Abstract
In this paper the impact on both employees and company were compared with respect to company performance and employee benefit. The advantages of issuing stock to employees were analyzed based on tax advantage for both employee and company. Having more motivated employees that care about the future of the company was found. Also, a study was conducted and found that higher profits were reported with companies that had employee stock ownership plans in their benefit package versus companies that did not. Also, the value of these plans can be higher than the costs of administered correctly and taken advantage of. The disadvantages were also highlighted although much less were found. These plans can have a negative impact on ordinary shares. Also, if employees only invest in one company stock then their risk is higher as opposed to someone that has diversified their portfolio. The vesting date, if not paid attention to, can be seen as undesirable. Lastly, tax can also be seen as a disadvantage.
Advantages & Disadvantages
Employee stock ownership plans are a tool companies can use as a supplement of employee benefits. They are stocks issued to the employee that allow them to have part ownership in the employing company. This is largely used to align interests of the shareholder with the employees of the company. Some easy examples are turning off the lights when they leave a room, whoever is the last to leave adjusts the thermostat, having excellent customer service and retention customers, reducing waste and being more mindful of company money in general. There are some limitations however, the employees who retire cannot take the stock with them, they have to cash out for payment. Also, employees who are fired or let go can only take what they vested- not the earnings. There are two ways employers issues ESOP. One way is to take from their reserve of shares that have not yet hit the market. The other way is to use the company profits to buy back shares and use them to build their reserve.
There are many advantages to both employer and employee when stock is issued to employees. The first being tax advantages. This is a double edge sword because there are implications as well. In this section, the advantages will be highlighted and later the disadvantages. The two types of stock options most employers give as an option are Incentive Stock Options or ISOs and Non-Qualified Stock Options or NISOs. With ISOs there is no tax on date of grant/purchase or date of exercise. The company may even have better tax benefits themselves that outweigh the cost of the employee owned stocks.
The second advantage to EPSO plans is the incentive for employees to be more engaged workers. According to Forbes.com, “Authored by researchers at the University of Iowa, Villanova University and Indiana University, the new analysis captured data on more than 56,000 companies in the U.S. and abroad. And, when all the caveats and qualifications were in, found that a company with a significant employee ownership could expect to be 4% more profitable than others.” (IN TEXT). This shows that companies have more profits than companies that do not off the benefit. This can elude to the fact that employees care more if the company makes money and so they work harder and smarter. Similar studies have also shown increased job satisfaction among employees and more dedicated to the organization as a whole. Having this benefit along with others, even if the salary is not comparable to the industry can still lead to trained and skilled workers while keeping their retention rate. Since employees are financially vested in how the company performs on the stock market they are more inquired to perform better in their position. The goal is to also helps limit job hopping among employees.
Growth in company profit and employee profit can also be an advantage. A study was organized by Rutgers University comparing the performance of 343 employee stock ownership plan companies and non-employee stock ownership plan companies. The results were companies that offered ESOPs increased sales by about 2.3% per year. Employee can also increase their profits or net value if the company performs well on the stock market. If an employee gets hired by a startup tech company and the company skyrockets on the stock market like google or apple, the employee could make cash very quickly.
Stock options can prove to be a greater benefit than cost to a company. It allows smaller companies to compete for skilled employees from the larger corporations by having similar benefit packages or making their package more attractive to the job seeker. This puts smaller businesses on the radar for the talented and dedicated workers. The competition between companies of all sizes to attract skilled workers is only benefiting the employee more with bigger and better compensation packages and other benefits.
A disadvantage is the negative influence on ordinary shares from employee stock ownership. Since employees are basically given a stock at a deep discount there are more wanting to exercise their option thus diluting the market since there are more shares outstanding. According to, Wharton University of Pennsylvania, “Since a stock’s price is heavily influenced by earnings per share, lower per-share earnings would likely cause the share price to fall” (IN TEXT)
Diversifying stock is so important to mitigate risk. When investing in company stock specifically only the one an employee works at makes them more susceptible to risks. Any investor should never want to have assets in only one area. According to CNBC.com “"You can end up having your assets heavily concentrated in one area – your company's stock," said certified financial planner Douglas Boneparth, president of Bone Fide Wealth in New York.”. (IN TEXT)
The vesting date can also be seen as a negative aspect. There is usually a wait time when employees are given stock options and when they are fully vested. At this point employees can purchase the shares, but if they decide to move on to another company they will lose their unvested stock options.
While previous stated tax can be a positive aspect when deciding to offer ESOP, it can also be seen negatively. For NISOs stockholders pay taxes when they exercise the options based on the exercise price and the fair market value. The difference of those two prices is taxed as income. With ISOs, even though there is no tax, the gained amount from exercise price and fair market value might be subject to alternative minimum tax. The company typically only has the lost opportunity to sell their stock at a higher price or market value since employees buy at a discounted rate. Fidelity has outlined 6 common ESOP mistakes to try and avoid
Allowing (underlying stock is that trading above the original strike price) stock options to expire
Not fully understanding the tax consequences of ISOs
Not understanding the stock plan rules when an employee leaves the company
Not diversifying the portfolio and relying too much on company stock
Ignoring the benefit of an employee stock purchase plan
Failing to update beneficiary information
Using Publix and Kroger as an example, in the table below provided by the National Center of for Employee Ownership, Publix is the top ranked employee owned company based on ESOPs. This means that at least 50% of the company is owned by employees. (2018). Publix had 195,564,925 shares of ESOPs as of February 6th, 2018. In 2017, their earnings were $2,394,039 as opposed to kroger who had $2,151,000 roughly. There are many factors that determine a company’s performance so i am not suggesting this reason Publix came out ahead was solely based on ESOP, however it could have been a factor.
Rank
Company
City
State
Plan
Start Date
Business
Employees
1
Publix Super Markets
Lakeland
FL
ESOP & Stock Purchase
1974
Supermarkets
190,000
References
https://www.forbes.com/sites/maryjosephs/2016/09/29/major-study-points-way-to-higher-profits-engaged-workers-company-differentiation/
https://www.nceo.org/articles/employee-ownership-100
https://www.foxrothschild.com/publications/esops-a-path-to-increasing-a-company’s-sales-profitability-employee-satisfaction-and-job-security/
https://rsmus.com/what-we-do/services/tax/lead-tax/employee-stock-ownership-plans-fact-vs-perception.html
http://mintzedge.com/blog/why-does-a-company-issue-stock-options
https://www.nber.org/digest/may04/w10177.html
https://smallbusiness.chron.com/benefits-employee-stock-options-company-2842.html
https://www.investopedia.com/terms/e/esop.asp
How Employee Stock Options Can Influence the Value of Ordinary Shares
https://www.cnbc.com/2018/02/27/employee-stock-options-can-come-with-expensive-risks.html
https://www.allbusiness.com/how-employee-stock-options-work-in-startup-companies-103450-1.html
https://www.fidelity.com/viewpoints/personal-finance/stock-plan-mistakes
http://eproxymaterials.com/interactive/kr2017/
http://www.publixstockholder.com/financial-information-and-filings/annual-meeting-and-proxy