Senator Elizabeth Warren recently proposed a federal statute vesting in corporate employees voting rights to select corporate board members. Currently, only shareholders have this right; bondholders and employees do not. Voting rights can be justified by contributions and risk. To operate, most corporations need money and labor. In our system most money is offered in exchange of shares and bonds, while labor is offered by people.
Arguably, the degree of control should depend on (i) their contributions and (ii) the risk they bear. If the contributions are important but risky, risk-takers’ control of the enterprise board may reduce their risk. Shares and bonds are the main source of money for a corporation. They differ in the degree of risk and rewards they represent. Shares carry a higher level of risk than bonds. Share returns and capital depend on the organization’s performance, and they are paid only after the bonds are paid. Bonds entitle the holders to fixed amounts of returns and are paid before the shareholders, even in the event that corporation is bankrupt. Therefore, bearing a higher risk, shareholders have the voting rights to choose and supervise corporate management while bondholders’ voting rights and controlling management are far more limited.
Employees’ contributions are crucial to the enterprise. However, their risks are higher even than the risks of the money contributors. Employees generally depend on their employment for their livelihood. Their work is not as easily evaluated as money. Workers may be replaced by machines and innovations. Besides, employees can lose physical power, may get sick, get older, or become less productive. As compared to the value of money (which could also fluctuate) the human abilities and body, as well as knowledge and contributions to the enterprise, are more changeable.
Historically, employees had two sources of power:
- Organize unions that negotiated employment terms (although the power of employees’ unions has diminished in recent years);
- “Strike,” and immobilize some, or all, of the corporation’s business.
Some employees may be able to bargain personally, based on their unique contribution. But most employees do not have this bargaining power. And unlike shareholders, who could sell their shares or combine to remove and substitute current board members, many employees could use their striking power but hurt their own interests by eliminating or endangering their source of livelihood personally and collectively.
In one sense, shareholders and employees make a joint investment of capital and labor. By performing services, employees make significant firm-specific investments (e.g., knowledge of how the firm operates, how to work effectively with other employees) and often commit themselves in reliance to the company for the future. Employees’ future work investment commitment, inflexible exit opportunity, and power of the other constituents to affect the value of labor assets, render the employees vulnerable to exploitation and serious economic injury without institutional or contractual safeguards. Additionally, employees bear risks associated with the nature of human capital such as sickness and loss of earning capacity. Therefore, employees have strong incentives to control and influence the corporation’s management and balance the profitability with risk taking.
How do shareholders and employees influence corporate decisions?
In terms of withdrawal from work or investments, the ability of shareholders and employees to influence corporate decisions may seem similar. Shareholders’ sale may cause the price of corporate shares to fall, while workers’ withdrawal results in lower corporate productivity. Withdrawal hurts both shareholders and employees, but the impact on each group differs. Even though both may lose money, shareholders lose investment money, while employees lose the source of their livelihood. Alternative investments are easier to find than alternative jobs. Loss of investment is not as severe as loss of source of livelihood with no financial backup.
The interests of shareholders, managers, and employees inevitably conflict over the division of corporate assets and profits. Shareholders may have greater bargaining and enforcement power to back their claims for the corporate bounty. They can influence corporate managers. Key employees may be able to increase their bargaining power by negotiating employee stock option plans and voting rights. Pension funds may also play a role by influencing management and advocating employee rights.
In contrast to shareholders, when employees’ organizations weakened, employees retained only their individual bargaining powers. That may result in employees’ competition. Equity holders hardly complete and their impersonal, monetary contributions are measurable; competition among employees is greater and may be encouraged by the employers. Excessive competition among employees and anxiety-inducing influences can limit employees’ association to promote mutual interests in negotiating with their corporate employers. For example, Wells Fargo employees created millions of fraudulent bank and credit card accounts to inflate their sales-numbers, with high long-term costs to the corporation and shareholders. Thus, unlike shareholders, whose contributions are objectively measurable, employees must meet personal expectations. There is no general application of a fair measure. Employees are the more likely victims of ill management, exploitation, and corporate governance problems among corporate constituents. Yet they have limited or no voice in the decision-making or accountability of unfair employers.
