United It Was Not
By Christopher Mackin, Ownership Associates
Editor’s note: The following article was written in 2003, soon after United Airlines filed for bankruptcy. It remains the definitive account of United’s ill-fated ESOP.
The filing for bankruptcy of United Airlines ranks eighth out of the top ten bankruptcies on record since April of 1987. United’s filing lacks the audacity of WorldCom (# 1) and the mendacity of Enron (# 2). It is not, however, without its own distinct charms.
Perhaps the most talked-about distinction of the United Airlines story is the fact that it took place at a company that was ostensibly owned by its workers through an ESOP, or Employee Stock Ownership Plan. So instead of revelations about expensive shower curtains or images of finely dressed executives in handcuffs doing the perp walk for the television cameras, the opinion pages have been filled with admonitions concerning the grave error that United symbolizes. This is what happens, we are told, when one lets the “hired help” inside the boardroom.
United Airlines is thoroughly unlike most of the 11,000 ESOP companies that dot the landscape of Middle America. There is nevertheless a cautionary tale to be told about how employee ownership was mismanaged at United Airlines. It is a story that could prove useful, not only for other worthwhile efforts at workplace participation but also for similar efforts that may materialize sooner than might be expected in the airline industry. Back during its salad days in the mid-1990s, my consulting firm played a modest role in stoking the ownership fires at United. As will become clear, this was an assignment that lacked a crucial ingredient – an interested customer.
If proportionality matters, it must be stated at the outset that the story of United’s failure relies as much, if not more, upon a generic set of flawed business assumptions shared by each of the major airlines than it does upon the alleged foibles of employee ownership. Those flaws that spill over the headlines today left these airlines vulnerable to competition from upstart low-cost airlines. They began to suffer as far back as early 2000 from a weakening economy and a gradual loss of high-end business travelers seduced by lower fares. Those factors were compounded by the effect September 11 had on air travel in general. As a result, each of the major airlines has been stripped of their respective fig leaves. It just so happens that United has an unusual leaf.
The official public launch of the United ESOP in July of 1994 was an event almost as newsworthy as recent reporting has been about its demise. Television ads urged the public to “Fly Our Friendly Skies.” The image portrayed was that of 85,000 conscientious employee-owners who had thought it over and decided to throw their lot in with the ranks of America’s self-made entrepreneurial heroes. The truth, as we shall see, was a bit more complex.
Early commentators were predictably divided. Lee Iacocca, a prime beneficiary while at the helm of Chrysler Motors when it received one of the largest government bailouts in history that happened to include a substantial ESOP stake for union workers, as well as a board seat, was dismissive. He told the Los Angeles Times that “it would never work.” Speaking for a hopeful Clinton administration, then Secretary of Labor Robert Reich hailed the news of the buyout as a “historic” event. Somewhat surprisingly, the dean of American anti-utopian thinking, George Will, weighed in on the side of the United employee buyout. He wrote that the United experiment heralded “a promising new chapter in the history of capitalism [that could] diminish some of the forms of social strife that have fueled modern liberalism.
Behind the hoopla and early opinion however, was a challenging set of facts. In 1994 when the United ESOP deal was launched, union and non-union employees sacrificed a combined $4.88 billion of their compensation and benefits to “purchase” a majority stake at United. They did so voluntarily—the unions voted for it—but under duress. In the early 1990s Southwest Airlines, the first of the low-cost innovators, had begun the revolution that they and their imitators have continued to successfully wage to this day. United was the first major airline that was forced to meet this model head on in the marketplace. It had to adapt, particularly on the west coast, or face ruin.
Though the competitive facts were clear, the United “solution” was surprising. Perhaps most surprising of all was where it originated. Though most commentators mistake this important fact, the employee ownership solution at United did not originate with management. It was conceived in the late 1980s under different economic circumstances by the pilots union, the Air Line Pilots Association (ALPA). It was finally implemented in 1994 at a time when there was an indisputable need for a restructuring of its labor contracts. Rather than have that difficult fate shoved down their throats, the pilots, and eventually the machinists union, the International Association of Machinists (IAM), decided to take the initiative. Employee ownership was the tool they chose to secure something material—in this case a 55% equity stake—in return for their dramatic sacrifices.
