ESOP's Fables: The Influence of Employee Stock Ownership Plans on Corporate Stock Prices and Subsequent Operating Performance
Davidson, Wallace N.,, III, Worrell, Dan L., Human Resource Planning
Previously confined to smaller companies (Gupta, 1991) and to famous buyouts such as Avis and Weirton Steel (Schroeder & Hoerr, 1989), Employee Stock Ownership Plans (ESOPs) have also begun to proliferate at blue-chip giants such as General Mills, Procter and Gamble, ITT, Texaco, and Xerox. CEO MacAllister Booth of Polaroid has gone so far as to say that "twenty years from now we'll find that employees have a sizable stake in every major American corporation" (Nasar, 1989:141).
The moral for the ESOP fable is well known. As stated by Pierce and Furo (1990:42), "Employee ownership can have a positive effect on a work group's norms, cohesiveness, and cooperative behaviors; on an employee's work-related attitudes, motivation, and behavior; and on an organization's performance and profitability." Others, however, see ESOPs as "mostly a hoax ... whose rewards are too small and too distant to change how employees work" (Samuelson, 1989:A23).
Where does the truth lie? One major key to resolving the tale pertains to the actual impact of ESOPs on firm performance. How much do ESOPs really benefit employee-owners, other shareholders, and company profitability? Blasi and Kruse (1991:37) note that "if employee ownership has a viable future in public companies, it must demonstrate that its social, political, and personal benefits to workers translate into financial benefits for all public shareholders or, at the least, do not injure the financial interests of all shareholders." The objective of this study is to examine whether the establishment of an ESOP is beneficial to a company's performance. We define performance in two ways. First, we examine whether the announcement of ESOP creation is associated with abnormal common stock returns.(1) Second, we examine the performance of these same firms before and after the creation of the ESOP relative to their industry's performance to determine if ESOPs improve a company's profitability. Thus, our study looks at both the short run (stock market) and longer run (profitability) effects of ESOPs.
Such research on ESOPs is important for several reasons. First, human resource management (HRM) has expanded its perspective to include more macro-level outcomes with financial and strategic importance (Butler, Ferris & Napier, 1991). This movement toward integration, popularly known as strategic human resource management (SHRM) brings increased attention to how HRM policies can be used to impact firm profitability. Gomez-Mejia and Balkin (1992:5) further note that "no other HRM subfunction has been as guilty of myopic focus as compensation, with its well-known predilection for tools and techniques."
There also has been a growing interest in viewing stock prices as an important strategic variable (Lubatkin & Shrieves, 1986; Rappaport, 1981) and in establishing a closer working relationship between management and finance researchers on issues that lie at the interface of both disciplines (Bettis, 1983; Jemison, 1981; Oviatt, 1988; Peavy, 1984).
In addition, the vast majority of the literature on HRM strategy has been prescriptive in nature. Shareholder reactions to announcements of the creation of ESOPs and longer run profitability measures provide objective assessment of a firm's future performance. These measures reflect the bottomline results of organizational ESOP strategies.
Prior studies have found that ESOPs improve the ability of a company to generate sales (Cohen & Quarry, 1986) but have yet to demonstrate that firm efficiency and/or profitability increase. Previous research has also demonstrated that there is a positive stock market reaction to the announcement of ESOP formation (Chang, 1990). However, if ESOPs do not improve profitability there must be another source for this increase in stockholder wealth. Thus, it is important to measure abnormal common stock returns and subsequent rates of profitability on the same set of ESOP creating firms to narrow-down the source of stockholder wealth creation. …