We Need More Employee-Owned Businesses

It's good news that worker-owned businesses are on the rise.

By SHARE
With a recovering economy, accepting a short-term position may be the best option for ending your stay among the unemployed.

Worker-owned businesses are on the rise. The number of worker-owned business in the U.S. is growing robustly, around 6 percent per year, and these businesses now account for about 12 percent of the private sector workforce. Yet, worker-owned business are frequently disparaged as "not quite capitalism." Skeptics repeat the cliché that worker-owners bog down seeking consensus on the most minor points.

The skeptics should keep in mind that some the world's most respected business organizations are in fact, owned entirely by their staff. It's true for top tier law firms and accounting firms. It's true for leading management consultants like McKinsey. And top investment banks like Goldman Sachs were partnerships until relatively recently in their history.

Members of worker-owned co-ops may not think of their businesses as having anything in common with top-tier professional services firms, but there are several important similarities between the two structures:

  • In both cases, the partners (or employee-owners) have a vote in electing the managing partner or president.
  • In both cases, the managing partner or president must exchange information extensively with other partners or owners, in order to maintain support and buy-in to the firm's plans.
  • In both cases, compensation is shared among the partners or owners. This keeps incentives aligned.
  • In both cases, compensation is variable, based on a combination of individual and overall performance. This makes the firm more robust, since in tough times it has less of a payroll to meet.
  • In both cases, there are clear-cut rules for how a person newly entering the firm can become a partner or owners. This promotes a meritocratic culture that rewards performance and discourages cronyism.
  • [See a collection of political cartoons on the economy.]

    Because of these characteristics, worker-owned businesses were, on average, better at maintaining their fiscal health during the last recession.

    There are two important differences between worker-owned businesses and traditional professional services partnerships. First, in most worker-owned business, everyone has a chance to become a partial owner in a relatively short time. Ownership is broadly dispersed, and so is the pool of available compensation. But in professional services partnerships, ownership is usually concentrated at the most senior levels. For example, less than 4 percent of Accenture's staff were partners in the year just prior to its going public. Some of the workforce has no chance at the partnership track. Not surprisingly, highly concentrated ownership results in highly concentrated compensation.

    Another important difference between worker owned business and professional services partnerships involves the decision-making style. In most partnerships, a highly competitive process determines who gets elected to be managing partner. The successful candidate is one who can build support among the "rank and file" of other partners and win their support. But once elected, the managing partner has substantial autonomy and independent decision-making power, often much more autonomy than his or her counterpart in a typical worker-owned business. This helps when the partnership needs to make tough decisions. For example, it might be necessary to shut a part of the practice that is losing money, and that means layoffs. A purely consensus-based decision process would find it extremely difficult to make the right call.

    [Read the U.S. News Debate: Are 'Right-to-Work' Laws Good for States?]

    Both types of organization could benefit from adopting some of the features of the other. The worker-owned enterprise might benefit by allowing more centralization of decision-making while retaining the power to elect (and recall, if necessary) the CEO. The professional services partnership might benefit from spreading ownership further, which would further stabilize the cash flow and protect it against downturns, and would start building an ownership culture and mindset earlier on.

    Perhaps the biggest obstacle to the growth of both partnerships and worker-owned businesses is the enormous temptation to cash out, a siren's song that tempts senior management every day. A one-time conversion from a partnership to a corporation or from a worker-owned business to an investor-owned business offers a cash windfall that is big enough to be life-changing – but it destroys the dream of employee ownership to all those who follow later on. The temptation to cash out can prove irresistible to senior management unless a cash-out is prohibited by statute, contract or charter. Good partnerships and employee-owned businesses are hard to create, but they are all too easy to destroy by a single generation of senior management that lacks a sense of stewardship.

    A truly sustainable economy needs more employee-owned businesses and partnerships. These businesses stabilize consumer incomes and spending power, stabilize employment, stabilize corporate cash flows, and blunt the extremes of the business cycle. For this to happen we'll need to find ways to attract more capital into the field, to finance the conversion of existing investor-owned businesses to a new ownership model. And we'll need better entity structures to protect worker owned businesses from being raided for a one-time pay-out. These problems can be solved. If the model is good enough for McKinsey, it should be good enough for many other businesses, too.

    • Read Jim Lardner: The Good News in Congress Voting for Bad Pro-Wall Street Bills
    • Read Gregg Laskoski: Colorado Floods and Fracking Bans Collide on Election Day
    • Check out U.S. News Weekly, now available on iPad