Employee ownership occurs when a corporation is owned in whole or in part by its employees. Employees are usually given a share of the corporation after a certain length of employment or they can buy shares at any time. A corporation owned entirely by its employees (such as a worker cooperative) will not, therefore, have its shares sold on public stock markets. Employee-owned corporations often adopt profit sharing where the profits of the corporation are shared with the employees. They also often have boards of directors elected directly by the employees. Some corporations make formal arrangements for employee participation, called Employee Stock Ownership Plans (ESOPs).
Employee ownership appears to increase production and profitability, and improve employees' dedication and sense of ownership. However, critics caution that democratic leadership can lead to slow decision-making, and employee stock ownership can increase employees' financial risk if the company does poorly. Notable employee-owned corporations include the John Lewis Partnership in the UK, and the US firm Tribune Company.
Most features of employee-owned corporations described in this article are not specific to any one nation. The information on taxation and stock trading refers to United States law and may differ elsewhere.
Stock acquired by the ESOP is allocated to accounts for individual employees based on relative pay or some more equal formula. Accounts vest over time, usually following one of two formulas: in the first, vesting starts at two years and completes at six; in the second, participants become 100% vested after four years. When employees leave the company, they receive their vested ESOP shares, which the company or the ESOP buys back at an appraised fair market value. ESOP participants must be allowed to vote their allocated shares at least on major issues, such as closing or selling the company, but are not required to be able to vote on other issues, such as choosing the board.
Employees also can acquire stock through grants of stock options, the right to buy shares at a price set today for a defined number of years into the future. There are no special tax benefit associated with most forms of stock options, however. Employees can also become owners by purchasing shares in a stock purchase program, usually at a discount, by buying stock in their 401(k) savings plans, or by companies making matches of company stock to employee deferrals into these plans. Stock in 401(k) plans can be bought with pretax income, while company contributions are tax-deductible.
Altogether, there are about 11,500 ESOPs covering 11 million employees, almost all in closely held companies. The other forms of ownership generally occur in public companies, and another estimated 15 million employees participate in one or more of these plans (see data from the National Center for Employee Ownership).
Employee ownership in 401(k) plans, however, is more problematic. About 17% of total 401(k) assets are invested in company stock--more in those companies that offer it as an option (although many do not). This may be an excessive concentration in a plan specifically meant to be for retirement security. In contrast, it may not be a serious problem for an ESOP or other options, which are meant as wealth building tools, preferably to exist alongside other plans. Detailed data on 401(k) plan investments are available at www.ebri.org, the home page of the Employee Benefits Research Institute.
The fair value method states that the compensation cost in respect to the ESOPs shall be measured at a fair value based on either an Options Pricing Model like the Black-Scholes-Merton Model or any Binomial model like the Lattice; and such fair value be recognized at the measurement date. Such compensation cost recognized shall be allocated to compensation expense over the vesting period based on the service period of the employee. At the end of each accounting period, the fair value recognized earlier shall be reviewed for any change of plan; and appropriate entries for the same be passed thereby reducing/increasing the compensation expense.