Whether you’re currently contemplating a third-party sale or just starting to think about your business transition, you should definitely consider how an Employee Stock Ownership Plan (ESOP) exit strategy may be a great fit. ESOPs may not be the most publicized business transition option, but this may be because owners and/or their advisors (Attorney, CPAs, Financial, etc.) do not fully understand this option, nor its significant benefits. An ESOP can create an environment where it is a WIN/WIN/WIN for both Owners, Employees, and the Company:
Some key advantages of using an ESOP exit strategy are:
Greater Financial Security
ESOPs allow owners to partially or fully sell their ownership interest, while potentially remaining in the business until the ESOP fully pays them. This offers greater financial security, without the need to exit the business. Also, if the owner(s) decide to seller-finance the transaction, then warrants or other similar instruments could be negotiated to give the seller a proverbial “second bite of the apple” if the Company continues to grow.
Greater Exit Flexibility
You can time a sale to an ESOP to better accommodate your desired exit timeline, whether it’s now or well into the future. An ESOP is a “friendly buyer” and although there will still be a significant amount of due diligence during the transaction, it can all be within a reasonable amount of time. This offers much more flexibility than traditional M&A, which depends on many unpredictable and ever-shifting factors. Generally, most business owner’s start with a small equity sale at the beginning and then overtime sell the rest. The key is to work with an experience ESOP Advisor team from the beginning to make sure all your goals and objectives are clearly identified upfront and that the transition is as seamless as possible.
The tax benefits of an ESOP are undeniable, especially in today’s rising tax environment. If the company becomes a 100% S-Corporation, then all the future income will not be taxed when an ESOP owns the business. Imagine, instead of paying 40.0% per year in federal and state taxes, this money would be used to pay down the transaction debt, buy new equipment, or make acquisitions using tax-free dollars.
For C-Corporations, the seller(s) could potentially defer taxes on all or some the proceeds of the sale of the owner’s stock by making a “Section 1042” election. if the funds are invested in qualified replacement property (QRP). Once the QRP is liquidated in the future, any capital gains will be recognized at that time.
Treating Employees Well
If part of your personal or corporate culture is treating others well, an ESOP is a no-brainer. It allows you to take care of your team after you leave, rather than selling to a third party with uncertain goals who may not care nearly as much about your people as you do. The Company’s ESOP also keeps your employees invested in the success of your business, which gives them a strong incentive to work hard and grow the company. You’re making the earnings of your team directly related to the success of the business, thereby potentially giving your business a big long-term boost.
ESOPs transforms each and every worker from just being an “employee” to being an “employee-owner” and instills the “think like an owner” mentality into the fabric of your culture. This means that the very people who helped build your company into the successful entity it is today will continue to benefit from their hard work long after you have been fully paid out. This is fundamentally fair, and gives you the profound reassurance that your company will retain much of its core culture and structure even after you leave. If you’re emotionally attached to your company, this alone may be reason to strongly consider an ESOP.
About Vision Point Capital
For over 20 years, our team has supported our clients with comprehensive advisory services to help them with their complex business valuation and transition needs. Few other firms offer such a complete suite of business transition services as it relates to M&A, Valuation, and ESOPs.
Our client’s personal goals are at the heart of everything we do. We are well versed in advising clients across a broad range of industries and help them manage and navigate valuation and all the business transition alternatives available to them. In fact, when you work with Vision Point Capital, you leverage our resources, experience, and expertise to help you grow faster and optimize value for reaching a successful business transition.