An Address Delivered by Louis
O. Kelso at the Air Line Pilots Association Retirement and Insurance
Seminar, March, 1984, Washington, D.C.
Five months later, it was done; the
deal was completed. And six years later, it was paid for. And the employees
went on to work hard and make money. Even with seven unions, no adversary
labor problems arose. They were all owners. Let me tell you what the
logic of an ESOP is. I've spent my entire working lifetime in
corporate finance — every major type: stocks, bonds, public issues,
private issues, etc. The logic of capital acquisition — i.e.,
capital in the physical sense of the word (land, structures, and machines)
— is self-liquidation.
Nobody who knows what he's doing buys a capital
asset or an interest in one unless he first assures himself, on the
basis of the best advice he can get, that the asset will pay for itself
within a reasonable period of time. The rule of thumb is three to five
years — in a depression, maybe a little bit longer. And after
it pays for itself, it is expected to go on producing income indefinitely
with proper maintenance, with restoration in the economic sense through
depreciation accounting, and with restoration in the technical sense
through research and development. If it doesn't produce indefinitely,
you've made a mistake in one of those three areas.
In my early thinking on this, I kept coming back again
and again to the question: if the logic of capital acquisition is to
buy something that pays for itself, why do you have to be rich to buy
it? Part of the answer is this: while most capital does pay for itself
— and in a well structured economy it would pay for itself much
more easily than it does in a badly structured economy that strangles
the power of consumers to earn — still, there is at least a theoretical
chance, and sometimes a very real chance, that it might not pay for
itself, or it might not pay for itself in the projected time period.
So, you've got a business risk.
The experts on business risk are the insurance underwriters.
And they are the first to tell you that if it weren't for commercial
risk insurance, we wouldn't have gotten far out of the Stone Age.
That is to say, what is a disaster to one individual is something that
can be quite easily absorbed over a broad base by collecting premiums
in a pool that will provide emergency funds for those who actually suffer
a loss. Now, the risk relating to capital — the feasibility risk
— is no minor business risk. It is the most important of all business
risks, because it determines whether men and women whose earning power
is constantly eroded and wiped out by technological change can restore
that earning power by owning capital. I'm not talking about handouts;
I'm not talking about giveaways; I'm not talking about coercing
someone to pay you more for doing less. I'm saying that what you
have is a right to earn.
Thus, the feasibility risk is a very special kind of business
risk. And how have we insured that risk? We've insured it with
the worst possible kind of policy — a social disaster of cosmic
magnitude. I'm talking about self-insurance. Self-insurance throws
on the user of the capital instrument, or the entrepreneur, the feasibility
risk.
When you take a financing plan to a banker and say, "Would
you finance this?" he'll examine every detail of the plan
— your accounting work, your engineering work, etc. And if you
finally convince him, he will say, "OK, I'll make the loan."
Let's say this business calls for a $1 million investment. Is
he saying he'll loan you $1 million? No, he's not. He's
saying he'll loan you one-half that amount, or maybe $600,000,
or maybe $750,000. But the difference between the $1 million and the
loan is a liability you take on. You're the one who insures the
feasibility risk. That's what's going on there.
Now, look what this means in the economy as a whole. It
means we limit access to capital acquisition to those who already own
capital — the rich. That's why, when Benjamin Franklin estimated
that colonial society had the ownership of its capital entirely in the
top five percent of wealth holders — and it was an agrarian economy,
so we're talking primarily about land — he came up with
an answer that every study, governmental and non-governmental, in the
last 50 years has confirmed as true in our own time as well. All the
productive capital in the American economy is today, as it was in the
infancy of our nation, in the top five percent of wealth holders. Most
of it, in fact, is owned by the top two percent.
We do not comprehend the meaning of that hidden fact.
The way in which people produce goods and services is changing, but
we don't think that fact is important. We think there's
nothing wrong with letting a few people who have surplus wealth own
just about everything in our entire economy. And I mean surplus wealth.
All this talk about belt-tightening by people like the Rockefellers
or the Gettys or the Hunt brothers or the Forbes 400 or any of 400,000
more families like those is simply hogwash. The only reason they're
talking about belt-tightening is that their fat bellies can't
hold any more. What such families are investing and risking is what
I call "morbid capital." It is capital they simply cannot
and will not use for consumption because it is excessive. Remember,
capital isn't money; it's measured in money, but it is really
producing power and earning power. Capital is as vital as labor itself.
