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Myths About ESOPs

Are Workers Truly Winning? Employee stock ownership plans (ESOPs) and co-ops have been getting a lot of media coverage lately, from The New York Times to Restaurant Business. But, for the most part, it’s just hype. These plans vary widely, but in general, a business owner sets up a trust for employees and transfers stock […]

May 1, 2024
Myths About ESOPs

Are Workers Truly Winning?

Employee stock ownership plans (ESOPs) and co-ops have been getting a lot of media coverage lately, from The New York Times to Restaurant Business. But, for the most part, it’s just hype.

These plans vary widely, but in general, a business owner sets up a trust for employees and transfers stock to the trust. Some owners claim that making employees part-owners will get them to work harder and improve company performance. Others have different reasons. The owner of Jaws Jumbo Burgers, a Florida-based chain, recently announced a co-op program offering workers part-ownership of any new restaurants he opens. This owner, an outspoken critic of rising minimum-wage laws, hopes turning employees into part-owners will motivate them to back off on demands for higher pay.

My take on this: The notion that low-wage fast-food workers can benefit from any employee stock-ownership plan is nonsense. Let’s look at some of the myths about how these plans would actually work for them.

3 Myths About ESOPs

Myth 1: Employee ownership motivates workers.
These plans are not some big-hearted, democratic move to give power to the people. If you’re making $30,000 a year, you are spending every single cent of that $30,000. You are too busy trying to solve problems and save money. You’re using your break to schedule your kids’ doctor appointments. For you, a little more cash, in the form of a raise from $30,000 to $35,000, would be gigantic, and you would change employers to get it. Do advocates of this idea seriously think somebody who is flipping burgers is actually going to track the value of their stock in an ESOP and work harder to make it go up? Only when employees get to a higher income level do luxuries like an ESOP become motivational.

Myth 2: Stock ownership plans spread the wealth.
Let’s say I’ve worked at Jaws Jumbo Burgers for two years and I’m leaving. Can I cash out the stock I own? How are my holdings valued? Some plans make it difficult for people to withdraw their cash and walk away.

For example, I quit LA Fitness the other day for a new gym. I asked an employee at the front desk how to stop my monthly dues, and they handed me a form to fill out. I asked, can’t I just go online? No, they said, you fill out the form and you have to mail it in. Why can’t I just hand it to you? I asked. It has to be mailed to corporate headquarters. By this time, I’m annoyed. This business is making it as difficult as possible for me to claim what I am owed.

Low-paid hourly workers dealing with employer’s stock-ownership or co-op plans are often vulnerable in the same way. In order to benefit, they must figure out and follow complicated rules. Most are likely instead to just leave their stock holdings in place when they resign and walk away.

Myth 3: Employees will grow into leaders.
Advocates say stock ownership plans can solve employers’ succession-planning problems by motivating employees to stick around and assume leadership. But fast-food restaurants are a revolving door. The idea that you’re going to retain front-line, drive-through employees with stock ownership is disingenuous. I would argue that most employees are not in the job long enough to understand the rules.

A real succession plan involves identifying key, high-potential employees whom you really want to succeed you. You might set up an incentive plan and sell the company to them over time. This could make sense for some 100-year-old business that is a union shop with people who have worked there forever and are well-established and can form a governing board. ESOPs have been successful in circumstances like that.

It’s true that ESOPs are gaining traction in some sectors. The number of privately held companies with ESOPs rose by 1.5% in 2021 to 5,973. One reason is because KKR and other private equity firms have started to use them as a way to motivate employees, who actually do benefit when private equity firms flip their companies for a profit, according to The New York Times. But to succeed, these plans must be accompanied by employee education and a strong chance that the company will rise in value and give employees a clear path to cashing out.

In the case of quick-service restaurants, ESOPs more often benefit owners by providing a way to extract money from the business. Getting a valuation on stock transferred to an ESOP enables an owner to get a loan. So if your business is valued at $10 million and you transfer a 49% ownership stake to the ESOP, you can cash out, either by having the ESOP borrow money and pay you $4.9 million for that equity stake, or by receiving a promissory note from the ESOP.

Plenty of consultants and bankers who put together financing for these plans have a lot to gain. Before you take the bait, take a hard look at the actual benefits for your employees.

West Coast Franchise Law

If you have any questions about franchising, please contact the experienced franchise and business law attorneys at West Coast Franchise Law today at (206) 903-0401 to discuss your situation. Nate Riordan is a 2023 Franchise and Bankruptcy Super Lawyer with over 20 years expertise helping clients achieve their business goals.