When it’s time to sell the business you’ve spent years building, and you want to be sure to take care of those long-time employees who helped you make it the success it has become, a really good path to consider is an Employee Stock Ownership Plan, or ESOP, in which you sell your company to your employees. If there’s no successor in the family, having your employees become the owners of the company they helped build can be an amazing way to say thank you, and provide you a fair price for the sale of your company. Or maybe not.
That conundrum results from the use of a tool that’s been available for many years, falling in and out of favor mostly because of its complexity and the bad things that can happen – including costly litigation – if it’s not done right, for the right reasons, and in the right kind of company. And that’s why the “maybe not” needs to be considered. The Exit Planning Institute’s Los Angeles chapter presented a solid presentation on the topic this week, thanks to Tucker Ellis LLP, a law firm with a solid ESOP practice in LA and across the country. Some things to consider if you’re ready to make a move and you think this option might be right for your company:
Company characteristics for a successful ESOP transaction:
- Strong and dependable cash flow to handle the debt service that will result,
- At least 20 employees, the folks who will be the new ownership group,
- A solid management team already in place, for when you’re not,
- A strong history of good employee communication and a healthy corporate culture.
The resulting entity can make your employees very happy, and very well provided for if not outright wealthy, as long as you can make sure your plans don’t get tripped up by missing some of these key steps:
Potholes that can cause trouble if you fall into one:
- Choosing advisors and a trustee who are skilled in this rather complex process,
- Getting a truly fair and defendable valuation on which the sale price is based,
- Reasonable and defendable projections of future performance to support the valuation,
- Compliance with ERISA, overseen by the Department of Labor which will closely scrutinize your plan’s impact on employees,
- Getting really solid advice if you want to somehow favor some employees over others, through stock appreciation rights or other ways to tip the scale toward a few especially valued members.
One thing the presenter didn’t emphasize enough, in my view, is the need for solid financial management within the company, to drive those projections, interface with the lender that will finance the transaction, and keep informed all the advisors that you’ll need to get it done right. One thing she did make clear: if you don’t get it done right, you’ll be involved with your company in a less than enjoyable way, potentially for years after you had hoped to be pursuing your personal bucket list.
We are Your CFO for Rent.