Employee ownership at United was never, however, solely about economics. It was also about voice. The idea of employee ownership at the airline first arose in the wake of the 1985 pilots union strike. Once that strike was settled, the pilots union leadership began to take a longer view. An early inspiration for that view came from none other than F. Lee Bailey, the famed defense lawyer, amateur pilot, and, at least in this case, union sympathizer. During the strike Bailey had occasionally been invited to address nationwide teleconference gatherings of rank and file pilots to help maintain morale.
At one such meeting after the strike was settled, Bailey issued a challenge to the pilots. The complaints he had heard during the strike and since the settlement had a common source—mistrust of United’s management team. Unlike other groups of unionized employees, Bailey argued that well-compensated pilots had it within their power to take charge of their work lives. If during future negotiations pilots were willing to part with a percentage of their compensation and benefits, those concessions could be traded for stock in United. Sufficiently large concessions could translate into a majority stake. Majority shareholders would be represented on the corporation’s board of directors and would have the power to replace management.
Sitting in the audience during Bailey’s speech was the chairman of the ALPA Strike Committee, Captain Rick Dubinsky. It was Dubinsky and his allies who took the ownership idea to heart and set off on a seven-year quest to implement it. The 1994 ESOP was actually the fourth attempt to bring employee ownership to United. As indicated, the immediate circumstances surrounding the purchase were not propitious. There was little doubt that, with the shadow of Southwest Airlines looming, dramatic wage concessions were going to be necessary. The question quickly became, what kinds of conditions and what kinds of new powers would the unions exact in return for those concessions?
Meanwhile a relatively new and equally unpopular management team lead by Stephen Wolf sent an unambiguous message by firing 5,000 machinists union members with the stroke of a pen. Until that point in time the machinists union had been critics of an ownership strategy. With 5,000 members now lost, the machinists became converts. The traditional tools of collective bargaining were not going to get those jobs back. Nor could the traditional tools of collective bargaining deter management from carrying out its radical downsizing agenda. After a period of negotiation with the pilots the machinists signed on to the ownership plan.
United’s flight attendants union, the Association of Flight Attendants (AFA), was also an early participant in ownership discussions. The flight attendants union’s withdrawal from the plan was later widely cited as a fatal flaw obstructing efforts to create a new ownership culture at United. Flight attendants’ objections to participating in the ownership plan revolved around two issues. First, they believed that, as a group, relatively low-paid flight attendants were least able to afford the kinds of concessions that would be necessary for them to join the party. Second, they were discouraged when the union-selected management team in waiting, Jerry Greenwald and John Edwardson, sent signals that they would not accede to the flight attendants’ position in a long-brewing controversy concerning seniority and the company’s requirement that overseas flights be staffed with more foreign language speaking cabin crews. Unhappy with the position of the new management team, seeing that the pilots and machinists were likely to go forward without them and that the concessions made by those groups could help stabilize the company, the flight attendants withdrew from the talks. Their contract would remain in place, undisturbed.
Indeed, the $4.88 billion in concessions offered by the pilots and machinists unions alone was enough to persuade United’s existing shareholders to part with 55% of their equity. The managerial coup d’état that would accompany the transition was deliberately downplayed so as not to excite the stock market or the public. Stephen Wolf exited quietly with a handsome severance package. Messrs. Greenwald and Edwardson took center stage. For the first time in the history of American industrial relations, labor had bought the rights to install a new management team at a major U.S. corporation.
Stepping out into the early years of (what turned out to be) a record-setting, decade-long economic expansion in 1994, buoyed by the ESOP-induced lower labor costs and the beginning of a bull market on Wall Street, the United model looked promising. Stock prices grew steadily, turnover was down, and so was absenteeism. In early 1996 a beaming Jerry Greenwald looked out at the world from the cover of Business Week under the title “United We Own.” He was surrounded by a group of happy workers. All seemed well.