Work is more vulnerable than money. Automation and other innovations may reduce work opportunities, unless machine-building became a new source of livelihood. Yet, lack of qualifications might produce poverty. Recent-generation employees (born between 1980 and 2000), seek involvement in the work related decision-making, and value collaboration. To avoid high employee turnover costs, and maximize productivity, efficiency and shareholder wealth, employers will have to pay attention to employee demands.
How should shareholders and employees bargain for a fair distribution of corporate bounty balanced by the extent of their contributions?
Generally, contributors of money can withdraw their contribution more easily and less painfully than the most employees can withdraw their work. Arguably, a key to shareholders’ power is their vote for the corporation’s managers. The managers are, in fact, the power-holders, depending on the shareholders’ vote. Shareholders, whose investment promises the highest corporate bounty and carries the most risk amongst other security holders, theoretically have the right incentives to discipline the management through the election of the directors. Activist shareholders may use their voting power to affect the boards’ allocation of benefits from the corporations’ resources.
Senator Elizabeth Warren’s recent proposal, the Accountable Capitalism Act, would raise the employee’s bargaining power by imposing a fiduciary duty on corporate managers towards their employees. Work productivity is then equated to money. Alternatively, employees’ may be vested with voting rights for directors of corporate boards.
The idea of employee representation in the board level is not novel. Massachusetts was one of the first states to adopt an optional board-level representation law. Other countries have adopted various co-determination mechanisms, with some requiring employee representation only in supervisory boards (e.g., Austria and Croatia) and state-owned companies (e.g., Israel, Czech Republic, Ireland, Poland, and Spain) and others requiring board-level representation in privately owned companies (e.g., Denmark, Finland, France, Germany, Netherlands, Norway, and Slovenia). Common characteristics of this representation and board composition depend on the size of the corporation, measured by the number of employees. For instance, in Germany’s model, employees participate at two levels.
- Operational levels, such as production, marketing and administration are pursued at the level of the establishment; Works councils advocate employee rights at the establishment level by involvement in all issues affecting the employees at the work place.
- Economic or non-material objectives are furthered at the corporate entity level. The right of co-determination at board level is exercised in supervisory board of large companies.
Accountable Capitalism Act § 6(b) requires that at least forty percent of the board of directors of a US corporation will be employee-elected members.
One challenge in this area is that while employee representation is necessary for balancing the interests of equity holders and employee-investors, control rights regardless of actual investment position in the firm conflict with rational allocation. The decision-makers should bear the full consequences of their decisions. The reason for this balance is the possibility that employees will disregard profit maximization and affect the shareholders’ wealth without any financial consequences to them.
Another challenge in allocating voting rights to employees is measuring the actual value of labor. There is no one straightforward mathematical equation to value human capital. That is because of the intangible nature of services and dependency of the value on numerous variables. However, business metrics used to assess revenue on investments may help evaluate the employees’ contributions. Further, the hiring date must be considered in measuring employee contribution. Employees need time to integrate and adapt to new engagement. New employees might contribute less than existing employee-investors and shareholders. Thus, recent employees should receive relatively fewer shares of voting stock per dollar invested.
To achieve this result, employees should be classified by their contributing position, date of employment, and age. That is because younger employees may have different concerns and claims to voting rights than older employees. Arguably, the time has come to share leadership by balancing money power with leaders of work power.
Employees should be given a voice in corporate management. The time to do so is now rather than when the vulnerability of employees might result in destruction of some corporation and in conflicts with management and financiers. Forming effective level-representation could help solve daily issues, support managerial efficiency and avoid frictions between employee-elected and shareholder-elected directors. US corporations may be granted a transition process to tailor and design their own employee-representation structure. But a change in the power representation of the employees seems inevitable, sooner or later.