This story first published in "Celebrating Employee Ownership," a special section that celebrates employee ownership during National Employee Ownership Month.
In July, The ESOP Association (TEA) named Cedar Rapids' Rayser Holdings the 2024 ESOP Company of the Year.
"Our winner proudly displays their Employee Owned status for all to see," said TEA's website announcement. Rayser's 145 employees earn more than wages. Through their Employee Stock Ownership Plan, they own the company shares. As the shares rise in value, so do their retirement accounts.
On Sept. 2, the Employee Stock Ownership Plan, or ESOP, turns 50. It was originally written into law as part of the 1974 Employee Retirement Income Security Act (ERISA), a law that continues to protect workers' retirement security. Though there was little fanfare at the time, today, the ESOP is the most common form of employee ownership in the United States.
The evolution of the ESOP
In the 1950s, Louis Kelso, an attorney and economist, grew concerned that workers were soon to be left behind as growth in wages stagnated while returns to capital accelerated. He proved to be absolutely right -- wages over the past five decades have remained almost flat, while the value of capital investments has increased more than 4,000 percent.
To solve this problem, Kelso believed workers should own shares in the business where they worked. The shares, as they appreciated, would provide a second stream of income. The problem Kelso faced, said Corey Rosen, founder of the National Center for Employee Ownership, was that workers couldn't afford to buy the shares, so he proposed another mechanism. The business would use its collateral to get a loan to buy the shares and place them in a trust with the workers as beneficiaries. The loan would be paid back through company profits. The beauty of the plan was that workers became asset owners without risking their own money.
In the 1950s and 1960s, Kelso set up about 300 of these plans, but without clear statutory authority, each had to be approved individually by the International Revenue Service. In 1973, Kelso met with Senator Russell Long (D-LA), chair of the powerful Senate Finance Committee, to interest him in what was then called the "Kelso Plan." Russell was the son of Huey P. Long, the populist governor of Louisiana who had been shot during a bid for the presidency in the 1930s. According to Michael Keeling, ESOP expert and former long tenured president of The ESOP Association, Sen. Long saw the Kelso Plan (later renamed the Employee Stock Ownership Plan) as a means to affirm his father's vision of "every man a king." As a conservative Southerner, Sen. Long liked the idea of workers benefiting from the wealth they were creating rather than from government handouts.
As chair of the Senate Finance Committee, Sen. Long shepherded ERISA through Congress in 1974. He ensured the legislation not only allowed for ESOPs but incentivized their formation with a small tax credit for employers. Nonetheless, few ESOPs were created. As a result, in 1984, Sen. Long included new incentives in a major tax bill. The most important of these, according to Keeling, who was lobbying for the ESOP Association at the time, was the deferral of capital gains tax on gains realized by the seller of stock of a privately held company to an ESOP. This provision incentivized the main use of ESOPs to this day, as a tool for business succession.
After 1984, ESOP formation accelerated, but few ESOPs owned majority shares. That changed in 1996 when legislation allowed ESOP trusts to own S Corporation stock without paying business tax on the trust's share of company profits. Today, the majority of ESOPs are employee-owned S companies. The tax advantage makes these firms want to remain ESOPs over the long term, said Rosen, making them more attentive to building company cultures that give ESOPs an advantage in the marketplace.
ESOP landscape at 50
In 2021, the latest year for which data is available, 6,247 corporations with a total of 10.7 million employees had ESOPs. The total wealth held in trust for employees was over $2 trillion. Employees 55 years or older, with tenures of 10 years or more, held, on average, $315,000 in wealth in their ESOP accounts. These ESOP accounts usually supplement a traditional 401K, so workers are not overly invested in their workplace.
Of ESOP participants, 8.3 million work for 424 publicly traded firms where ESOPs hold 1-3 percent of company shares. Because these are very large companies, the value of the ESOPs is quite substantial, totaling $1.5 trillion.