What would only become clear two to three years later, however, was the degree to which employee ownership had become an empty slogan at United with little if any policy substance to back it up. Though other, larger factors eventually contributed more to United’s plight than the neglect of employee ownership, three related factors can be identified that undermined a notion that once held such promise:
First, the “owners” fired their architect. The Master Executive Council of the Air Line Pilots Association, the de facto board of directors of the pilots union at United, did what unions often do. They voted out their leaders. Only a few weeks into the life of the United ESOP, the plan’s visionary founders, Roger Hall and Rick Dubinsky, were sent packing. Interpretations as to why vary. It is safe to say, however, that the 1994 vote within the pilot group to approve the 24% wage and benefit concessions that it cost to adopt the ESOP was a close and controversial one. As a result, alternative leaders were standing at the ready. Subsequent pilot union regimes chose not to be openly hostile toward the ESOP. Nor, however, did they exert much effort to unpack the potential of the ownership idea. Like all new political administrations they had their own priorities. Instead of employee ownership, the next new big thing for them would be “interest-based bargaining”—a high-minded approach to contract negotiations where participants talk together before they bargain, revealing the interests underlying their respective bargaining positions. Like some kind of fateful intra-Christian rivalry, the insurgent, interest-based pilot leaders, metaphorically clothed as Franciscans, trumped Dubinsky’s ESOP Jesuits. Meanwhile, the management team of Greenwald and Edwardson waited patiently for their labor patrons to weigh in on how to follow through on the ESOP dream. No sound would be forthcoming. The chief institutional sponsors of the ownership idea, the pilots, had moved on. The machinists, who in the late 1990s actually began to step up to the plate with their own rank-and-file-inspired “active ownership committee,” were distracted in those early, formative years by the threat of a raid from a rival union. Even though they were founding partners of the United ESOP, they contributed little to the early discussion of what to make of employee ownership. The flight attendants, by their own choice, watched from the sidelines.
Second, over time, ESOP critics in management prospered. Then-CEO Jerry Greenwald and president John Edwardson at first gamely addressed the vacuum in leadership caused by the ouster of the pilots union’s ESOP visionaries. An early spurt of energy involving cross-functional “task teams” brought pilots, machinists, non-union managers, and even “non-owner” flight attendants into new conversations about how to solve business problems. The idea of employee ownership was used to help motivate these conversations. (From 1995 to 1996, the consulting firm of which I am president, Ownership Associates, provided consulting service to United Airlines. Our introduction to the United community was unorthodox. We were introduced to the company by the unions at United.) Still, the idea of employee ownership lacked a strong institutional constituency. Meanwhile, a cluster of old guard management officials who openly criticized the original move to employee ownership gained strength.
Marketing was the first casualty of these politics. The Chicago-based Leo Burnett advertising agency, whose original television ads featured the Fly Our Friendly Skies message, was replaced by a Minneapolis agency that counseled against stressing ownership in favor of an obtuse, trance-inducing campaign called “United Rising.” To say that this new ad campaign was a failure in the marketplace would be an understatement. Even more significant was the early selection of the new vice president of “people,” once known as the vice president of human resources. By virtue of their role on the United board of directors, labor, in particular the pilots union, exercised extraordinary influence over this pick. Their choice, to no one’s surprise, was a champion, in fact the “guru” of the then ascendant theology of interest- based bargaining. His name was William Hobgood. In a meeting in his office a few months after his appointment, this new official congratulated this author on his work assisting with the spread of the ownership idea at United. He then proceeded to advise me that he personally was not enthusiastic about employee ownership. He recommended an article on the topic he had authored while teaching at Baylor University. I sat across from the newly installed vice president of the people division of the largest employee-owned company in history who, incredibly, was making no secret of his antipathy toward employee ownership. Not a good omen. I wondered what kind of meal might be served on the flight home.
Third, occupational silos defeated dreams of ownership-induced harmony. There are not many industries that are more occupationally segregated than the airline industry. Pilots, mechanics, ground personnel, and flight attendants, over 85,000 in total at United, travel in parallel universes, loyal primarily to their individual craft. The fact that United’s flight attendants withdrew from the ESOP at its inception was a huge setback to the idea of employee ownership at the airline. As the employee group with the greatest exposure to customers, flight attendants could have helped rally the traveling public to a new message of service from an airline with a difference—employees with an ownership stake. It did not happen. United did not “rise.” Solidarity among the airline’s three major union groups was lacking from the start. Had further efforts been made early on to institutionalize a coalition among those groups, a solution may have presented itself to get the flight attendants on board. Three union representatives on the board of directors would have encouraged unity. Instead there was dissension.
Most of the other 11,000 ESOP owned companies in the United States have it easy by comparison to United. Ownership through ESOPs most often takes place as part of a slow, deliberate march of succession from the owners of small to mid-sized privately held companies to their employees. Typically, employees do not give up any pay or part with any at-risk cash to make this happen. Employers get a tax break for selling to their employees and employees get a piece of the action in return. United was an exception to this mainstream story, but a big and bold enough exception to raise hopes and expectations across the land.
