ESOPs: Naturally Built for Innovation?

Research suggests that well-run ESOPs may have a big advantage when it comes to spurring employee innovation.

A recent Harvard Business Review article cited several research studies showing that companies tend to be more innovative when:

  • They treat workers well.
  • Workers feel they have job stability.
  • Businesses offer stock options to non-executive employees.

The article speculates that these factors give workers the peace of mind to take short-term risks in the interest of supporting the business’ long term health. HBR Senior Editor Walter Frick writes: “If failure in the short-term is acceptable or even rewarded, and if workers have a stake in the company’s long-term performance, they should be more likely to innovate.”

So treating workers well, giving them job stability, and incenting them to focus on the long term health of the company all spur innovation? Than ESOPs should be innovating in spades.

Here’s why:

ESOPs—and other employee owned firms—provide better job security. During the Great Recession, companies with employee stock ownership were four times less likely to lay off workers than those without such ownership, according to research conducted for the Employee Ownership Foundation.

Data from June 2015, when the economy was clearly out of recession, are even more compelling: Companies with employee stock ownership were more than seven times less likely to lay off workers than other companies in these economically healthier times.

ESOPs focus workers on the long term—perhaps more effectively than stock options. When employees become owners, they are more likely to be focused on the business and its long term interests. And ESOPs might be more effective at these goals than stock options.

ESOPs—because they are retirement plans, conceptually similar to 401(k)s and pensions—are generally easier to understand than stock options. What’s more, workers get these funds when they leave the company, or retire—long term decisions made by them, not the business.

And because ESOP funds are distributed only upon leaving the business or retiring, they encourage workers to focus on the business for the duration of their tenure, or even their careers. Long term, indeed.

Well-run ESOPs treat employees like owners. (In other words, well.) ESOPs may be well run or poorly run, but the ones that are run well encourage participation among employee owners, solicit their feedback, empower them to improve the business, and educate them on the financial inner workings of the firm.

When employee owners participate in running the business, they generally treat themselves well and with respect. (They would be foolish to treat themselves poorly, wouldn’t they?)

So by doing what they do naturally, ESOPs should do a superior job of spurring innovation. Just one more piece of evidence showing that ESOPs are good for employees and businesses alike.

(This article originally appeared in the January 2016 ESOP Report.)

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