William A. Mundell and David Dreier at Pensions and Investments:
In the Oliver Stone film “Wall Street,” protagonist Gordon Gekko delivered what became the defining battle cry of 1980’s America capitalism, “Greed — for lack of a better word — is good.” Excess was a natural outgrowth of unbridled capitalism. It was something to celebrate rather than shame because, to quote Gekko, it worked. Entrepreneurial energy created the most robust economy in modern history.
Today, the children of Gordon Gekko are not so sure. Young Americans are disillusioned by the lack of a clear pathway to wealth creation. According to a recent Pew poll, more than half of Americans aged 18-29 view socialism more positively than capitalism. No doubt the “greed is good” ideology needs rethinking, but what if doubling down and broadening capitalism is the best way to reimagine it?
With American wealth increasingly concentrated in company equity, companies themselves are uniquely positioned to create new capitalists. Appealing to the self-interest and fiduciary obligations of the titans of industry may be the simplest and most effective way to accomplish that. By more broadly rewarding employee performance with stock in addition to wages, companies will jumpstart their employees’ economic mobility.
Why would a company voluntarily do this? After all, it dilutes not only the shares of the C-suite where this decision would likely be made, but also of all outside shareholders whom they are bound to protect. The reason is quite simple, and it has not been lost on Silicon Valley and some of the largest private equity sponsors in the world. Work to Own is conducting research to determine whether firms with relatively high employee ownership have superior financial performance.
This endeavor is aligned with the attitudes of private equity firms toward employee ownership. Private equity groups such as KKR, Apollo Capital Management, Ares Management, Silver Lake, and TPG are all implementing programs to empower the employees of their portfolio companies with ownership. Most recently, Blackstone kicked off a program to grant equity to all 18,000 employees of Copeland, a climate technology firm it recently acquired.
There is evidence that American employees have an appetite for risk. This is illustrated by a survey conducted by Hodge et al (2009) of 192 entry- and mid-level managers which concluded that over 40% of managers assign value to employee stock options that are greater than their fair value. This is based on the Black Scholes option pricing model which indicates that these equity grants are viewed as high probability lottery tickets. In the context of private equity, this view is rational because most portfolio firms are sold within 10 years of their acquisition, often at significant premiums to fair value.
If the modern-day Gordon Gekkos of the private equity world think increasing employee ownership yields more wealth for them and their investors, then arguably CEOs of public firms should rethink how incentivizing employees across the pay scale with equity also generates a higher return for their investors.
With support from the nation’s leading employee ownership scholars, Work to Own is focused on developing measurement tools to assist public companies to more fully understand the impact of employee ownership on financial performance. We began this research journey by assembling publicly available data and creating an estimate of the number of shares held by employees. Our calculation is based on the most comprehensive set of integrated employee ownership data we are aware of for the largest 1,500 publicly traded companies in the United States, representing over 75% of the U.S. stock market. Our findings to-date, while preliminary, are tantalizing in that firms with the highest levels of our estimate of employee ownership also have significantly higher stock returns than their peers.
We ranked all 1,500 firms based on an estimate of the percentage of outstanding shares each provides to its employees, relative to the median ownership percentage of the whole sample. We then split the sample into three equal sized portfolios of firms (high, medium and low employee ownership). The implications of our research are promising. We found that the systematic risk for all three portfolios suggests that $100 invested today will grow to $130 in three years. This equates to roughly 10% per year, which is the long-term average return of the S&P 500. However, our findings reveal that the high employee ownership portfolio generates a 25% premium, i.e., $100 invested today grows to $163 ($130 x 1.25) in three years. By contrast, $100 invested in the low portfolio grows to only $124 in three years, a figure 24% less than the high portfolio. While these results are encouraging, the preliminary analysis should be viewed with caution, because results could change with the release of more detailed data from companies. To date, they are not required to report.
More work needs to be done, and the current disclosure landscape poses a significant challenge. Firms disclose little information on employee compensation, including who gets what across the pay scale. Even public companies do not yet disclose this data.
We have started to engage with companies to collect more granular data. Corporations can play a much bigger role as change agents in creating a more economically mobile society. They are poised to do so in a big way and without violating their fiduciary oaths. Greed — for lack of a better word — can still be used as a force for good.