Is Employee Ownership Counterproductive?

Turning workers into shareholders improves corporate performance, or so advocates of employee ownership maintain. Their logic is simple: Workers with a stake in their company’s future are more likely to take a long-term view, which translates into higher productivity and other gains.

But new research from the National Bureau of Economic Research casts doubt on those claims. In their April 2005 working paper, “When Labor Has a Voice in Corporate Governance,” Olubunmi Faleye, an assistant professor of finance and insurance at Northeastern University, and Vikas Mehrotra and Randall Morck, both members of the finance faculty at the University of Alberta, report that companies with significant levels of employee control systematically underperform — in large part because workers can hold management hostage to their short-term concerns.

These findings are of more than academic interest in the United States, given current levels of employee ownership. According to data collected by the National Opinion Research Center in 2002, some 23 million Americans, or 23.3% of employees at for-profit companies, own company stock through employee-stock-ownership programs, stock-purchase plans, 401(k) plans and other programs. Together, ESOPs, stock-bonus plans and profit-sharing plans invested primarily in employer stock hold more than $500 billion in assets, according to the National Center for Employee Ownership, while employer-focused 401(k) plans account for another $160 billion or more. (These figures do not include participation in stock-option or stock-purchase plans that invest in other companies.)

How do such holdings affect corporate performance? To answer this question, the researchers analyzed a broad range of financial measures for over 2,100 companies from 1995 to 2001. At 226 of these companies (the “labor voice” companies), employees owned and voted at least 5% of outstanding shares since 1990 or earlier; the remaining 1,888 companies reported labor stakes of less than 5% or none at all. (Excluded from the sample were 22 companies in which employees owned at least 5% but where management voted employees’ shares.)

The differences between the subsamples turned out to be sizable, even when controlling for potentially confounding factors such as corporate governance, the availability of investment opportunities, current profitability, current debt, past financial circumstances, and industry. For example, Tobin’s q — a common measure of shareholder wealth creation — is 23 percentage points lower at companies where workers vote at least 5% of the shares. At companies where labor’s stake is at least 10%, the performance penalty is even larger — 39 percentage points.