Tuesday, May 26, 2015

ESOP folly exposed

Behind government’s “mistake” in broad based black economic empowerment

Employee Share Ownership programmes must be one of the most overrated placebos in South Africa’s human resource arena. I have always been a staunch critic, not of the concept itself but of expectations of what these highly complex and costly programmes can deliver.

This is behind the government’s flip-flopping in rating ESOPs for BEE. After a statement that they would be downgraded (see this Moneyweb Article), Trade and Industry Minister Rob Davies has now withdrawn that notice. Hopefully he has learned that you don’t mess with investor sentiment in a jittery market; and if you want to fly kites ensure that they are not explosive-carrying drones. Denying organised labour a no-strings-attached expensive gift is also ill-advised.

It is clear that these ineffective burdensome schemes have been stitched into our stock market tapestry, making it vulnerable to the whims of hip-shooting politicians. Much of what Davies said cannot be undone and will no doubt hang like an Overberg mist over these programmes for the foreseeable future. In particular is his frustration that these schemes do not “effect change that would see black people participating meaningfully in the core of the economy. Passive shareholding would not transform the economy as these shareholders were not the real drivers of the business.”

This was obvious from the start. In the 60 or so years since the first ESOPs were developed, very few, if any, have resulted in the participants gaining or even wanting more control over the destiny of the company. Where this happened the initiative came from mostly employees themselves to save an organisation from going to the wall or from scavenging shareholders. To expect otherwise is to suffer from a delusion which has flawed modern capitalism in the last four decades – that the owners of assets are ultimately in control; that they are the “real drivers of the business”. They are not. Customers or the buyers of products or services are.

That is the true meaning of being “market driven”. At the risk of being politically incorrect, there has been no evidence that this has been acknowledged in any of the large BEE exercises, such as our state owned enterprises, let alone government services. “Active shareholding” is not only about having a large or majority stake in a company. It is about taking ownership of not only assets but of customer driven operations.

This is the obvious place to start and it need not be linked to asset ownership. Indeed, without taking responsible and market driven ownership of operations, transfer of assets will simply mean replacing one predatory player with perhaps an even more predatory and destructive one.

As a somewhat outrageous interpretation, the debacle about broad equity-based empowerment means that shareholders have been paying massive bribes to score BEE points that have served very little purpose. On the plus side, any action that counters inequality and transfers some wealth to labour does have some benefit in these times of declining global labour participation in wealth creation.

But at what cost? For the most part, most shareholders are quite oblivious to the real cost of these programmes. They become clearer when one examines the amounts involved in the unwinding of BEE deals, as shown in the above Moneyweb article. These costs are only felt in a marginal dilution of equity earnings and very often to compensate, companies put additional emphasis on short term profit maximisation, including reducing the workforce. More often than not, therefore, labour does pay some ultimate price for share ownership.

In advising companies on employee involvement, I was often asked to assess employee share schemes as instruments of enhancing employee participation. One could become submerged in complex and sometimes highly technical detail – like analysing the chemical compound of medicine and then forgetting to observe the effect on the patient.

The bottom line is that I have yet to see credible and comprehensive research that convincingly shows that ESOPs succeed in what should be the primary motive – the motivation and involvement of staff in the destiny of the organisation. There may be some isolated exceptions but there are so many variables in different organisations that they automatically preclude a one-size-fits-all prescription.

If the measurement of success is the transfer of asset wealth and even some earnings income, then some can be considered more successful than others. But certainly none have proved conclusively that they lead to a measurable difference in employee behaviour or an improvement in labour productivity. I have covered this in numerous articles and return to the best example of the much vaunted Kumba scheme where miners went on strike for better pay within weeks of becoming semi-millionaires under their ESOP scheme. The current MTN strike is a more recent example.

These, with many others, show the distinction between ownership of assets and ownership of operations, and the folly of believing that entrenching the first will automatically entrench the second. The second is far more important in determining the fortunes of a company. It is also much easier and less costly. Employees are in any case in control of much of the operations of a company, simply by being in control of their own tasks. This was recognised some time ago in labour legislation which provided for the establishment of work-place forums.

I was intimately involved with many of these and witnessed their regular fall into dysfunction when they became griping sessions over benefits and working conditions, rather than focussing on operational improvements. This was due mostly to poor leadership and a lack of a shared vision focussed on servicing demand. Poor communication was also a big factor, especially the lack of sharing financial information with staff and using effective line of sight explanations to demonstrate the impact of operations on the company’s performance, and more importantly, linking some rewards to operational improvements.

It is not surprising that Minister Davies has become disillusioned with broad based equity ownership as an empowerment tool. What is surprising is that he expected something different and still seems to favour BEE on an individual level to create a number of new instant billionaires. The sad part is that we are firmly stuck in a paradigm that wealth distribution, or worse still, redistribution, as opposed to wealth creation is the answer to our economic woes.

Simply shifting asset ownership through ESOPs or even BEE will achieve very little. Indeed, without a primary focus on responsible and customer driven operational ownership, it will threaten wealth creation itself.


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