And capital is coming in style, which labor is not.
When a person has a capital estate that enables him to
earn all he can consume, he can pick his own standard of living. If
he chooses to make a public jackass out of himself by overspending,
let him. Society, sooner or later, will take care of that. The point
is that in a free society you ought to be free to earn all that you
desire to consume. But as to one percent more than that — no!
Why?
Believe it or not, the answer to that is found in the
common law of property. In the case of producer goods, the law of property
— which has been taught for hundreds of years — is made
up of a bundle of rights: the right to possess; the right to mine; the
right to lease; the right to give away; the right to destroy; etc. All
of those are the rights of a property owner. But there are two limitations
on the property owner that have always been recognized in the common
law: (1) the property owner is not empowered by the law of property
to use his property in a way that injures the person or property of
someone else, and (2) rights of property do not include the rights to
impair the public welfare.
Now here is where Adam Smith comes in, in a way that even
Adam Smith didn't understand. Production and the earning of income
are facets of a single transaction. That is, the market forces that
measure the value of an individual's productive input also measure
his income. They are two sides of the same thing, one looked at from
the producer's side, and the other from the consumer's side.
Supply, according to Adam Smith, creates it own demand.
That's true, until you understand that there's a missing
fact. And that missing fact screws up every view of the market economy
that fails to take it into consideration. Does supply create its own
demand if you have on the production side of the equation a Gordon Getty
with $2.5 billion of productive assets working for him? Does his production
at that level make him a consumer of the income he can earn with $2.5
billion of capital? You know blooming well it doesn't.
Now, let's consider another basic fact: about 90
percent of the goods and services in the American economy are produced
by capital, not by labor. Rand Corporation made a study a few years
ago that said it was 98 percent, and I think you would be hard put to
dispute it. That capital is owned by five percent of the people. Since
production and consumption go together — except in the wonderful
world of military boondoggle, where you don't have to have any
consumers except Uncle Sam — how does the economy work if five
percent of the people are producing 90 percent of the goods and services?
And keep in mind, the unsatisfied needs and wants of society are not
in that five percent; those people are not the ones who are hurting.
Well, there's a very simple answer. To the degree
that the economy does work, it does so through redistribution. How do
we redistribute? Here's how: 55 percent of all federal taxes are
levied on people who earn to give through transfer payments to people
who need. Marx would have been delighted. That's what he urged
from the beginning. Likewise, 60 percent of state taxes, on the average,
are levied on people who earn to give through transfer payments to people
who need.
I estimate that a third of the American labor force is
employed on boondoggle. What is boondoggle? Boondoggle is jobs that
are federally subsidized to legitimate, in this hypocritical way, more
and more incomes disguised as honest work. People resent having to part
with their income or property to support strangers. That is human nature.
So boondoggle is an attempt to hide the redistribution process from
both giver and taker.
This brings us to the point that will probably get me
thrown out of this meeting. The labor union movement at the present
time is built on one-factor economics. Yet it is the only group of people
in the whole world who can demand an ESOP, who can demand the right
to participate in the expansion of their employer, and get away with
it.
Let me give you an example. Norton Simon, Inc. was bought
by Esmark a while back for $1 billion. I urged Dave Mahoney, the chairman
of Norton Simon, with whom I have long been acquainted, to let us match
the Esmark bid to buy the company for the employees and officers. He
didn't do it, and for a rather human reason. Here's the
story:
As you know, ESOPs enable employees to buy their employers.
But most managements are accustomed to thinking only of their own stock
acquisitions, their own golden handcuffs, and their own retirement security.
Only the most enlightened managements realize that they can almost invariably
sell the company to themselves and the employees at the same price they
can sell the company to a conglomerate or a raider. In other words,
the stockholders get paid the same amount. And while executives may
sometimes be able to keep their jobs after a non-ESOP leveraged buy
out, other employees often are not in that position. Furthermore, the
ESOP leveraged buy out can solve the retirement security problems for
virtually all employees, not just the few who negotiate the deal.
This is the time when a union representing some of the
employees can assert what I believe is the constitutional preferential
right of employees, when a company is being sold, to buy it for themselves
through ESOP financing, so long as they can pay the same price any other
buyer would pay.
