Re: Yes, the Earth is Round

[Dellerman@worldbank.org]

In response to this text from Spitzley:

"As for ESOPs being "a way to dilute absentee shareholders in favor of workers",
that must be viewed as a criticism of the way that they are currently used,
rather than of Kelso's basic idea.  The ESOP was originally advanced as a means
by which corporations could finance new capital while workers could acquire
ownership of that new capital.   The ESOP trust would take out a bank loan to
cover the cost of the new capital.  New shares, representing the value of the
new capital being created, would be given to the ESOP.  This would serves as
collateral for the bank loan, which would be passed through to the corporation
to finance the creation of the new capital; the financial value of the existing
shares would remain untouched, representing the existing capital in the
corporation.  Kelso had originally envisioned ESOPs serving as built-in sources
of investment for corporate growth, aiding both the corporation and the workers.

Worker ownership of the newly expanded capital base does, of course, lead to
dilution of control over the corporation, but if one sets a goal of broadening
the distribution of capital ownership, those who own most of it now are by
mathematical necessity going to experience a dilution of control, even if they
retain ownership over everything they have now.  Insofar as this can have an
indirect impact on the financial value of existing shares in an ESOP
corporation, under US law that impact must be factored into the legal details of
any ESOP plan in order to protect the financial interests of the existing
shareholders.  If objections are to be raised over dilution of control, that
would constitute a major objection to the entirety of Kelso's ideas, and one
which might be insoluble."

I am afraid that ("Kelso's basic idea") is precisely the argument I refuted with
non-technical argument in my first EM and technically in a following one.  The
argument about the dilutive effect of ESOPs is not, repeat not, about the fact
that control is diluted.  That would happen with any new shareholders regardless
of how they repaid the loan to purchase the shares.  The point here is that the
company itself repays the loan with the tax break included, not a third party.
The company pays twice for the injected funds, once in the new shares issued to
the ESOP and again in the ESOP contributions to pay off the loan.  One
transaction is quid pro quo, and the other would thus be a 100% dilution if it
were not for the tax break which reduces it to say 60% dilution with a 40% tax
bracket.

_______________________________
David Ellerman
Economic Advisor to the Chief Economist
World Bank, Room MC4-335
1818 H St., NW
Washington, DC 20433
Ph: 202-473-6368
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