A much larger share of companies with ESOPs are smaller, privately held companies. Over 5,800 private companies have ESOPs covering 2.4 million employees. These plans are valued at $539 billion. Of these firms, 3,400 are majority or 100-percent ESOP owned.
ESOPs can be found in every state and most industries. They are most prevalent in manufacturing, professional and technical services, construction, finance and real estate. Some well-known ESOPs include Publix, Bob's Red Mill, King Arthur Flour, W.L. Gore & Associates, Davey Tree, and Harpoon Beer. Iowa has 138 ESOP firms with over 30,000 employees, including Rayser Holdings and Folience, owner of the Gazette and several other businesses.
ESOPs outperform their competitors
ESOPs aren't just good places to work. Decades of research demonstrates that ESOPs outperform their industry peers, increasing productivity 4-5 percent. But all ESOPs are not the same, noted Rosen from NCEO. His research identified three key factors contributing to success: the size of the annual contribution to the ESOP, the frequency of communication about the ESOP to employees, and the degree of employee involvement in decision making.
Rayser Holdings exemplifies how ESOPs build success by investing in and engaging employees. Rayser became an ESOP in 2004, when the founder of its core business CarePro Health Services, Ray Buser, was preparing to exit. Like many other exiting owners, Buser wanted to see his legacy continue -- and to reward the employees who built the company with him.
In the intervening years, Rayser has diversified its holdings, adding three small businesses to its portfolio. CarePro remains its largest holding with 90 employees, while the three other businesses -- all outside the health sector -- each have fewer than 25 employees.
Rayser builds its ownership culture across these diverse businesses through open-book management. Monthly, CEO Michelle Jensen produces a video in which she shares the high-level financials. She uses the opportunity to educate and engage, explaining, for example, why a particular business might not be hitting its targets. Sharing financial information, Jensen said, helps employees see how their ideas for improving workflow or service delivery impact the bottom line -- and therefore the value of their shares.
"Many of our employees have worked in small businesses that were very frugal. We give them an opportunity to ask for things that will help them do their jobs better, like replacing an old welder," Jensen said. "We want them to understand that those types of investments pay off in the long run."
Rayser Holdings represents a growing strategy among ESOP companies: acquisitions. A holding company, with its multiple businesses, reduces risk for the participants. When one company falters, another is doing well and growing share value. Another benefit is that the selling owner doesn't have to create an ESOP, a complex and cumbersome process that deters sellers.
According to NCEO, the total number of ESOPs increased marginally in 2021; however, ESOP participation rose 23 percent (an addition of 500,000 workers). "Seventy percent of that growth was through acquisitions," Rosen said.
The future for ESOPs
According to Jim Bonham, president of the ESOP Association (TEA), a patchwork of laws and policies creates multiple barriers for owners who would like to sell their business to their employees.
At a forum organized by the Aspen Institute, he said, "We must do a better job, making it easier, less risky, more attractive for a business owner to sell to employees."
State and federal governments are attempting to do just that. In an era in which 2.9 million small businesses are owned by close-to-retirement boomers, employee ownership is now seen as a viable, bipartisan solution to preserve small businesses and, simultaneously, narrow the wealth gap. At the federal level, Congress passed the WORK Act in 2022, mandating the Department of Labor to establish a Division of Employee Ownership. When Congress appropriates the funds, the DOL's Office of Employee Ownership will provide $50 million in grants over five years to state centers educating business owners and service providers about the benefits of employee ownership -- and providing financial and technical assistance to support employee ownership transitions.
At 50 years, the ESOP is finally catching on, said Jensen. "There is much more interest than 20 years ago when our ESOP was formed."
That support is helping more people see that ESOPs have value for businesses, workers and communities.
"We feel fortunate to provide a fair wage, good benefits and a good place to work. But most importantly, we're not publicly traded or owned by private equity," Jensen said. "We don't have to make decisions to enhance short-term profit; we are in it for the long run. We care about today and tomorrow, because when our employees retire, we want to be here for them."