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Employee Stock Ownership Plans

Another example of unintended consequences.

by Mike Hartnett (December 15, 2008)

Creative Memories declares bankruptcy because of problems. Two major industry publishers were sold because of success. All three had something in common: they were owned by the employees, thanks to Congress passing the Employee Stock Ownership Plan.

In the 1980s Congress passed legislation that was intended to allow companies to sell themselves to their employees. The goal was simple: 1. Companies will perform more effectively if employees have a stake in their success. 2. Entrepreneurs and their families can avoid onerous inheritance taxes.

An example is PJS Publications, once the magazine division of the Peoria (IL) Journal Star newspaper owned by a man named Henry Slane. In the 1980s PJS was the largest publisher of industry-related magazines. (The titles included the trade magazine Profitable Craft Merchandising, later absorbed by Craftrends; Crafts, later renamed Paper Crafts; Sew News; and others.)

But Henry's first love was the newspaper, and he hated newspaper chains. He realized his heirs would probably have to sell his precious newspaper to a chain in order to pay the inheritance taxes. Recently the Wrigley family of chewing gum fame had been forced to sell the Chicago Cubs baseball team for exactly that reason.

But thanks to this new ESOP legislation, Henry's dilemma was solved. Henry sold the company to the employees and everyone was happy. Henry got his money but retained the position of company CEO. Employees received stock in the company in exchange for their company pension plan. Plus, employees would buy additional shares of stock tax free, in addition to receiving free stock.

I was editor of Profitable Craft Merchandising at the time and, like other employees, made out like a bandit. I received shares that were, I believe, 7% of my salary (in addition to the full salary). Plus I could buy additional shares that were deducted from my gross salary � and therefore not taxed � and additional stock I purchased was matched by the company.

One of the requirements was I would have to sell my stock back to the company when I quit or retired. That way, no evil chain could swoop in and buy the newspaper and magazines.

Once a year, an independent auditor would check the company's books and determine the price of a share of stock. Every year the price went up. My memory is foggy, but I believe a share was about $15 when the program started. When I left about five years later to become editor of Craftrends, the price was about $75.

This was a goldmine for the owner and the employees; I finally concluded it was the taxpayer who was paying at least a part of all this.

What Happened.

The newspaper and magazines were too successful. The stock price went too high. For example, there was a case of a janitor who retired after 30 years or so. His stock was worth more than $1 million � and the company had to buy it.

Think what that would do to your cash flow.

Finally the company was forced to sell. The magazines went to a New York investment firm, Veronis & Suhler, which specialized in magazines. Henry's beloved Peoria Journal Star was sold to � you guessed it � a newspaper chain.

The story was very similar at Krause Publications, once the publisher of CNA, Michaels Create!, and other industry-related magazines and books. The company was sold to F+W Publications.

Creative Memories.

As I reported in a previous issue of CLN, Creative Memories ESOP situation worked in reverse. Sales and profits slipped, which inspired some employees to leave before the value of their stock declined even further. Their departure created cash flow problems which simply exacerbated the company's problems.

ESOP is a wonderful program that achieves its goals � as long as the business doesn't do too well or too poorly. Go figure.

xxx