Business Transition Strategies: Employee Stock Ownership Plans (ESOPs)

In this next installment of our series on business transition strategies, we’ll look at employee stock ownership plans (ESOPs). Keep checking in throughout March for more articles about exiting your business!

Selling your business is never an easy decision, and not having an exit plan that meets your financial, personal, and professional needs make that choice even more challenging. For those who want to avoid a third-party buyer and have no managerial successors ready to take over, ESOPs can provide advantages for your employees, yourself, and the long-term health of your business. 

What are ESOPs?

Across the United States, there are 6,717 ESOPs comprised of 14 million participants. While the most common industries that utilize this particular exit strategy include manufacturing, engineering, construction, and banking, just about any successful business with a bright future can take advantage of what ESOPs have to offer. 

Typically, using an employee stock ownership plan to transition out of your business involves selling some or all shares to a trust, which retains ownership on behalf of your participating employees. Your company has a couple of options for funding said trust: taking out a loan, which is then paid back through company contributions to the trust, or funding outright with cash on hand. 

As the loan is paid back, employees gain access to shares. These are divvied out as part of the salary plan, based on a payscale or similar formula. In the meantime, the company continues to meet all federal regulations regarding allocation limits, distribution, and the like that the trust is subject to. 

When compared to more “traditional” exit strategies, ESOPs offer distinct benefits. 

Create Long-Term Employee Buy-In

Employees become owners, which, according to The National Center for Employee Ownership, creates companies that are “more productive, faster-growing, more profitable, have less turnover, and generate more wealth.”

Turnover rates cost businesses a lot more money than they may realize. Gallup notes three key data points in that regard:

• The annual overall turnover rate in the U.S. in 2017 was 26.3%, based on the Bureau of Labor Statistics.
• The cost of replacing an individual employee can range from one-half to two times the employee’s annual salary
• A 100-person organization that provides an average salary of $50,000 could have turnover and replacement costs of approximately $660,000 to $2.6 million per year.

Once employees know that they will benefit from stoking the fires of company success, they became more engaged in their work and ways to facilitate the growth that, in turn, grows their potential financial gains. 

Gain Liquid Assets While Still Participating in Your Business

Many business owners find ESOPs attractive because they are not required to sell 100% of their shares. As little as 30% can be made available to your employees, allowing you to maintain majority control.

Doing so also creates liquidity that you can then use to fund your transition or take advantage of the tax benefits by reinvesting. If you own a C corporation, you can then “defer taxation on your gains by reinvesting in securities of other companies.” S company earnings that can be attributed to ESOP ownership shares cannot be taxed at all. 

Not Sure if ESOPs are Right for Your Exit Strategy?

If you’re not familiar with employee stock ownership plans or if you aren’t sure whether your business would be a good candidate, it pays to speak with an expert on transition strategies. 

Catalyst Group ECR founder Lori Moen offers over 35 years of both life experience as a business owner and training in the fields of corporate sales and sales management. 

As a Certified Value Builder Advisor, member of the International Coaching Federation, and Certified Professional Coach, Lori has the know-how to advise you on creating, executing, and finalizing your business exit plan. We look forward to working with you!