If the American economy is not working properly because
the earning power is in too few hands, every leveraged buy out except
an ESOP buy out aggravates that problem many times over. Usually, in
a single non-ESOP leveraged buy out, where public stockholders are selling,
the number of stockholders is reduced from thousands to one or a handful
of buyers. Had the ESOP leveraged buy out been used, the number of new
stockholders would be equal to the number of employees. In the case
of Norton Simon, Inc., executives of the company wanted to make one
last big killing when they sold. I won't give you the exact numbers,
but they are impressive — even in a world dominated by corporate
brigands. My company could have gained all the same advantages for management,
while buying the whole billion dollar corporation for all the employees.
We were perfectly willing to do it, for reasons I will explain in a
moment. But, knowing my interest in making the whole economy work and
enabling people to become economically autonomous again, top management
was afraid, I guess, that we might not be as protective of their advantages.
So they sold to Esmark.
Why would we have been willing to structure an ESOP and
arrange the financing for a $1 billion employee buy out and still make
a cold killing for management? I'll tell you why. To get a few
million extra for decision-makers, while building a billion dollars'
worth of capital ownership into 40,000 families, is not too big a price
to pay if that is the only way it can be done.
When you leaders in the American labor movement begin
to wake up and understand what you can do — what your legal rights
are, what your economic rights are, what your rights as citizens under
the Constitution are —- then you can exploit the leveraged buy
out on behalf of employees and assert their constitutional preferential
rights to become owners.
Abraham Lincoln said the purpose of government is to do
for the people what they cannot do for themselves. I believe that man
is so structured that he cannot control his own greed. If he had been
able to do that, we probably would never have emerged from the protozoic
slime. I mean, it's just the nature of the beast to think of himself
first — if not exclusively. But nature had an economic plan for
world society. Nature thought that economic autonomy — i.e., making
every human capable of participating in production and earning the income
he needs for himself and his dependents — was a good idea. It
is an idea that agrees with the inner man. But the arrangement of "one
person, one labor power" is about as far as nature can go. After
that, it is up to government, labor, and management to devise the institutions
that enable us, in the advanced industrial age that we live in, to earn
our income by engaging in production in ways that are consistent with
economic reality.
In America, we tried to solve the structural defect in
human nature through redistribution. To a large degree, this meant taxation,
but it also meant empowering labor unions to use coercion to rig the
price of labor. Anybody who talks about a free market in the United
States and doesn't make an exception for the price of labor, which
enters into almost every transaction, does not understand the system.
We do not have a free market that determines the value of wages and
salaries. We have a rigged market.
You want to know what deregulation did? The purpose of
regulation is to hold the consumer still so that management and labor
can gouge him. And that's what has been going on for roughly a
half century. Deregulation let the consumer escape. He may have been
happy as a worker, but he was unhappy as a consumer because most of
the consumption is done by the 95 percent of the population who don't
own any capital. You know that. And when the consumer escaped and could
get things for a reasonable price, he bought from the lowest-price producers.
Now, there's no use badgering the past; there's
no use trying to say, "Who did that, or who are we going to hang?"
All we can do now is to figure out how we can get from here to there.
How do we get from a world in which the most productive factor —
capital — is owned by a handful of people, to a world where the
same factor is owned by a majority — and ultimately 100 percent
— of the consumers, while respecting all the constitutional rights
of present capital owners?
Let's get back to labor. When unions demand more
and more pay for less and less work, it's inevitable that certain
things will happen. For example, when Mortimer Adler and I wrote our
second book (in 1961), we predicted that if the United States continued
to encourage technological advancement and continued trying to distribute
the resulting increase in income through labor, three things would happen:
(1) we would ravage our currency with inflation, (2) we would destroy
the integrity of private property in capital, and (3) we would lose
our markets to any lower cost foreign competitor who could get in. That
was 1961. I don't think I need to tell you what has happened since
then.
What was true then is still true today. We should restore
our economy to a democratic scale through ESOP financing rather than
continue putting capital ownership in fewer and fewer hands. Donald
Trump in New York owns 10,000 apartments. How many of those do you think
he can live in? Not many. The few can't produce for the many without
making slaves of the many. The leveraged buy out that isn't an
ESOP buy out promotes a modern form of slave trade. This has to be stopped.
