03 Dec 2019

The Labour Party's manifesto includes the party's intention (which had been announced earlier), should it win the election, to require 'large companies' (not specified but is thought to be companies with more than 250 employees, although 'large companies' in other legislative contexts has a broader definition, including a combination of financial triggers) to set up 'Inclusive Ownership Funds' (IOFs). The proposal is that up to 10% of the company will be held by an IOF and owned 'collectively' by employees, with dividend payments distributed equally among them all, but capped at £500 a year each. Any dividend surplus would be paid to the proposed Climate Apprenticeship Fund. The £500 cap will increase, if appropriate, so as to ensure that no more than 25% of dividends payable by the company to the IOF are redistributed in this way. The Climate Apprenticeship Fund is part of Labour's proposed Climate Apprenticeship Programme, under which employers will be expected to allocate 25% of their (existing) Apprenticeship levy account to training Climate Apprentices.

This proposal is part of a package which includes proposals for employee board representation and an intention to require company directors to promote the long-term interests of employees, customers, the environment and the wider public, as well as the much publicised nationalisation programme (amongst others).

Under this proposal, the relevant companies will be required to 'transfer' 1% of their shares to the IOF until the IOF holds 10%. Smaller companies which would not be caught by the proposal could set up IOFs voluntarily if they wish. Once shares are in the IOF, they remain there and cannot be disposed of. We understand that the IOF will be managed by employee appointed trustees. 

It isn't clear how the IOF concept will be achieved in practice. It seems unlikely that 10% of shares of a company would be required to be transferred compulsorily to the IOF by existing shareholders without compensation as this route would be open to challenge. A more likely option would be the issue of new shares to the IOF at no cost. This is currently not permissible and would require a change in company law. Quite apart from the mechanics of 'transferring' the shares to the IOF, once it is established, it raises a number of questions, including.

Company and shareholder questions

  • The IOF would have various rights under the Companies Act by virtue of eventually holding 10%, (eg the right to require a general meeting to be held and a resolution to be proposed). The benefit to the employees, therefore, is more than the capped dividend payments, it is also increased influence over the affairs of the company through rights under company law (as well as the increased board representation). However, the value of the shares themselves would seem to be irrelevant as they cannot be disposed of. Whether there will be exceptions is not made clear
  • If the company's share capital changes through further share issues and so 10% is no longer 10%, then presumably the IOF's holding will have to be maintained at 10% by the 'transfer' of further shares
  • All shareholdings would be diluted and shareholder control could change in consequence, for example, a 51% controlling shareholder would in time be diluted and would no longer have control following the creation of the IOF. This could also affect the value of the holding given that a majority holding has become a minority holding
  • How will the proposal affect international businesses with employees in different jurisdictions - will UK employees be in a different position to employees in other jurisdictions?

Investment return questions

  • Returns to investors (including notably pension funds) would clearly be diluted by the 10% holding
  • The likelihood of an attempt to try and extract profits by other means, rather than by dividend, is likely to require complex anti-avoidance measures
  • Many large companies already encourage employee share ownership through share option schemes of various forms. Presumably existing holdings of employees will be diluted by the IOF in the same way as other shareholders and what happens on exercise of outstanding employee options?
  • It is fair to assume that companies which are not caught by the proposal will wish to avoid reaching a trigger for the proposal to have effect if at all possible. From a commercial point of view, there will be a number of scenarios where the prospect of having to comply with this proposal will have to be taken into account.

Legal challenge

There are possible legal avenues which aggrieved shareholders could consider to challenge the compulsory creation of the IOF, possibly by a collective action. The European Convention on Human Rights (in UK law, by virtue of the Human Rights Act 1998), protects interests in property by providing that 'every natural or legal person is entitled to the peaceful enjoyment of his possessions. No one shall be deprived of his possessions except in the public interest…..' The ECHR protects every natural or legal person from arbitrary state interference with their existing property (including corporate property and not limited to physical goods) but also recognises the state's right to control or expropriate property if it is in the public interest. Depriving someone of their property without compensation is only justifiable in exceptional circumstances. A Labour government may have difficulty arguing that the compulsory 'transfer' of 10% of a company to an IOF is in the public interest, particularly given that (presumably) existing shareholders will not be compensated. Such an action could seek compensation or a declaration that the legislation is incompatible with the ECHR. There are other legal options which might also be available.

We will see how (and if) this proposal develops.