Despite its volatile nature, company stock remains a firm favorite with defined contribution plan participants.
While most professional equity portfolio managers would shy away from investing more than 5% in a single stock within a diversified portfolio, the mean contribution by a plan participant with freedom of investment choice was 33% last year, according to data from Access Research Inc., Windsor, Conn.
High employer stock allocations in defined contribution plan accounts are common within publicly held companies of all sizes.
According to data from Pensions & Investments' directories of the largest U.S. pension funds, defined contribution plans among the largest 200 and the next 800 sponsors have held between 21% and 25% of total plan assets in company stock for the past five years, with little difference in the allocations of large vs. smaller companies.
Some extreme examples include Procter & Gamble Co. with 91%, Ford Motor Co. with 65%, Bell Atlantic Corp.and Southwestern Bell Corp. with 68% and 67% respectively, J.C. Penney Co. Inc.with 73%, Kimberly-Clark Corp. with 90%, Hallmark Cards Inc. with 68%, McKesson Corp. with 80%, and Roadway Services Inc. with 100%, as of Sept. 30.
Many more companies fall into the middle range, with company stock allocations comprising 25% to 55% of plan assets. Some of these "moderate" allocations include 48% for AT&T's defined contribution plans, 43% for NYNEX Corp., 55% for U S WEST Inc., 28% for USX, 44% for Sears, Roebuck & Co. 49% for Ingersoll-Rand Co.and 32% for Scott Paper Co.
According to the National Center for Employee Ownership, Washington, employees now control an estimated 5.8% or $350 billion of the $6 trillion in total U.S. corporate equity. At least $100 billion of the total is controlled by 401(k) plan participants.
In some cases, plan participants are locked into company stock allocations by plan design features. But consultants say whatever the reason, many participants are too heavily invested in a single stock to enable their portfolios to be safely diversified for long-term retirement savings.
Part of the reason for such unbalanced allocations lies in the dual role played by corporate defined contribution plan sponsors.
Companies want to encourage a vested interest in the future of the firm by tying employees to the company through stock ownership. Many companies still make their matching contributions in company stock and don't let employees trade it freely.
On the other hand, employee benefits staff have been working hard to educate participants about diversification to control volatility.
"It's an oxymoron to mention company stock in light of an investment education program which stresses diversification and retirement income security," said Michael Seidenburg, a principal in the Philadelphia office of William Mercer Investment Consulting.
So far, the treasury side of the company seems to be winning the tug of war, consultants say.
"I haven't seen that many companies coming up to bat to really describe the volatility of company stock, which remains, incidentally, the largest pool of assets in 401(k) plans," said Jim Klein, principal and national practice leader at Towers Perrin, New York.
" If you are going to offer participants more investment choices, more options and more education about diversification in a portfolio, you are going to have a real problem fitting company stock into the picture. If you're going to say something real about company stock, it's not going to be nice," said Mr. Klein.
Mr. Klein and other consultants say the latest plan sponsor efforts to comply with the Department of Labor's 404(c) regulations also raised new questions about how the volatility of company stock should be described. While 404(c) offers certain safe harbor protections if plan sponsors provide disclosure about their plan's investment options, company stock is not specifically covered.
However, consultants say greater disclosure about the risks of company stock would help sponsors meet the spirit of 404(c) regulations. "Legally? It's a close question," said Mr. Klein. "Is it OK to park it over to the side of the rest of the investment options and not treat it as a retirement vehicle?"
Many plan sponsors have answered that question, said Mr. Klein, by separating discussion of company stock and treating it more as a motivational tool than a retirement vehicle. "Educational programs for retirement investment concentrate on the other assets in the plan and often just don't deal with company stock within those programs," Mr. Klein said.