Don't worry about communism and socialism. The big cry out of
Washington is that the socialists are coming. The heck they are. There's
no real movement in this country for public ownership of industry. Even
in countries where they already have it — other than Russia, where
you can't dissent — they are trying to find a way out. But
they are trying to escape it in ways that won't work.
Let me tell you what the danger is. There are two forms
of social power in the world (excluding force and fraud, which are both
antisocial). The first is political power —- the power to make,
interpret, administer, and enforce the laws. Political democracy is
participation in that kind of power in ways that are satisfying to most
people. The second form of social power is economic power — the
power to produce goods and services. That's pretty straightforward.
But when people talk about democracy in American history,
they don't realize that what they are really talking about is
merely political democracy. They are almost completely ignorant of what
went on and how it fits into the real world of today. In 1776, we began
the political revolution that introduced political democracy into an
economy that was already an economic democracy. Ninety-five percent
of the productive input in colonial society came from labor. Dear old
nature had it all worked out — one person, one labor power. Everyone
could support himself. Everyone could buy a house and pay for it. Everyone
could raise a family and expect to live reasonably well. That doesn't
mean people were affluent; they weren't. We're talking about
pre-industrial society. Affluence comes from capital.
You can't expect people to be affluent before you
have technology and industry. By the standards of living in early America,
the dominant form of capital — land — was cheap and plentiful.
And you couldn't do anything with it without labor, which was
well paid in comparison with labor in Europe, where most of our ancestors
came from. Thus, we had true democracy because we matched political
democracy with economic democracy.
Where are we today? We have political democracy. But what
about economic democracy? It has been going downhill since 1776. The
reason is that the 1770s, by coincidence, were also the beginning of
the Industrial Revolution (James Watt patented the steam engine in England
in 1769). And the decline will continue if we don't stop it. Today,
we are a plutocracy in which 90 percent of the goods and services of
society are produced by the five percent of the people who own all the
capital. Plutocracy is the economic base for another form of government:
fascism — the ownership of productive capital by the rich and
by their institutions.
To reverse that process, we've got to use ESOP financing
for business corporations, as well as other methods of finance which
use ESOP logic. And the logical place to start is with organized labor.
You have the right to be productive; the right to earn income. I believe
you can make the case that you have a constitutional right to be productive
— the right to acquire and own capital. On the basis of that case,
the pilots of Eastern Air Lines could walk into management and demand,
in collective bargaining, the use of an ESOP — not just to trade
a single block of stock for wage concessions, but to redesign the future
of the company and its employees. You want the assurance that as your
employer grows, it builds ownership into its employees. All of them!
It's an unused power, an awesome but unused power.
But for something like this to happen, companies and their
unions have to wake up to the possibilities. The wonderful thing about
having stockholders as employees is that you have the best informed
body of stockholders you can get. And with that, you eliminate inflation.
When you are in a position to earn the wages of your capital as well
as the wages of your labor, your company is in a position to be more
competitive through lower labor costs, while achieving higher employee
incomes through the employees' capital.
What about employment in the brave new world I'm
proposing? Lifetime employment, as I see it, is to enter the economic
world as a labor worker, to become increasingly a capital worker as
you go along, and at some point to retire as a labor worker and continue
to participate in production and to earn income as a capital worker
until the day you die. You won't need Social Security; you won't
need redistribution; you won't even need pensions and profit sharing,
which are secret runners for the stock markets. Pensions make great
incomes for the gambling trade and Wall Street firms, playing with guess
who's money? That's right, yours! Eighty-five percent of
the money churning through the stock market is pension money. The ESOP
circumvents that. In a single transaction, you finance tools for the
employer and ownership for the employees. The pre-tax yield of corporate
assets of prosperous companies varies from 25 to 60 percent. The yield
on secondhand securities is around five or six percent. Sure, with capital
gains, you can get a little more, but don't forget, that's
a zero-sum game; for every gainer, there's a loser. Wall Street
doesn't fly any airplanes or raise any corn or do anything else
in the way of producing goods and services. It just plays games with
your dough. And when you take it out in pensions, you're going
to get less than the company put in for you. You have to; that's
the dynamics of it.
So let me leave you with one simple thought: start
using the power you've got to acquire capital ownership in your
employers and to make capital work for you. Your salary is only one-half
of the equation. With the airline industry in a transition state, now
is the time to put ESOPs in place so that you share in future earnings
as full participants in a democratized capitalist economy. You shouldn't
settle for anything less.
