MailChimp was in the news recently when Intuit purchased the email marketing company for a whopping $12 billion cash-and-stock deal. This acquisition, the largest one for Intuit so far, became newsworthy not only because of the size of the acquisition but also because it sparked a debate – ESOP or Profit-sharing, which is the right path to choose?
The back story
Since its inception in 2001, MailChimp remained a privately held bootstrapped firm that was not interested in any external funding. With more than 2.4 million monthly active users, 13 million users across the world, and 800,000 of them being paid customers, Mail Chimp claimed to be profitable from day one. They clocked in a revenue of USD 20 million in 2020 – an increase of 20% year on year.
Mail Chimp had also been certified as a Great Place to Work with 96% of employees concurring with the same. However, post the acquisition this sentiment seems to have changed. This is because while Mail Chimp gave its employees plenty of perks and also shared profit, most employees didn’t have any equity in the organization. Due to its pay structure, this acquisition meant a major payday for its two founders who held nearly all the stake in the organization. The two founders would be equally sharing $11.7 billion in cash and stock. The employees, however, didn’t enjoy much, or rather, any, of this windfall.
ESOPs or Profit-Sharing – which works best?
Both ESOP and Profit-Sharing look like effective strategies to attract and retain employees. To begin, let’s understand what a profit-sharing plan is.
A profit-sharing plan is an employee benefit plan that allows organizations to give a certain portion of the profit to be shared with the employee. According to this philosophy, if the organization makes money in day-to-day operations, the employee makes money and hence has an incentive to maximize profits for the company.
The problem with profit-sharing
Inherently short term – While this sounds great in theory, in practice, profit-sharing plans often end up offering limited motivation or incentive to the employee to get invested in the organization’s long-term growth. This is primarily because these plans are inherently focused on shorter-term goals. It is also seen as an additional perk to the regular salary giving smaller, more immediate returns. To some extent, these seem to attract people who are more risk-averse and focused on instant gratification.
Lack of control – The pay-out of profit-sharing plans is in cash. The challenge with these plans is that while on the onset it seems like whenever the company makes a profit, the employees do the same, more often, the decisions and factors influencing profitability are beyond the control of the average worker. Large real estate investments on behalf of the company, for example, can impact profits. A slow economy can impact the numbers. Larger executive handouts or bonuses influence profits as well.
The sharing conundrum – The conundrum of profit-sharing plans is that if the profit is shared equally amongst all employees then there is hardly any incentive to work hard. And if certain chunks are given larger handouts than others, then those further down the food chain will hardly find an incentive to work hard. Why should they, after all, fund the bonuses of others?
ESOPs are the real game-changer
ESOPs on the other hand are the real game-changer when it comes to employee benefits in startups.
Greater incentive – In ESOPs employee productivity and employee benefits become directly linked. The employees are assigned a certain number of shares, attaining which is more under their control. The value of these shares depends on the organization’s performance at the time some significant liquidity event occurs. They offer the possibility of life-changing wealth at such times. The people attracted to these plans are often risk-takers and disruptive thinkers. As you can imagine, these are also often the innovators and the people with the power to explosively launch the startup’s growth.
More transparency – In ESOPs, unlike in profit-sharing, employees are aware of how the organization is performing in the market. A well-managed ESOP plan allows them to monitor the company stock and their own portfolio. This is tangible and provides a certain degree of assurance. These also add to the employees’ sense of pride in ownership and create a direct link between employee benefits and employee productivity. In ESOPs employees can affect the value of the investment by their own efforts to a considerable extent. Increased productivity can hardly do that when it comes to a profit-sharing plan.
No cash drain – For the startup, contributions to a profit-sharing plan represent a drain in the cash flow on an ongoing basis. With ESOPs, these funds are, in a sense, reinvested in the company. The organization in this case may get the same impact as a profit-sharing plan but without making similar cash expenditures.
What’s In it For Me – This is a valid question that almost every individual asks subtly when experiencing something. It is one of the most natural responses of individuals. A satisfying answer to this question decides whether we accept the development or option in front of us or, dig in our heels to fight it out.
When it comes to profit-sharing, employees can see the short-term “cash-in-hand” but they can also almost certainly identify what’s ‘not’ in it for them in the long term. ESOPs, on the other hand, are not only a better incentive plan but also a better investment option for startups.
Henry Ford said, “If everyone is moving forward together, then success takes care of itself.” With ESOPs as an employee benefit, when the organization moves forward, the employees move forward along with it.
Connect with us to see how a well-designed ESOP plan can help you attract and retain employees and drive organizational profitability.