Nuts and Bolts of ESOP Communication Committees

1
B.O.S.S Workshops (Business Owner Strategy
Sessions) Maximize Company Sale Value Clint
Edgington, CFA Mark Fissel, RFC
www.BeaconHillAdvisory.com
2
Employee Ownership Overview

• Roy Messing
• Ohio Employee Ownership Center
• Kent State University
• 113 McGilvrey Hall
• Kent, OH
• Beacon Hill Investment Advisory
• Columbus, Ohio
• March 18, 2010

3
Outline

• Overview of Reasons for Employee Ownership
• Management Buyout vs. Employee Buyout
• Recognizing Good Candidate Companies for Sale to
  Employees
• ESOPs vs Employee-Owned Coops
• Costs
• Provisions
• Steps for an Employee Buyout

4
Uses of Employee Ownership

• Owner Driven
• Succession Planning
• Competitiveness Strategy
• Tax Advantaged Corporate Financing
• Employee Driven
• Averting a Plant Shutdown
• Securing Job and Career

5
Reasons for Employee Ownership

• (multiple reasons possible)
• averting shutdown or major job loss 5
• ownership succession 58
• divestiture of plants divisions 11
• blocking a takeover or purchase by another
  company 6
• financing expansion of company 10
• reducing borrowing costs 15
• replacement of another benefit plan 10
• additional benefit plan 35
• philosophical commitment to employee ownership
  44
• Source Real World of Employee Ownership (2001)

6
Management Buyout vs. Employee Buyout via ESOP
or Coop

• Common Characteristics
• Buyers have small amount of funds available
• Buyers must use borrowed funds
• Assets of company used as collateral
• Future cash flows of company used to repay debt

7
Management Buyout vs. Employee Buyout via ESOP
or Coop

• Management ESOP/Coop
• Buyers Key Managers All Employees
• Tax Incentives None Several
• Sale or Gift Sale Gift

--NO! Its a Sale!
8
Recognizing Good Candidate Companies for Sale to
Employees

• Profitable business
• No family members involved in the business
• Employees see jobs as worth having and business
  as worth owning high seniority
• Owner and employees regard each other as family
• Owner has 3-7 years to implement ownership
  succession
• Partnership between owner and employees for this
  period is seen positively by both

9
Recognizing Good Candidate Companies for Sale to
Employees

• Owner willing to sell to employees
• Capable management succession team in place
• Assets available to serve as collateral
• Future cash flows are predictable
• Company has ability to handle additional debt ?
  likely it can obtain financing
• Sufficient time available to do the transaction

10
Recognizing Good Candidate Companies for Sale to
Employees

• Number of Employees
• 30 ? ESOP can usually be justified
• 20-30 ? depends on the specific situation
• lt 20 ? ESOP very difficult to justify,
• Employee-Owned Coop more
• appropriate

11
Set Up Costs

• ESOP EO Coop
• Attorney 20,000 20,000
• Valuation 8-12,000 6-10,000
• Trustee External 10-25,000 N/A
• Trustee Internal -0- N/A
• Administration -0- N/A

12
Ongoing Annual Costs

• ESOP EO Coop
• Attorney 5-10,000 5,000
• Valuation 5-8,000 -0-
• Trustee External 10-25,000 N/A
• Trustee Internal -0- N/A
• Administration 4-7,000 N/A

13
Lesson re Costs

• KISS
• Simple Plan ? Lower Costs
• Complex Plan ? Higher Costs
• Coops are less expensive than ESOPs
• ? Coops are preferred for companies with lt 20
  employees

14
ESOP vs. Coop

• ESOP EO Coop
• Protected by ERISA Yes No
• Capital Gain Tax Deferral
• Available to Seller for Sale
• to Employees (1042 Rollover) Yes Yes
• Transaction Valuation Required Yes Yes
• Annual Valuation Required Yes No

15
ESOP vs. Coop

• ESOP EO Coop
• 1 Vote 1 Share 1 Person
• Voting on Normal Issues Trustee, Direct
• Direct is optional
• Voting on Major Issues Direct Direct
• Board Selection/Election Many Majority must be
• methods are elected by
• acceptable members

16
ESOP vs. Coop

• ESOP EO Coop
• Employee Payment Not usually Yes
• Membership Fee -0- 300-30,000
• Membership Optional? Automatic if eligible Yes,
  not required
• Normal Payment of While employed,
• Ownership Benefit After Termination 8-15 Year
  Cycle
• Payment to Employee
• Valued at Fair Market Value Book Value

17
ESOP vs. Coop

• Ownership of lt 100 of company
• ESOP Any ownership is viable long-term
• Coop Only 100 ownership is viable long-term
• Company is either a coop or its not cant be a
  partial coop
• Coop HOWEVER, lt 100 ownership is acceptable
  during transition period of Coop being in process
  of purchasing 100

18
ESOP Tax Incentive for Seller

• Sale to Management
• or Outside Buyer
• Proceeds 1,000,000
• Capital Gain 1,000,000
• Capital Gain
• Tax _at_ 15 150,000
• Net to Seller 850,000

• Sale to Employees
• through ESOP
• 1,000,000
• 1,000,000
• -0-
• 1,000,000

19
ESOP Tax Incentive for Company

• Sale to Employees
• through ESOP
• 1,000,000
• 1,000,000
• Yes
• 340,000
• 660,000

• Sale to Management
• or Outside Buyer
• ESOP Loan 1,000,000
• Principal Repayment 1,000,000
• Tax Deductible? No
• Tax Deduction _at_ 34 -0-
• Net Loan Cost 1,000,000

20
Why Sell to an ESOP?
Sale to Management or Outside Buyer Selling
Price 1,000,000 Tax Savings
Capital Gains Tax -0- Principal
Deduction -0- Total Tax Savings
-0-
Sale to Employees through ESOP 1,000,000 150,000
340,000 490,000
21
Transaction Reality

• The tax incentives available to an ESOP and
  Employee-Owned Coop often make the transaction
  doable that without the tax incentives is not
  doable.

22
Time Required

• Retiring Owners may percolate the idea for
  years before deciding to implement the Succession
  Plan
• Typical time required to implement
• ESOP 6-9 months
• Coop 4-6 months
• Quickest time seen
• ESOP 10 weeks
• Coop 4 months (limited experience)

23
Steps for an Employee Buyout

• Educate seller key employees about ESOPs and/or
  Employee-Owned Coops
• Alert parties, especially seller, to fiduciary
  responsibility
• Obtain ballpark estimate valuation of business
• No sense continuing if valuation is unacceptable
  to selling owner
• Establish buyout committee
• Conduct preliminary feasibility study
• Educate employees about buyouts

24
Steps for an Employee Buyout (contd)

• Prepare business plan
• Obtain final business valuation for transaction
• Negotiate sales agreement with seller
• Develop approve official ESOP or Coop Plan
  documents
• Arrange financing
• Close deal celebrate!

25
Employee Ownership Summary

• Significant tax advantages
• Flexibility
• Employee Ownership Ownership Culture linked to
  improved company performance
• Successful succession planning
• Not suitable for all circumstances

26
Contact Information

• Roy Messing
• rmessin2_at_kent.edu
• 330-672-0333
• Ohio Employee Ownership Center
• Kent State University
• 113 McGilvrey Hall
• Kent, OH 44242
• www.oeockent.org

27
Our Clients outperformed in Good times and Bad!
www.BeaconHillAdvisory.com
28
(No Transcript)