Weekly Roundup, 2nd October 2018

Weekly Roundup 181002

We begin today’s Weekly Roundup in the FT, with Merryn Somerset Webb. This week she was talking about employee share ownership.

Employee share ownership

Merryn Somerset Webb

The big story of the week came from the Labour Party conference, where John McDonnell pledged to steal 10% of the equity of all companies employing more than 250 workers.

  • The shares would be handed over to an “employee trust”.

He dressed it up as an employee share ownership story – everyone would get:

A greater say, and a greater stake, in the rewards of their labour.

Workers, who create the wealth of a company, should share in its ownership and, yes, in the returns that it makes. We believe it’s right that we all share in the benefits that investment produces.

But in practice employees would not really own the shares:

  • They wouldn’t be able to sell them.
  • And they wouldn’t be compensated when they left the firm.

Instead they would have rights to up to £500 of dividends pa.

  • The balance of the dividends would go to the government.

So in effect this is a new flavour of corporation tax, aimed only at dividends.

Labour estimate this would raise £2bn pa, but the BBC calculated that they would get £1.1bn from Shell alone.

  • They speculated that Shell would follow Unilever in relocating to Holland.

The Economist reckoned that £6bn pa would go to the Treasury.

Carolyn Fairbairn of the CBI said the proposal would:

Crack the foundations of British business.

Labour is wrong to assert that workers will be helped by these proposals in their
current form. Their diktat on employee share ownership will only encourage investors to pack their bags and will harm those who can least afford it.

If investment falls, so does productivity and pay.

According to YouGov, more than 50% of the UK public like the sound of this crackpot scheme.

I don’t rate dividends as highly as most (see here for more detail), and – like Merryn – I think that employee share ownership is a good thing.

  • But what I had in mind was employees buying / earning a stake in the future of the firm they work for.
  • This should make clearer the common incentives that the worker and firm already share.

Merryn has some evidence for this:

The Employee Ownership Index shows that listed UK companies that have 3 per cent or more of their share capital held by or for the benefit of employees regularly outperform the rest.

She also points out that too much exposure to the firm you work for is a bad thing (Enron and Northern Rock are the classic examples here).

McDonnell’s scheme might not provide this sense of ownership (since there is none).

  • It might feel instead like a messy way to get an end-of-year bonus.

But on the other hand, it seems to work for John Lewis.

  • And the employees would at least get a vote on AGM resolutions.

The tax grab angle would encourage firms to favour buybacks over dividends.

  • Scrip dividends (dividends in the form of extra shares) could also be used.
  • More optimistically, Merryn suggests that it might lead to more investment (capital spending).

I think a lot of firms will de-list or move abroad, and others close to the 250 employee cliff-edge will set up partner companies to stay under the limit.

  • New firms will stay private, or list elsewhere.

The 10% confiscation would obviously dilute existing  holders (not to mention be a primary violation of property rights, without which – in my opinion – civilisation fails).

  • Presumably private investors – particularly foreign ones – would sell in advance and the share price would fall as the likelihood of a Labour government increased.

But the thought of Labour in power would produce a market crash in any case, so the effect might be difficult to detect.

Note also that major owners of the shares include the pension schemes of those workers whom the scheme is purported to benefit.

  • Since auto-enrolment, the vast majority of workers now have a workplace pension.

Merryn also expects an impact on pay:

How long, I wonder, does Mr McDonnell expect it to be before the companies he has targeted start paying an average of £500 less in salary than companies that pay out no dividends?

Martin Vander Weyer

In the Spectator, Martin Vander Weyer quoted the to-do list of an entrepreneur he knows, should Labour come to power:

Move personal as well as corporate assets overseas.
Consider emigration to lower tax environment.
Change strategy to make little or no profit in UK.
Cancel all UK investment plans.
Investigate sale of business or generally put business into hibernation.

Martin concludes:

The Tory party might one day be forgiven for making a pig’s ear of Brexit, but not for putting John McDonnell in power.

Merryn suggests that as an alternative, the Tories propose the extension of auto-enrolment to allow some company contributions to be given as shares, with an extra tax relief bung to incentivise both sides.

  • That sounds a lot better to me.
See also:  Weekly Roundup, 19th December 2017

McDonnell also provided more detail on Labour’s nationalisation plans.

The water industry would go first.

  • Bosses will be fired and replaced by new ones on lower salaries (where will these come from, I wonder?).
  • A 20:1 maximum to average salary pay cap will also be introduced.

The UK minimum wage is currently around £14K pa, which means the cap will be at least £300K pa.

  • There’s no info on how widely this cap would be implemented.

Shareholders will be compensated with bonds.

  • More worryingly, reference was made to the Northern Rock legal case, where nationalisation at below-market prices was justified because “it was in the national interest”.

Which would pretty much justify anything, depending on who defines the national interest.

  • So get out before Labour get in.

Unless a shift to bonds part of your asset allocation strategy.

  • And you are patriotic enough to take the haircut.

The third leg of this week’s bonkers Labour stool came from an economic advisor who suggested nationalising pensions.

  • Other great Labour ideas under discussion include capital controls and a compulsory four-day week.

Meanwhile, moving in the opposite direction, the Chancellor is to meet with lobbyists (including Hargreaves Lansdown) who want workers to be free to choose their own provider under workplace auto-enrolment.

