The importance of Legacy in the context of Employee Share Ownership Plans

ESOP Builders, It’s your legacy.

Legacy is fundamental to what it is to be human, advises the Legacy Project. Research shows that without a sense of working to create a legacy, adults lose meaning in their life. Exploring the idea of legacy offers a glimpse not only into human relationships and building strong communities, but also the human spirit.

 “A good man leaves an inheritance to his children’s children.” Proverbs 13:22

Businesses possessing a legacy, according to Your Business Matters, have a solid foundation and effective products and processes, meaning they can stand alone, apart from the individuals who created them, and can be passed on to others when the time is right.

There are many stakeholders involved in a Company and its Employee Share Ownership Plan (ESOP). They include the original owners or Founders of the Company, the key people who helped the owners to grow the company in the initial challenging years, the employees who joined the company as it grew, the customers who remained loyal and served as a basis for new business, and the many suppliers of goods, services and capital that allowed the company to prosper; the legacy issue impacts each and every one of these stakeholders in different but important ways.

Founding Owners

It has been our experience working with Founders over the last three decades that the motivation for the Owners’ decision to implement an ESOP for their Company comes down to several reasons.

1. To continue the legacy of their company into the future. Studies have shown that the odds of maintaining a successful company going forward are 80% positive if the owner sells the company to employees. This contrasts with odds of success of 50% if sold to a third party and 10% if sold only to family members. Success is defined as still being in business five years after the sale.
2. To attract and retain valued employees to help grow the company in revenues and profits. Attracting and retaining key employees ensures innovation that supports a dynamic company and increases competitiveness. Studies have shown that ESOPs increase retention significantly versus non-ESOP companies. Attraction rates also increase as shown by the number of applicants to job postings.
3. Many owners believe that their past success is due to their employees and they want to give back to their employees, as well as create future wealth for them. Studies have shown that on average an employee in an ESOP will retire with funds worth more than twice or even three times of those in non-ESOP companies.
4. Exit planning for owners is a major issue as Baby Boomers reach retirement age. Many owners have up to 90% of their wealth tied up in company shares. For them to retire they need to sell the company. Unfortunately for small- and medium-sized companies, only 25% actually are able to sell due to factors such as lack of senior leadership, reliance on owners’ skills, or no buyers. Planning an exit over time with an ESOP gives them another route to realize a return on their main asset.

A founder of a company builds over time tremendous relationships with suppliers, financial institutions, and local community involvement. Many of our clients are leaders in contributing to a better life in their communities in religion, philanthropy, health, sports and civic pride. Selling to employees allows these relationships to continue, especially those based in the community in which they are located.

Most owners do not understand how employees can afford to buy the company from them. There are multiple methods available to help the employees buy ownership in their company. Also there are financial institutions such as the CIBC that have special departments set up to help finance acquisitions of the company through an ESOP arrangement. Another method used to transition is called the Freeze method whereby the Owner freezes the value of the company either partial or fully and that reduces the value of the company being purchased by the employees making it easier for the employee to buy in. The company then pays off the freeze value over time. It is very important that the tax issues related to the various methods of helping employees to buy in are done on a tax-effective basis.

Post-Exit Issues

Once an owner sells to a party other than the employees several conditions can arise.

Once the owner no longer has contact with the company many are dissatisfied with the sale even if they received a fair amount of cash in the deal. Studies have shown this sentiment to be as high as 75%. Further, the CFIB (Canadian Federation of Independent Business) recently found that majority of business owners desire the employees be taken care of and won’t simply sell for top dollar. This dissatisfaction generally does not occur in an ESOP transaction as the owner remains in some capacity, as a source of wisdom and guidance to the new employee owners.

Another aspect is that most owners as they age want to be active in the company but no longer 24/7 as they did when they owned a majority. They no longer have the hunger and passion that allowed them to grow the company in the past. By selling to employees, they have more free time to pursue new interests.

Many Founders find that their children, even if interested in or working for the company, do not want the challenge of operating a small- or medium-sized company. Combining their children’s interests with those of employees ensures a smoother transition to employee ownership and maintains a better chance for success for everyone.

Here then is your legacy, that the joy of employee ownership will be not only wealth creation but happiness as well.

At ESOP Builders Inc. we have worked with over 160 companies across Canada designing successful Employee Ownership Plans using our Process, honed over the last 26 years.

Now in Canada the Federal Government has added a new corporate structure, the EOT (Employee Ownership Trust), offering another way to implement your employee ownership plan and ultimately to create an Employee-Owned Company.

Like every government program the EOT has plusses and minuses. To find out more about employee ownership, ESOP and EOT, at your company contact us or visit our home page.