Will Employee Ownership Work In Tribune Deal?

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For the past six months many of the 20,000 employees of Tribune Co. have been wondering who their new owners would be. Turns out the answer is, basically, them.

The deal announced Monday to take the Chicago-based media company private will result in Tribune being owned by an employee stock ownership plan, or ESOP. These plans have many advantages including significant tax breaks, but they also carry certain risks.

Here’s how they work. An ESOP is a kind of benefit plan for employees, where the company contributes money, as it would to a pension or similar kind of retirement savings account. But instead of investing in stocks or bonds, as most pension plans might, an ESOP plan will use those contributions to pay down debt and buy stock in the company, which is then distributed to employees as a benefit.

The new ESOP-owned Tribune will have roughly $13.4 billion in debt after the deal, Bear Stearns analyst Alexia Quadrani said, up from about $5 billion now. Real estate investor Sam Zell is contributing $315 million to the transaction and will wind up with the right to buy 40 percent of the company later.

Since ESOPs act as a kind of retirement benefit plan, company contributions to ESOP plans are essentially tax-free. This allows the company to pay down the debt more quickly.

As the debt is paid down, employees will gradually receive shares in the company as a benefit, and they won’t owe tax on those shares until they leave the company or retire and cash them out. What’s more, to the extent a company is owned by an ESOP program, profits aren’t taxed either.

In order for the ESOP to be created, an independent trustee must vet the transaction and make sure it’s fair to the employees relative to what Zell is getting, and also whether the price being paid by the ESOP is justifiable given the expected future profits of the company.

Tribune said in a statement that there would be no change in the pension benefits previously earned by employees as a result of the transaction. The new ESOP will be funded solely through company contributions.

It all may sound quite appealing, but there are several cases of ESOPs that went wrong, some spectacularly so. UAL Corp.’s United Airlines adopted an ESOP structure in 1994, but employees suffered steep losses after the company declared bankruptcy in 2002.

Corey Rosen, an expert on ESOPs and the founder and executive director of the National Center for Employee Ownership, an Oakland, Calif.-based nonprofit organization, says several missteps were made in the United case.

Those mistakes included putting a time limit on the ESOP structure, giving employees less incentive to support it, and also extracting significant concessions from workers at the outset, which worsened labor relations and helped set the stage for a crippling work slowdown in 2000. Also, the flight attendants’ union opted out of the agreement.

Rosen pointed to several examples of successful ESOPs, including Publix Super Markets Inc., a fast-growing and highly regarded grocery chain based in Lakeland, Fla., as well as W.L. Gore & Associates Inc., the Newark, Del.-based maker of waterproof fabric Gore-Tex.

While the tax benefits are compelling, Rosen cautioned that employee-owned business also need to foster a collaborative, “open-book” management culture where the employees do feel like owners – something that didn’t work out with United Airlines.

They also need to remain profitable in order to continue servicing their debt. In the case of United, the already weakened company was even less able to withstand the torrent of troubles following the terrorist attacks of 2001 that swept the whole airline industry.

Another famously failed ESOP, Polaroid Corp., didn’t adapt quickly enough to changes in its own business with the rapid adoption of digital photography. In 1988, a newly created ESOP bought $285 million of Polaroid stock, but that value was later lost when the company went bankrupt.

Tribune is also facing challenges of its own as newspaper advertising has been eroding as more people turn to the Internet or other media such as cable TV for news. Tribune is the second-largest newspaper publisher in the country by circulation and owns the Los Angeles Times, Chicago Tribune, Newsday and The (Baltimore) Sun as well as 23 television stations.

“Tribune is profitable now,” Rosen said, “but one of the most important concepts is that (ESOPs are) not some kind of magical elixir that helps you make money even if you have a bad business model.”

Douglas Kruse, an economist at the School of Management and Labor Relations at Rutgers University in New Brunswick, N.J., says companies with ESOPs tend to be more productive over the long term, and also more likely to survive than those that aren’t.

Kruse also said there was a wide variety of outcomes among ESOPs, with the most successful ones being places where the employees truly were treated like owners, and felt like they had a stake and a say in the company’s direction.

“If you don’t have those things, and you’re just giving employees stock but no extra information and participation, and only calling them owners,” Kruse said, “there aren’t positive effects and there could even be negative effects if employees feel that there’s risk being foisted on them.”

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