Three houses

James Max

In the FT’s Rich People’s Problems column, James Max wondered whether he still needed a third property. (( I should point out that I have an interest in three properties – my own house, my partner’s flat, and a half-share with my sister in my late father’s house ))

The basic idea is:

  1. City pad
  2. Seaside / country cottage.
  3. Somewhere abroad.

My own variation (not currently implemented) might be:

  1. City pad
  2. Country pile
  3. Seaside cottage

Of course, if Corbyn forces my out of the country, I might revert to James’ version.

  • In fact, James uses a similar justification for his foreign place.

Some people think that it’s unfair to own more than one property, since you can only use one at a time.

  • Ignoring renting for the moment, the same argument could be made for shoes or beds or coffee mugs.

We’re back to property rights (in the wider sense) again – private ownership inherently involves deprivation of use by others, and (physical) property should not be an exception.

  • I accept there are some issues with supply and demand in the UK, but it really boils down to a lot of people wanting to live in areas they can’t afford.

There are plenty of affordable houses where I grew up.

  • We just need to make sure there are local jobs to go with them.

And if somebody wants one of Max’s pads, they should make him an offer that he can’t refuse.

Offshore loans

Paul Lewis

Paul Lewis is concerned that the HMRC crackdown on non-repayable loans from offshore companies will “victimise easy targets”.

Instead of being paid directly for their work, these individuals had their wages paid to a third-party company, often offshore, and then sent back to them as a loan. These loans were typically repayable over a very long period, if at all.

These schemes were devised in response to the IR35 legislation that aimed to equalise the taxation of contractors and permanent employees.

  • Almost twenty years later, HMRC is still losing legal cases around IR35.

The most famous user of these “employee trusts” was Rangers football club.

I was a contractor in the City for more than fifteen years (and an employee for somewhat less time).

  • I was focused on filling my SIPP (within the IR35 rules), but I worked alongside some people who used an offshore arrangement.
See also:  Weekly Roundup, 1st Jan 2019

By all accounts, they were very “tax-efficient”.

  • The only running cost was a 5% to 10% fee to the umbrella company.

The government has passed a law which allows HMRC to levy a “loan charge” equivalent to the tax which has been evaded.

  • HMRC now wants all the tax back from 1999 onwards on 5 April 2019.

But those earning less than £50K pa will be given five years to pay.

I have less sympathy for these “victims” than Paul.

  • He says that individuals were forced to take these arrangements, but the people I worked with knew what they were doing, and such arrangements were never forced on me.

In fact, the offshore loanees delighted in telling people like me how much tax they were saving.

Paul says that nurses, teachers and social workers are affected, but the profession should make no difference.

  • And the sums involved – he quotes “tens to hundreds of thousands” suggest that people were either paid decent money, or “accidentally” avoided tax for quite a few years.

Tax planning / efficiency is one thing – and I am a big fan – but as Paul himself admits, these schemes clearly fit the HMRC definition of avoidance:

Artificial transactions that serve little purpose other than to produce a tax advantage.

If it sounds too good to be true, it is.

The Long View

John Authers

And finally John Authers wrote his last column for The Long View in the FT.

The prize was from the Unit Trust Association, and he was awarded £500 in a fund of his choice.

  • He chose the Capel-Cure Myers UK Capability growth fund, and he has run it as a buy-and-hold investment ever since.

He’s never added or sold, and all income has been reinvested.

  • Twenty-six years the original £475 (after a 5% initial charge) has grown to £3,160 in a fund now called Old Mutual UK Equity.

The total return index would have returned £3,296 – but that’s before charges, and in any case there were no FTSE All-Share tracker funds at the time.

  • John concludes that a good active performs in a similar fashion to a low-cost tracker, over the long-term.

He also notes that fund like this – broadly diversified, close to closet trackers – would not be invested today.

  • With indexing “so big that it is distorting the market”, people want funds with concentrated positions and lots of “active share”.

John also notes that he got his asset allocation wrong, with 100% home bias.

  • The All-World ex-UK index would have returned £4,264.

The S&P 500 ( a less reasonable comparison, since it is just as biased in a different direction) would have returned £6,660.

  • But performance-chasing today, after a good tech run, is probably a bad idea.

After 29 years, John is moving to Bloomberg.

  • I’ve signed up for his new newsletter – let’s hope they let him cover a similar beat.
Quick links

I have a bumper fourteen for you today.

First up, four from the Economist:

  1. Expensive car makers want to be seen as luxury-goods firms.
  2. Comcast wins the battle for Sky.
  3. Rising oil prices are catching emerging economies when they are vulnerable.
  4. American startups have less need to list on the stock market.

The Adventurous Investor had a couple:

  1. He showed us his model Direct Lending Portfolio.
  2. And he looked at Naked emerging markets.

Alpha Architect had four:

  1. Value and momentum and risk.
  2. Leverage constraints effect mutual fund risk taking.
  3. Quantitative investing made easy (this is about Low Vol).
  4. What’s in your Benchmark?

And here are the remaining four:

  1. The FT asked whether Amazon and Google (and presumably Facebook) should pay us for our data?
  2. The UK Value Investor asked whether investors are over-paying for Diageo.
  3. Flirting with Models decomposed Trend Equity.
  4. And Guy Thomas explained why he is Not a Value Investor.

Until next time.

Mike is the owner of 7 Circles, and a private investor living in London. He has been managing his own money for 39 years, with some success.

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Weekly Roundup, 2nd October 2018

by Mike Rawson time to read: 7 min