Editor's note: The attitude of companies with programs for employee equity runs something like this: This is our company, and we will do whatever is necessary to help it succeed. It's that can-do attitude that makes equity stakes not only good for morale, but good for business, says the authors of Equity. In this excerpt, the three necessary elements to a successful equity model are explored.
The three elements of equity
So how does a company reach the point where most employees share this attitude? That's where the specifics of ownership and management come inhow the business is structured and how it is run. None of the
companies we studied followed exactly the same path. But the research
and interviewing suggest that there are three key elements and that
without all of them, it won't work. One element is equity itselfstock ownership significant enough that it matters to employees' financial future. The second is a culture that helps people think and feel like the owners they are. The third, and often overlooked, element is a shared understanding of key business disciplines, and a common commitment to pursuing them.
Equity ownership
Ownership is indispensable because it is what tips the balance of the conventional employment equation.
Traditionally, those who provide the capital to a company own the entire business. Management is accountable to these owners and to nobody else. While owners can lose their money if the business goes south, they have a claim on all the earnings and all the growth in equity value if it succeeds. So their interest in the company's growth and profits is paramount. If you weren't born with the talents of a Michael Jordan or a Madonna, and if you didn't happen to choose wealthy parents, this is how you can get truly richby investing in and building a successful business.
If you are a traditional business owner, howeverand if your company is larger than a one-person or one-couple operationyou face a time-honored challenge. You must pursue growth and profits through a workforce of employees who do not share your interest in growth and profits. Of course, employees have an interest in seeing that the company fares well enough that it does not close its doors and eliminate their jobs. And if it grows, maybe they can earn more money or get a better position. But the connection between business success and their own is at best tenuous and uncertain. So unless the company is in dire straits, why on earth should they exert themselves unnecessarily to make sure that it succeeds and prospers? Why should they come up with time-saving ideas or productivity improvements? Indeed, why should middle managers listen if they do? As Tom Allison observes, "Someone else is going to be making the money."
Modern management has recognized this divergence of interests and has created a whole kit bag of carrots and sticks to address it. Employees get frequent performance reviews, always backed by the threat of dismissal. They are subjected to motivational speeches and team-building exercises, in hopes that they will be inspired to perform better (and not look for a job somewhere else). They are "incented" with bonuses, merit raises, and prospects of promotion. Readers who serve in corporate human resource departments will recognize themselves as the keepers of these kit bags and no doubt can talk intelligently about how their own company uses a judicious combination of both sanctions and stimulants. But whatever an individual company's mix, the expectation is that employees will not move forward to pursue corporate growth and profits without them. The expectation is often clearest in unionized settings, because of the overtly adversarial system of labor-management relations that has been part of American law since early in the last century. The strike and the lockout are this system's quintessential weapons: Each says, in effect, we on our side are willing to damage the company, where our joint interests lie, in order to further our own interests at the expense of yours.
In principle, employee ownership transforms this dynamic because it gives everyone in the company a direct and visible interest in the longer-term success of the business. From top management to the front lines, the participants in employee-owned companies are partners in enterprise, sharing a single agenda and common goals. But note that we said "in principle." In practice, the traditional assumption of conflicting interests does not disappear overnight. Changing it depends partly on how much equity employees own. Sporadic gifts of one hundred stock options, or a few shares added to 401(k) retirement accounts each year, are unlikely to make the recipients recalculate their economic interests. Substantial holdings, howeverholdings that grow significantly from year to yearmay do just that. Change also depends on education that helps employees understand the implications of their equity ownership. This is a theme we'll return to repeatedly in this book.
Like any business owners, employee owners in these companies are rarely idle. |
These not-too-surprising truths are reflected in a common perception at equity-based companies, which is that it often takes a while for new employees to "get it"to realize that they actually are co-owners of the businessand that one key element in getting it is simply watching the value of their holdings mount. Here is Karen Garsson, director of stock programs at giant SAIC:
I think there are a number of people, to be honest with you, to whom ownership doesn't mean a lot at Day One . . . But ownership is a core part of our company, and over time we see that folks really start to understand it. The light goes on after a while, and people begin to value the opportunity to own part of the company they work for.
And here is John Czerwinski, who works in a sales role at W. L. Gore & Associates, which with approximately seven thousand employees is still one of the larger employee-owned companies:
I've watched a lot of new people come in. It really surprises you, because they're very capable, very savvy; they talk about Gore and what we offer. The ASOP [associate stock ownership plan]? It's "Yeah, yeah, I know we've got the ASOP." And then you talk to the same person two, three, four years later, and it's like, "Holy cow, I never really understood what you were talking about." I've had a lot of people all of a sudden say, "OK, this is an interesting horse to ride." Because they could see, ching ching, they could see something was really happening to them.
