Fair shares and healthy profits

Latest research shows that employee share ownership seems to boost companies' overall performance.

Employee share ownership is like motherhood and apple pie. It is the sort of idea generally regarded as a "good thing" in theory, but rather more complicated in real life. However, an index launched last week should give doubters pause for thought.

According to the UK Employee Ownership Index, compiled by corporate finance house Capital Strategies, the share prices of quoted companies where employees have a substantial stake have significantly outperformed their more conventionally- owned rivals over recent years.

The index, which tracks companies with more than 10 per cent of their issued share capital held by or for employees other than directors, has risen threefold since January 1992 and has outperformed the FTSE All-Share Index by 89 per cent since then. It has beaten the market in 12 of the last 21 quarters.

The 30 companies in the index - which include National Express, the coach and bus company that has moved into rail and airports; FI Group, which operates a network of information technology support services; BTG, the technology business; and Beale, the department store company - have a wide variety of styles of employee ownership. However, many have their origins in management buyouts and privatisations, though in such situations employee ownership can be short-lived, as with the recent consolidation in the privatised bus industry and the dilutions - as a result of rights issues - in the workforce's stake in National Freight Corporation. There is still a heavy weighting in the index towards support service and transport companies.

Capital Strategies, which specialises in employee share ownership plans (Esops) and other employee ownership programmes for private and public companies, is not claiming a direct cause-and-effect relationship between employee ownership and share price performance. However, such companies often subscribe to many of the best practices identified by management writers. For instance, they typically espouse a more participative management style, their employees show high levels of business and financial literacy and incremental improvements in employee motivation and productivity can add up to material gains.

Nigel Mason, Capital Strategies managing director, says: "Far from destroying shareholder value, as some investors fear, employee ownership can demonstrably improve investor returns, as US experience has already illustrated."

That US experience is demonstrated by the American Employee Ownership Index, developed by a group of US academics and maintained by Capital Strategies sister company American Capital Strategies since its launch in 1994.

Thanks to favourable Esop legislation and tax incentives, employee share ownership has become a prominent feature of the US corporate sector. There are now about 10,000 Esop companies in the country, covering 11 million employees, or about 12 per cent of the private sector workforce.

And the signs are that the movement could develop force here. In the past, there has been a widely-held, if simplistic, view that the interests of employees - who always want improvements in wages and benefits - and companies - which must keep a lid on demands in the interests of profitability - are at odds. But though Capital Strategies' Mr Mason has pointed out that more employees would have gained stakes in their companies if trade unions had not been so vehemently opposed to privatisation, the climate appears to be changing.

Like the other main political parties, Tony Blair's New Labour committed itself in the run-up to last week's election to encouraging Esops.

Meanwhile, away from the spotlight of the stock market, many companies are claiming that employee ownership is helping to boost performance. For instance, the John Lewis Partnership chain of department stores has done better than many retail rivals, while new advertising agency St Luke's is hoping a similar approach can power it ahead in its own fiercely competitive arenan

Given its origins in 1960s California, it is perhaps not so surprising that Science Applications International Corporation - or SAIC, as it is more usually known - should have been set up as an employee-owned company. But the organisation, which by the end of the year expects to employ 30,000 people and have a turnover of more than $3bn, is insistent that the approach has helped it get where it is today.

The San Diego-based supplier of information technology support services to companies in such sectors as energy, telecommunications, transport and health, believes that giving employees a stake in the business makes them better informed and more entrepreneurial. Now that the company has moved into outsourcing, it suggests that this approach is helping it win over employees who might otherwise have been reluctant to join.

"A key premise on which we were founded was that the people who contribute should own the company in proportion to their contribution," said Joe Walkush, one of the company's senior US executives on a visit to the UK operation last week.

The company achieves this through a variety of share options and share ownership programmes. About 50 per cent of the company is held through an Esop in which shares are awarded in proportion to salary. The other half is individual share ownership based on allowing employees to buy shares and giving them bonuses and options related to such matters as winning business and their performance.

Although the company is not quoted on any stock exchange, there is an internal market and a subsidiary of the company acts as a broker to trade stock four times a year. The price, which has risen from $21 to $26 in the past year, is set by the board based on performance and an outside appraisal process. Moreover, because the extensive share ownership scheme means that there are more than 500 shareholders, the company has to comply with Securities and Exchange Commission requirements.

However, Mr Walkush stresses that none of this matters if there is not a participative management system. "You have to make it a meaningful thing," he said. At SAIC, this is demonstrated by the fact that employees are involved in determining their working environment, while "a lot of initiatives are started by employees rather than dictated by management"n

Roger Trapp