Are ESOPs a Smart Option for Your Exit Strategy?
Is an employee stock ownership plan a viable option to consider if you’re looking to sell your company? The National Center for Employee Ownership says there are about 6,500 of these tax-qualified contribution retirement plans in the United States offering ownership to employees.
Companies as varied as Publix, electronics wholesaler Graybar, and architecture firm Gensler have taken advantage of ESOPs. There are several benefits that make this a viable option for some business owners, but they’re not right for every situation.
On the Plus Side …
For business owners, creating an ESOP delivers several benefits, including:
Control: For owners who aren’t quite ready to go, this type of plan may allow for ownership transition over time. The owner can keep control and remain actively involved in the company.
Liquidity: An ESOP provides owners with a market for their shares of the company, which allows them to sell to employees without requiring the employees to come up with cash to buy the business.
Legacy: With an ESOP in place, the business will continue after the owner leaves. The owner also avoids the pain of having to sell to a competitor or third party.
Tax deduction: Annual stock or cash contributions to an ESOP are tax-deductible to the employer. If the ESOP borrows to buy new or existing shares, the company’s contributions to repay the loan are also deductible.
Motivation: Employee owners tend to act more like owners than employees. With some skin in the game, they are motivated to work harder, care more about profitability, and focus more on customer service.
As for the Minuses …
ESOPS are not right for every owner, company, or situation. There are several potential downsides, including:
Costs: Ongoing costs almost always top the list of disadvantages. They incur third-party administration, valuation, and legal expenses. If these expenses aren’t feasible given your company’s cash flow, an ESOP may not be a good choice for you at this time.
Price: Selling to an ESOP is not likely to maximize the price. While the price will likely be competitive, especially given the benefits mentioned previously, it will not include the premium that would be paid by a strategic buyer.
Management: There are matters of new leadership and corporate culture to consider. If the managers of the company are unable to maximize the company’s position and generate sustained success, you’ll lose many of the advantages of an ESOP. Similarly, ESOPs present a unique shared management approach that is not a good fit for all companies and employees.
Size: Smaller companies, such as those with 20 employees or fewer, are typically not in a position to utilize an ESOP.
If you’re thinking about exit planning, contact Dembo Jones’ team of advisors. We can walk you through a variety of options, including ESOPs, that allow for a successful transition that maximizes value while ensuring the company you built is in good hands.