The DOL may be looking at the issue in light of 404(c), suggested Gloria Della, public affairs specialist in the Pension and Welfare Benefits Administration, although she emphasized company stock ownership is strictly governed by the Employee Retirement Income Security Act. "The question of where company stock sits within a defined contribution plan portfolio is probably driven more by corporate concerns, than by consideration of ERISA compliance," said Ms. Della. Ms. Della said issues surrounding company stock as a defined contribution plan option would be included in the DOL's study of investment education this spring.
General Electric Corp., Stamford, Conn., has maintained a neutral stance on company stock allocations for many years, said Charles E. Welch, manager of employee and benefit communications. Participants in the $8.8 billion GE Savings & Security plan had about $4.2 billion or 48% of assets invested in company stock at the end of 1994. More than 80% of the 150,000 eligible employees participate in the GE savings plan on both a pre-and post-tax basis. GE's employer contribution match - 50% on an employee contribution, up to 7% of salary - has never been made in company stock; employees must specifically direct their contributions into stock.
GE stock has been the plan's best performing asset over the past 10 to 15 years, said Mr. Welch, with a 17.2% annualized return for the 10 years ended Dec. 31, compared with a 12.6% return for its nearest rival for the same time period, a domestic equity mutual fund. GE employees directed about 54% of their own new contributions and 60% of the employer contribution into the asset class, said Mr. Welch.
"The employees found the asset class themselves and it has been a very attractive option. We have tried not to exert any company influence either way about company stock," said Mr. Welch.
While the company provides investment education about portfolio diversity in a general sense, GE has not communicated directly to employees about company stock's potentially volatile nature within the 401(m/k). "We really haven't specifically addressed where company stock lies on the risk spectrum," said Mr. Welch, adding that because GE has so many businesses in different industries, GE stock is probably a less risky than the stock of a single industry company.
However, GE will consider the company stock issue in the context of the overall plan provisions when it begins union negotiations in 1997, said Mr. Welch. All union and non-union employees are offered the same benefits, and any changes to the plan are made in conjunction with collective bargaining agreements. GE also might add more investment options to the current six to allow employees to further diversify their portfolios.
A few companies are beginning to tackle the company stock problem, say consultants, by liberalizing employees' ability to move out of company stock. Some employers no longer make matching contributions in stock; others are putting upper limits on the amount participants can hold.
Gautam Dhingra, an investment consultant at Hewitt Associates, Lincolnshire, Ill., said he is seeing a move toward reducing company stock holdings through plan design features.
"Basically, I have a hard time seeing how company stock fits in to any significant extent in a 401(k) portfolio. There is no doubt that it is a riskier option by itself than diversified equity portfolios. Unless an employee is a very good judge of his company and the industry it is in, and unless he is willing to rebalance the portfolio, company stock without employer controls is hard to justify," said Mr. Dhingra.
KeyCorp, Cleveland, has decided to compromise on company stock allocations when pension plans of two entities - KeyCorp and Society Corp. - are merged in the consolidation of the two banking companies.
Under the merged plan, likely to be implemented later this year, 50% of the employer match will be made in KeyCorp stock and 50% will be participant directed. Under Society's old plan, the entire employer contribution was allocated to company stock; the reverse was true of KeyCorp's plan.
Additionally, bank officials felt it was important, in light of 404(c) regulations, to allow employees to diversify out of company stock more frequently, said Tim Connors, a KeyCorp senior vice president. Employees will be allowed two transfers per month into or out of company stock. Under Society's old plan, employees could only get out of company stock when they neared retirement.
"There are many more examples of people doing well in a diversified portfolio than there are of people doing well in a single stock," said Brian Schaefer, president of consulting firm, 401(k) Ventures, Palo Alto, Calif. "Employers are setting themselves up for big problems if they don't put restrictions on company stock holdings in their defined contribution plans."
Other consultants agreed employers may be sorry if they don't exert some control.
"How can you expose the risks of company stock investment and institute upper limit controls without having a real morale affect on employees who want to support their companies through investment?" Mercer's Mr. Seidenburg said.
"In coming bear markets, you can expect to see some disasters as falling share prices hit the employee accounts that are too heavily invested in company stock."