Bill Roark remembers the rug being pulled out from under him, in 1999, when his employer was sold to an outside buyer. Though the acquirer tried to find a job for Roark, "when all was said and done, I was on the street corner with a check and a 'good luck' goodbye," he says. "I didn't want to put anybody in that position."
That's why, when Roark co-founded Torch Technologies in 2002, he knew that his eventual exit strategy would be to sell the company to his employees. Roark established an employee stock ownership plan (ESOP), in which an independent trust is established to buy the owner's stock and hold it for employees until they retire or leave. By 2011, the company's 1,000 employees owned 100 percent of the company, and in December 2018 Roark stepped down as CEO. "I can live the life I want, and this organization can live on," he says. "That's more important than squeezing every possible penny out of a sale."
Selling to employees can also minimize presale prep (the arduous work that goes into making a business more attractive for would-be buyers), and it allows for a gradual transition, says Dyanne Ross-Hanson, founder of Exit Planning Strategies in St. Paul. Founders also say that selling to the entire staff can fuel greater loyalty and productivity and seed an owner's mindset among the rank and file.
How big is the business?
Setting up an ESOP is no small (or cheap) endeavor: You'll need to hire a valuation expert or appraiser, an ESOP attorney, a trustee, and someone to administer the trust. When William Flynn, founder of branding studio Franklin Street in Richmond, Virginia, established an ESOP for his 20 employees, it took about a year and cost $45,000--a bargain compared with the $100,000 he expected to spend, "because the same firm that was managing our 401(k) also happened to have expertise in setting up ESOPs," he says.
Roughly half of ESOPs are set up at companies with 100 or fewer employee participants, according to the NCEO. Still, shouldering the cost of setting up a plan tends to work best when it's spread across a relatively large payroll base, says Ross-Hanson. Larger companies may also have easier access to financing, which is important because many companies' ESOP trusts borrow funds to buy the owner's shares. (Repaying the loan is tax-deductible.) "If the business can't support the additional debt, selling to employees may be a nonstarter," says Ray Croff, CEO of Mobius Financial Advisors and an exit-plan specialist for entrepreneurs.
Are you in a rush?
An outright sale is almost certainly speedier--regardless of whether the ESOP is funded through company contributions or a third-party loan. But according to Ronald Gilbert, co-founder of ESOP Services, a consulting firm for privately held companies, "it tends to work best to phase ESOP ownership in over a five- to 10-year period."
The slower pace does come with benefits, says Ross-Hanson, including the ability to control the timing (and tax implications) of the sale. And just because the transition may be years--or even a full decade--in the making, it doesn't mean you won't see cash before then. Gilbert's firm regularly handles ESOP transactions in which the founder(s), five or 10 years from a final exit, sells up to 49 percent of the company into an ESOP. Only when that debt block is paid off, and the founder wants to completely move on, might he or she sell the remaining 51 percent.
Who will take your seat?
Selling to your employees doesn't mean turning every C-suite decision into an all-hands vote. There are specific times when voting is required (such as selling the company), but otherwise running the business is up to the management team. "You have to ask: Can the business function without you? Who's going to fill which roles once you're gone--and are they qualified?" says Croff. If you don't have the right people on staff now, start recruiting them long before you're headed out the door for good.
But founders who have embraced ESOPs do appreciate the increased stakes everyone feels in their companies' success. At Franklin Street, "we get a lot more feedback on how to make the business stronger," says Flynn. "It's a huge advantage over our competitors. When you interact with anyone at Franklin Street, you're interacting with an owner of the company."