500. This survey was conducted in the summer of 2009 among corporate members of The ESOP Association.  The results are based on 429 responses.

The most comprehensive and significant study to date of ESOP performance in closely held companies was conducted by Dr. Joseph R. Blasi and Dr. Douglas L. Kruse, professors at the School of Management and Labor Relations at Rutgers University, and funded in part by the Employee Ownership Foundation.  The study, which paired 1,100 ESOP companies with 1,100 comparable non-ESOP companies and followed the businesses for over a decade, reported overwhelmingly positive and remarkable results indicating that ESOPs appear to increase sales, employment, and sales/employee by about 2.3% to 2.4% over what would have been anticipated, absent an ESOP.  In addition, Drs. Blasi and Kruse examined whether ESOP companies stayed in business longer than non-ESOP companies and found that 77.9% of the ESOP companies followed as part of the survey survived as compared to 62.3% of the comparable non-ESOP companies.  According to Drs. Blasi and Kruse, ESOP companies are also more likely to continue operating as independent companies over the course of several years.  Also, it is substantially more probable that ESOP companies have other retirement-oriented benefit plans than comparable non-ESOP companies, such as defined benefit plans, 401(k) plans, and profit sharing plans.