The Effect of Employee Stock Ownership Plans on Corporate Profits

Abstract

Employee Stock Ownership Plans (ESOP) recently have become popular as employee benefit plans. Arguments presented in their favor include increased productivity, lower employee turnover, and reduced costs of raising equity capital. Little empirical evidence has documented these purported benefits. Profits of similar firms with and without ESOPs are compared to identify differences which confirm or refute these claims. A univariate matched pair analysis and a multivariate multiple discriminate analysis provide results indicating firms with ESOPs have significantly lower profits than firms without ESOPs. Additional analyses indicate no difference in risk characteristics which might explain differences in profitability, and imply that costs of the plans outweigh financial benefit to the firm. According to a recent survey conducted by Bankers Trust, the number of firms with employee stock purchase plans has nearly doubled in recent years. In 1967 the survey indicated 128 corporations with stock purchase plans, while the 1977 survey listed 236 corporations with such plans [2]. Large firms like Sears and IBM are well known for their programs, but many small firms also have utilized these plans. Recent development has been in the establishment of tax-qualified plans called Employee Stock Ownership Plans (ESOPs). An ESOP is defined as any tax-qualified, individual-account, deferredcompensation plan which invests a significant portion of its funds in employer stock. The plan may be a profit-sharing, stock-bonus, money-purchase pension plan, or some combination of the three. Employers contribute either cash or company stock into a trust and receive a tax deduction equal to the market value of the payment [9]. Louis Kelso, lawyer and lay-economist, has been most responsible for promoting these plans during the past 20 years [14, 15, 16]. He convinced Senator Russell B. Long to support the idea, and special benefits for ESOPs became part of the Employee Retirement Income Security Act of 1974 (ERISA) and the Long Amendment to the Tax Reduction Act of 1975. These laws allow tax breaks which make the establishment of ESOPs attractive to business organizations.