By William L. Owens, Esq.
When it comes time for a succession plan or a leadership transition companies can utilize several options to achieve their goal including Employee Stock Ownership Plans (ESOP), a Leveraged Buy Out (LBO) or a Collective or Cooperative Organization.
There are a number of companies locally that employ the ESOP model which is a statutory creation governed by the Employee Retirement Income Security Act (ERISA), since they are, in fact, a form of retirement plan which is regulated by the US Department of Labor.
An LBO is a transaction in which the stock in the company is purchased by a segment of the employee population, but more often by management, and is funded typically with bank debt.
A collective or cooperative management structure is somewhat loosely defined since there is no particular legal structure that is required, although many are member benefit organizations that have economic participation and democratic governance by members. The latter description applies more to cooperatives than it does to collectives. Ward Lumber Company is the only local business that I am aware of that has adopted a co-op structure. If it is something you have interest in, I am sure Jay Ward would be happy to discuss it with you.
My focus is on Employee Stock Ownership Plans whose principal advantage is that they, like a 401k plan, are exempt for the earnings they receive. There are also tax benefits to the Owners/Sellers if the transaction is properly structured. The flow of funds from the ESOP to the Owners/Sellers, whether that is done in a single cash payment or over time (Owners/Sellers financed), several tranches may be needed to increase employee ownership. If the sale is Owners/Sellers financed, then a Promissory Note is given at the time of the closing, and principal and interest are paid to the Owners/Sellers which then allows the shares to be released to the Employees in the ESOP with the unpaid shares held by it for future distribution.
The critical stages in the creation of an ESOP involve obtaining a fair market valuation for the stock, the development of Plan documents, a Stock Subscription Agreement between the ESOP and the Owner/Sellers as well as many other ancillary documents. ESOPs generally have a Trustee (but that is somewhat dependent upon how the transaction is structured and its size). An annual valuation is frequently required (somewhat impacted by the size of the transaction) and typically there is a Third-Party Administrator hired by the ESOP and paid for by the Company to keep track of the employee accounts, as stock is allocated to them. There are obviously costs involved, including the preparation of the valuation, the Trustee’s fees, various counsel fees, the preparation of a Fairness Opinion and potentially bank fees if bank financed.
In this article I have tried to provide an overview of the creation of an ESOP as well as information about other employee ownership options. However, it is important to keep in mind such transactions have many issues requiring analysis and costs which can be significant.
• An ESOP is an employee benefit plan that enables employees to own part or all of the company they work for. ESOPs are most commonly used to facilitate succession planning, allowing a company owner to sell his or her shares and transition flexibly out of the business.
• A Leveraged Buyout (LBO) occurs when one company attempts to buy another by borrowing a large amount of money to finance the acquisition. The acquiring company issues bonds against the combined assets of the two companies so the assets of the acquired company can be used as collateral against it.
• A Co-op is an entity that is both owned and controlled by its members who participate in its financial success. Member/workers have representation and vote for the board of directors, among. other decisions.
William L. Owens is an attorney/consultant at the Stafford Owens law firm in Plattsburgh. He served in the United States House of Representatives from 2009 to 2015 representing New York’s 21st Congressional District.
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