It doesn't seem to matter, incidentally, what percent of a given company's stock any single employee owns. For larger companiesparticularly those that are publicly tradedthe percentage owned by employees as a group is usually small (less than 20 percent) anyway. What does matter is the size of the stockholding as compared with an employee's personal financial expectations. You feel like an owner when what you own feels like a significant asset.
But while an ownership interest of real financial substance is necessary, it is hardly sufficient. The way a company goes about its business needs to change in key ways as well. If it grants plenty of stock but then says in so many words, "Now back to work as usual," it will get results as usual. What it has to do instead is create an environmenta culturein which people come to feel like the owners they are.
Ownership culture
The typical "culture" at conventional companiesthe norms and expectations that govern what people do every day on the jobhas evolved considerably over the past couple of decades. Employees and managers were once part of a rigid hierarchy. They did what they were told to do by those above them in the chain of command, and they didn't ask questions. The hierarchy was reinforced by different expectations relating to dress, hours, freedom to come and go, pay and bonuses, parking spaces, office size, job titles, and a dozen other indications of power and status. More recently, many companies have tried to soften the hierarchy. They have done away with some status distinctions (no reserved parking spaces, no executive lunchroom). They have preached that "people are our most important assets," and have exhorted employees to use their brains as well as their hands. They have announced that they wanted their employees to have a "sense of ownership;" even when no actual equity ownership was available to employees. (This is a bit like taking hungry people into a restaurant to give them a "sense of lunch," without allowing them to order anything.) Line managers, of course, didn't always buy into such high-minded pronouncements. They had reached their current positions because they were good at telling people what to do, and they weren't about to change now. Most employees remained pretty skeptical as well, for the reason outlined earlier: most of the benefits were still going to someone else.
Equity companies usually resemble these conventional businesses in some respects. They have presidents and chief financial officers. They have middle managers and supervisors. But they can alter the assumptions of hierarchy far more dramatically, simply because the underlying economic reality is different. Employees find the idea of acting like owners less hypocritical and therefore more appealing. Managers may find it somewhat more difficult to bark out orders to fellow owners. At their best, such companies eliminate the sense of "us" and "them" that pervades traditional companiesthey become "us" companies in a way that is almost palpable. Again, however, none of this happens automatically. Companies must find ways to communicate the message that this workplace is different and that the role of employees and managers is not what it would be at a conventional business.
One technique for establishing a culture of ownership is simply to share large amounts of information about the business and its operations, including much of the financial data to which investor owners are traditionally privy and that senior managers use to run the business. Nearly all of the smaller companies we studied hold monthly all-hands meetings to review key financial figures and other issues of concern. Nearly all publish the numbers in newsletters or reports to their employees. SAIC conducts quarterly Webcasts, available to every employee, in which the CEO and CFO report on and analyze the company's financials, in much the same way that executives of publicly traded companies conduct quarterly conference calls with analysts and large investors. Note, however, that simply sharing consolidated financials at the corporate level once a quarter, in the manner of public companies, is not sufficient. What's important is that employees see the operational financialsplant, office, or store-levelthat managers use to make decisions.
Conventional companies can assume that their principal owners don't need any instruction in matters like how to read a financial statement. Equity companies can't. So many devote substantial resources to training in business literacy. At Green Mountain Coffee Roasters, for instancea six-hundred-person publicly traded company headquartered in Waterbury, Vermontemployees organized and taught a seven-and-a-half-hour course, spread out over three sessions, that instructed people in the basics of the company's business ("tree to cup") and financials. "By design, the classes were cross-functional," says Roger Garufi, a machine operator who was one of the course designers and instructors. "You'd be rubbing elbows with people from the senior leadership team or the roasters. Everyone in the classroom was in a different department, which was really nice."
