Characteristics of an ESOP for an Owner's Exit Route
As an entrepreneur who has spent years working to grow a privately held business, you are left with many questions about transitioning to the next stage of your life. The biggest question usually is, "what is the most efficient way for me to sell my business?" Since the increase in capital gains taxes and surge of baby boomers retiring, the use of Employee Stock Ownership Plans as a monetization strategy has been a growing trend.
An Employee Stock Ownership Plan (ESOP) is a flexible, tax efficient exit strategy that offers a variety of advantages to successful business owners. ESOPs provide a unique way for business owners to sell a portion or all of their stock on a tax-advantaged basis, while simultaneously rewarding loyal employees. In certain cases, with the right structure, the sellers can avoid the capital gains taxes from the sale. After a transaction, if so desired, the selling owner has the ability to retain control of the company. The company can also operate on a tax-advantaged basis with the right structure.
When considering an ESOP, it is important to understand what features make up a good candidate. When having this conversation with clients and prospects, we like to break this down into quantitative and qualitative characteristics.
What makes a good ESOP candidate?
Quantitative characteristics:
· The company must have positive cash flow and the ability to take on additional debt. An ESOP is a leveraged buy-out and you need cash to repay the debt associated with the transaction.
· The company should have at least 20 employees
· The enterprise value of the business should be greater than $5 million
Qualitative characteristics:
· The selling shareholder(s) should be prepared to stay on with the business for some amount of time to help with the overall transition
· There should be a strong management team in place to help take over and run the business after the selling shareholder(s) leave
In conclusion, when used effectively, an ESOP is a powerful, flexible, tax and business succession tool for privately held companies. We would welcome the opportunity to discuss ESOPs and the pros and cons with you or your clients. Please call us at 202-585-5358. Sincerely - Keith Apton, Managing Director-Wealth Management, UBS Financial Services.