Because the United ESOP was a new idea and because it arrived wrapped in the bad news of concessions it was a difficult message for union leaders to embrace. Difficult, but not impossible. Just as the paint was really beginning to peel in early 2001, Captain Rick Dubinsky, newly re-installed by a fickle rank and file as chair of the pilots union at United, gave a speech that summarized the United ESOP experience to date. In the speech, he made use of a rich metaphor. He referred to the United ESOP as an oversized $4.88 billion gift, fitted with a red ribbon, that had been sitting in the center of an extremely large stadium surrounded by 85,000 participants. In the seven years that had passed since he and his colleague Roger Hall had delivered it to the stadium, no one had figured out how to untie the ribbon and open the box.
A second strategic point he made in that speech was retrospective and structural. If he were to be able to redesign the United ESOP structure, Dubinsky claimed he would have pushed for a complete “go-private” strategy where the ESOP would hold 100% of the shares. Maintaining the “hybrid” ownership structure that combined an ESOP with public shareholding contributed to a schizophrenic culture. The ongoing presence of a large (45%) stake for public shareholders left the company open to a generally unhelpful stream of criticism from stock analysts. It also provided a cover for management in particular to not take the idea of employee ownership seriously. The hard work of creating an ownership culture could always be deferred or deemphasized because of alleged demands from the public market.
Without leadership from both the unions and management, the United ESOP was fated to become what it is now—an oversized target for organizational cynics who wish to return to the glory days when workers, unions in particular, stayed out of management’s hair. Gordon Bethune, the class-conscious CEO of Continental Airlines, spoke well for this school of thought when he recently described United as an airline where “the inmates were running the asylum.” Bethune’s comment is particularly interesting given the fact that during one of the previously uncompleted ESOP attempts at United in 1990, an attempt that was designed to produce 100% employee ownership, he had apparently dropped by the “asylum” himself. Union leaders were glad to explore Bethune’s serious interest at that time in filling the second highest management post at United. Unfortunately, the financing required for that deal evaporated during the weekend after Iraq invaded Kuwait and the specter of sky-high oil prices scared away potential lenders. Gordon was forced back into the shadows.
Cynics notwithstanding, the airline industry is not likely to have seen the last of employee ownership or ESOPs. Indeed, it is a little-known fact is that Southwest Airlines, the poster child for successful airline operations in the current era, relies heavily on stock options as a means of compensation for its heavily unionized workforce. Ownership has worked for employees at Southwest as a compensation strategy. It is unclear whether it has been accompanied by the kind of corporate governance voice that was a distinguishing characteristic of the United model. Whatever their differences, United, Southwest and cases that preceded them in the steel industry and elsewhere have shepherded in a new awareness of risk and reward in the union world. Ask a union worker to take a pay cut when his company is under duress and it is only the most accommodating or clueless among them who will not ask for equity in exchange.
Away from the klieg lights, in the American heartland, employee ownership has made steady and sure progress. Research shows that ESOPs with active internal employee communications and culture change efforts outperform their competition as much as 8-11% in sales. If employee ownership is to blame in the United case, as its critics claim, is it not equally legitimate to accuse the conventional model—investor ownership—for the failure of other airlines? Continental has failed twice under that model, US Airways once, and TWA, Pan American, Eastern, Braniff and a host of other once proud airlines are gone entirely. The fact that US Airways is about to emerge from bankruptcy with four union seats on the company’s board of directors is a signal that, United notwithstanding, it will apparently not be easy to push the “hired help” out of the boardroom.
In an era chock full of unprecedented evidence of corruption and swashbuckling bankruptcies that put United to shame, it is surely a relevant question to ask who should own American corporations and who should hold them accountable. One voice tells us to trust no one but the experts. Let the mutual fund managers and Wall Street analysts make the tough calls. Another voice, weaker now, tells us to look past the excesses of the Kenneth Lays and Dennis Kozlowskis of the world and trust senior management to do the right thing. A third direction, however, is to go where United ultimately decided not to go—internally, to the employees whose wisdom or folly can truly make a difference.
Unless we have arrived at the end of history in our thinking about corporations, these remain unsettled questions. It is likely that the contest concerning the nature and structure of the American corporation will carry on. Employee ownership will continue to be a contestant.
Christopher Mackin is the President of Ownership Associates of Cambridge, MA. From 1994 to 1996, Ownership Associates advised United Airlines on the implementation of its employee ownership plan.