A second technique is simplicity itself: Before making decisions, managers ask employees what they think. One companyAtlas Container Corporation, a box-manufacturing business with several plants in the eastern United Stateswent so far as to ask shop-floor employees to choose between competing suppliers of a $1 million corrugating machine; when the employees selected an American-made model, the company's top executives agreed to the decision even though they favored an Italian machine.1 YSI, a manufacturer of precision sensor measurement instruments with headquarters in Yellow Springs, Ohio, and thirteen other locations around the world, holds regular company meetings to discuss issues. Anytime YSI introduces something new, says chief executive Rick Omlora policy, a process, whatever"we ask how people think about that, how they feel about it. As carefully as you might think about all the aspects of a new policy or plan, there will be two or three that you never [anticipated]. You just don't know what you don't know." Employee concerns, he adds, frequently lead to changes."Every time we have done that, we have modified the plan or the process ... It's not about people voting on everything and making every decision. But on big decisions that affect the whole company, at least let them participate in the discussions." At a growing number of companies, moreover, management simply entrusts employees to make decisions on their own. Teams at W. L. Gore & Associates and at many other businesses have considerable authority to run their own part of the workplace, including setting their own work schedules. Individual employees at Southwest Airlines and at many other businesses are allowed to make decisions on the spot, in the best interests of the customer, without asking a supervisor.
Equity companies have also developed a host of other techniques, at once symbolic and substantive, for breaking down hierarchy. Like Stone Construction Equipment, for example, Scot Forge did away with time clocks and now describes itself as having an "all-salaried workforce." The phrase isn't strictly accuratefederal law requires nonsupervisory employees to be paid by the hour, because they must be paid overtime after forty hours a weekbut it captures something important, which is that hourly employees are trusted partners and won't be docked if they have to run out to a doctor's appointment. The companies are also much more likely to implement the host of "participatory management" techniques that have become conventional wisdom (if not conventional practice) about how companies should be run. These include work cells, self-managing teams, cross-functional teams, open-book management, job enlargement, devolution of authority to lower levels, and other approaches to structuringnot just encouragingemployee involvement in workplace decisions.
Some of the cultural changes have a direct impact on people's careers and livelihoods. Equity companies make a point of cross-training people, encouraging career development, and promoting from within. They also take a different attitude toward layoffs, the threat of which has become the bane of nearly every employee's existence in today's turbulent economy. They may let people go in a pinch; no company that expects to survive can swear it will always maintain employment. But layoffs are a last resort, not a first. In 2003, Cindy Turcot, chief operating officer of Gardener's Supply, a catalog retailer in Burlington, Vermont, reflected on her company's situation:
And this year again, we had a soft time, so I said, "These are the steps before we do a layoff. First, there will be no new positions. Then a pay freeze. Then pay cuts. Only then would we do lay-offs. So there are three steps before we do layoffs, and I will tell you every week if we have gone beyond step 1."
I don't want people to go to fear. When they're in fear, when they think they're going to lose their job, I don't want that. So that's the goal: Let people know where they are. Then they can go to the place of "What can I do?"
In fact, Turcot reports, the "What can I do?" mentality in this case was startlingly productive: Gardener's realized some $400,000 in savings over the course of the year, thanks to employee ideas. That made a big difference to the $60 million company's bottom line. "Even though sales are down," said Turcot, "we are going to hit our budget target for profitability. I attribute a lot of that to what employees are doing."
Business discipline
All profitable companies make money by assembling a variety of components. They bring together capital equipment, money, and warm bodies, and they apply a series of business skills, such as production or service-delivery expertise, sales and marketing, and financial management. Exemplary companies are successful mostly because they learn to do things with some of these components that their competitors can't. They focus on one or more business disciplines and turn themselves into world-class practitioners. Thus no competitor has yet been able to match Intel's ability to produce and market leading-edge computer chips, or Wal-Mart Stores' ability to keep prices low.
While an ownership interest of real financial substance is necessary, it is hardly sufficient. |
At successful equity companies, employees both learn and drive the business disciplines that help their company do well. This is one key theme of the book you are holding. In the past, notions such as employee involvement and employee participation have been less than rigorously supported. They have been based on no more than a loose belief that it is good for companies, as well as good for people, to have employees a little more concerned with the day-to-day operations of the business. An explicit connection between that involvement and business performance has been lacking. When employees understand their companies' key business disciplines, howeverwhen they understand both how to contribute to improving performance and how to measure the results of their effortsthe connection is clear. There is a line of sight from job to business performance, from engagement to results.
Not surprisingly, that connection is easiest to see in small companies, although the equity model can work just as well in large ones as in small ones. Consider the story of Jackson's Hardware, a sixty-seven-person, 100 percent employee-owned company in San Rafael, California.
