Is gifting shares to employees a good idea?

Current issues related to economy, (responsible) investment, pension and income: every week, an APG expert gives a clear answer to the question of the week. This time: Charles Kalshoven, macroeconomist and expert strategist at APG, on CNV’s call to stop taxing employee shares. Does this really represent the egg of Columbus with which to combat inequality?

Unlike in the countries surrounding us, the Netherlands has no tradition of allowing employees to share in company profits through shares. According to CNV, this applies to less than 10 percent of companies. They give shares to their employees, which is still seen as wages on which taxes must be paid. The union now wants a company to be able to gift up to 2,000 euros worth of shares to employees tax-free. That would help combat rising inequality.

“Greedflation”

The CNV's plan comes at a time when big companies are being accused of “greedflation”, using inflation to raise prices more than necessary. “I don’t think you should see it as the solution to greedflation,” Kalshoven said. “First of all, you shouldn’t be obsessed by the profit margins of the moment. Those can also drop again, for example because of sharply rising wages. For instance, collective bargaining wages agreed on in May went up by 8.2 percent. And to the extent that there are structurally abnormally high profits, this indicates a market failure. Then address that malpractice at its source by promoting competition.  Allowing employees to share in monopoly profits is not a real solution. Consumers - employees of other companies - will then still pay too much for their stuff.”

Still, according to the economist, there is a positive side to the idea. “The added value of a company is shared between the capital providers (shareholders) and the employees. If wages lag and profits rise, employees can still benefit through their shares.”

Another advantage is that as an employer you can then be more flexible in your wage policy. “If your company is doing a little less well, distributing shares to employees results in lower (wage) costs. At least if you have agreed not on an amount but on a certain number of shares.” But again, every advantage has its disadvantage, in this case for the employee. “An investor will prefer to spread his risk as much as possible. But if an employer is not doing well, an employee with shares from his employer runs a double risk. His job is at risk and his shares drop in value.”  

It can also come at the expense of the union’s bargaining power. “The latter wants the shares to be on top of regular pay. But the cost of the shares gifted to the employees will still come in part from the existing wage bill. Employers are then more likely to refuse a higher wage demand and point out that the employees have already received shares.”

Motivation

Sharing in profits can lead to employees becoming more committed to their employer, wrote columnist Anna Dijkman in the FD, referring to recent research by Utrecht University. Kalshoven also believes that a gift of shares to employees could benefit their motivation. “But I suspect that has more to do with the fact that they then feel seen and appreciated, rather than that there is a direct relationship between the employee’s effort and the value of the share. Because at the end of the day, of course, an employee only gets a fraction of the shares. So, if the employee moves mountains so that profits grow by hundreds of thousands, or even millions, they only get to see a fraction of that. On top of that, you can’t assume that rising profits automatically translate into higher share prices, because you also have to deal with market sentiment.”

Employees can choose to buy shares in their own company now, of course, but apparently, they don’t, Kalshoven continued. “From the point of view of risk diversification, it is also wiser to buy shares of different companies. Just ask those Enron employees who lost both their jobs and retirement savings. But let’s assume you want to encourage employees to accrue savings. On a macro level, that’s really not necessary - we already save heavily in the Netherlands, including for our pensions. Although, there is a group with low incomes and few buffers that could use a piggy bank. But then, surely you want this to be a stable financial buffer; not a package of shares that can suddenly drop significantly in value?”

Inequality

The value of existing shares comes under pressure when a company decides to issue more shares to give to its own employees. “It dilutes the equity interest of existing shareholders, because profits have to be divided among more shares. This can compound if an employer agrees with its employees to gift a certain amount rather than a number of shares. If the stock price drops, even more shares have to be issued, with the risk of additional depreciation. If the employer agrees to gift a specific number of shares at the end of the year, employees don’t know where they stand, as the value may fluctuate. So, there are also snags in implementation.”

Also, at a more fundamental level, there is the question of whether this idea will actually help combat inequality. “A lot of companies don’t issue shares at all. So, their employees will not benefit from this plan. And if the shares are not listed, then it is also difficult to convert them into cash.” Kalshoven acknowledges that shareholders have been relatively well rewarded in recent years. “By giving employees tax-free shares, wealth can theoretically be better distributed. But past performance is no guarantee for the future, and so the value of shares can also drop significantly. Will workers then demand higher wages anyway? All in all, it is a nice idea with some advantages, but certainly also disadvantages. In any case, it is not the egg of Columbus,” Kalshoven concludes.