We have noticed that a good portion of successful sales to an ESOP are "rebounds" that happen after an owner went through a conventional sell-side engagement with an investment banker and decided they were not comfortable with the resulting offers and potential buyers. After the long and arduous sales process, they are often turned off by the terms of the sale, the culture of the prospective buyers and the potential impact on the company and its employees. Many owners eventually find that selling to their own management and employees via an ESOP (Employee Stock Ownership Plan) is the best fit for their personal goals and those of their companies. We think that every owner should consider the ESOP at the beginning of the process.
The sale process is uncertain and lasts many months. From interviewing and hiring a banker or broker, creating a detailed CIM book (Confidential Information Memorandum), marketing the firm to dozens (or maybe hundreds) of potential buyers, reviewing (hopefully) offers to buy, due diligence and closing, the process requires many months and a huge time commitment. While the result is often a satisfactory sale, a large percentage of the deals do not end in a sale.
A sale to a financial buyer or competitor may be unsatisfactory for many reasons:Not enough interested buyers or a lower than expected price.
- A bad cultural fit with the buyer.
- Concern over the effect on the company and employees. The buyer may plan plant closings, layoffs, drastic restructuring.
- A high amount of acquisition debt may put the financial health of the company at risk.
- The owner may want to continue to control, manage and support the company.
- Few if any options for reducing the tax bite on the owner's sale proceeds.
An ESOP is a different kind of buyer:
- An ESOP is a friendly, that allows a business owner to transition ownership up front and control over time.
- The ESOP is an internal sale so it is discrete and doesn't require marketing the business for sale.
- An ESOP perpetuates the company's legacy and independence without necessitating a change in management. ESOP's are inherently more stable for
- The process is generally shorter and less uncertain – typically 3-5 months than a year.
- Selling shareholders may be eligible to defer and possibly eliminate capital gains taxes on the sale of stock to the ESOP potentially leading to a better after-tax result versus a conventional sale.
- ESOP stock buyouts can be structured to provide the selling shareholder with equity warrants that provide the seller with additional upside should the company's value grow after the ESOP transaction.
- Following a 100% leveraged ESOP, an S-Corporation can eliminate the burden of state and federal corporate income taxes. Imagine what it would be like to manage a company with that advantage in cash flow! Think of the advantage in acquiring other companies if you can eliminate their tax burden.
- ESOP companies enjoy significant tax deductions for the stock purchased from the owner. An ESOP is allowed to borrow money and repay its debt – both interest and principal – on a tax deductible basis, subject to IRS limits.
- An ESOP is a potentially life-changing retirement benefit that can be used to attract and retain highly motivated employees.
- An ESOP is a flexible buyer of stock and it can own anywhere from 0% to 100%.
- Several prominent academic studies indicate that ESOP companies benefit from higher employee productivity and retention.
ESOPs are not right for every seller and company, but every business owner should consider the alternative prior to embarking on a sale process. The initial consultation is quick and relatively painless. The principals of Pilot Hill Advisors have led hundreds of successful ESOPs for its clients and can help assess if exploring an ESOP makes sense. If it is right for you, Pilot Hill Advisors provides ESOP sale and transaction analysis and execution all the way to closing.