Like Stone Construction Equipment, Jackson's is the kind of business most people think has vanished. It is an old-fashioned, single-store hardware and home-goods retailer that has survived and prospered right under the nose of big national chains. "We have a Home Depot located about a mile and a half from our store;" said company president and general manager Bill Loskutoff. "We have an Orchard Supplyit's owned by Searsabout a half mile away." Loskutoff ticked off several other larger competitorslumber yards, contractors' supply chains, a regional home-improvement center known as Yardbirdsand reported a curious fact. "When Orchard Supply came to town, our business increased. When Home Depot came to town, our business increased." Asked why, he shrugged. "People who were not customers of ours, maybe they had gone to various places and were dissatisfied. They thought they would find their ultimate hardware store at Home Depot, but they got there and found out it wasn't. They just kind of migrated over to us, and our business kept growing."
Jackson's competitive advantage lies in friendly and knowledgeable customer service, the kind often missing from big chain stores. It is set up to deliver precisely that. There are no cashiers: Associates are expected to take customers through an entire transaction and to make sure they have everything they need. Managers and supervisors wear walkie-talkies on their belt so they can call in experts from another department if they can't personally answer a customer's question. Associates typically move from one department to another over time so that they can build their own stock of knowledge. (The average tenure at Jackson's in 2004 was roughly ten years.) The importance of customer service is drilled into every associate's head. "At larger companies, people don't seem to care as much," says Mark Helm, a warehouse supervisor who worked at Home Depot before coming to Jackson's. "The people here are more concerned, making sure they follow through with their customers. And if they don't, they have to answer for it. Don't leave the customer with bad service. Give good service. We're not going to differentiate ourselves [otherwise]."
From a financial perspective, however, what matters to Jackson's associates is weekly and monthly sales. The sales number is a gauge of how well they are serving their customers. It is also the store's key metric of business performance. Jackson's associates know that their colleagues can source the store's wares effectively and price them appropriately. So if sales are healthy, the bottom line will be healthy as well, and the company will prosper. Accordingly, people throughout the organization worry about sales levels the same way company founder H. C. Jackson must once have done, when he was the sole owner. The monthly sales goal and month-to-date figures are chalked up on a whiteboard in the lunchroom. A dip in sales is the occasion for quick action. In late 2003, for instance, associates noticed sales were a little sluggish, and someone proposed a special holiday sale. This is how one group remembered it a few months later:
Steve Graham, showroom manager: We were watching the monthly goals. We are on a fiscal year, July 1 to June 30, and we're a construction-oriented companyso the winter can be kind of dreary! It was a point where we were almost halfway through our year; we were doing OK, but we could really see that we could get up and over, hit our goals, or we could fall apart. It could definitely have gone either way. And from that, we started looking at, let's do everythingwhat can we do? Let's do everything we can to push this hard and get over the top and stay there.
Carolyn Emge, accounts-payable clerk: We were saying, what can we do? And everyone was throwing in ideas. [One idea was the special sale.] We had the monthly meeting and suggested to the other associates that without them we can't do the sale.
Robert Akins, service supervisor: And everybody came together. Everybody went in to decorate the store, work extra. And the buying team did a really great job by getting bonus [deals] with our vendors. So everybody did their part. Nobody was complaining about having to work overtime. It was just one big team effort.
Carolyn Emge: And we had a goalwasn't it $100,000 in one day?we had a goal that we were trying to meet, and it got fun during the last two hours. "Are we going to make it?" And we did!
Employees at other equity companies learn to focus on other metrics, depending on the key business disciplines. The metrics may be numbers right off the budget, or indeed right off the income statement (gross margin, cost of goods sold, net profit). Or they may be operational variables that directly affect the company's financial performance. Stone Construction Equipment's lean manufacturing system, for example, by itself boosts efficiency and lowers costs, when compared with traditional manufacturing. But employees' tracking and monitoring make the lean system even more efficient than it otherwise would be. The key number shop-floor employees watch is labor variance, meaning the difference between actual and budgeted labor content on any one product. Teams set labor variance goals. They track their performance day in and day out. Any time they beat their goalsymbols againmanagers cook and serve the employees an elaborate meal. "I imagine [the mixer cell] will have steak, shrimp, and lobster on Friday," said Dick Nisbet one day in late 2003. "Their goal was a $3,500 labor variance for the month, and they came in at $4,700." Thus does Stone make itself a little bit more competitive, day in and day out, week after week and month after month.
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Footnote:
1. See John Case, "The Power of Listening," Inc., March 2003, 81. Atlas is not employee owned, but it has a so-called phantom-stock plan, in which employees could buy stock appreciation rights through a payroll deduction. Most had taken advantage of this plan, which would pay them the value of their "shares" when they retired or when the business was sold.