ESOPs and The Family Enterprise: The Risks and Rewards
The aging of baby boomers presents a unique challenge. The transitioning of their business ownership finally morphs from a vague hypothetical discussion to a reality. Though we typically assume that the business will pass from one generation to the next, this is not always what is in the best interests of either the family or the business.
One increasingly popular option is an Employee Stock Ownership Plan (ESOP). Like all options, it has its pros and cons and its rewards and risks, including:
Pros/rewards:
- Allows the family stakeholders to maintain control
- Provides principals with liquidity
- Can reduce taxes; stock sold to an ESOP is taxed at rate of capital gains
- Presents an incentive-based retirement plan
- Presents employees with an equity stake
- ESOPS create an employee incentive relating to working harder, increased efficiency and productivity
- Employee vesting typically occurs over time
- Can often be implemented fairly rapidly
- Still allows for a sale to a third party
Cons/risks:
- Placement of stock in the ESOP dilutes owners’ equity stake
- The family’s majority ownership carries the burden of responsibility for any damage to the value of employee minority shares
- Minority shareholder claims can be onerous
- Full access to financial information is required
- Minority shareholders may participate in shareholder meetings
- Complex transaction
- Significant regulatory compliance issues
- May require seller financing
- Ongoing administrative functions and costs; valuation must be performed annually
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Do you currently offer an ESOP within your family business? What are your perceived benefits or risks of a program like this? We invite you to share your thoughts in the comments below.
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This article was adapted in part from: http://www.ehow.com/about_6469099_esop-pros-cons.html and http://www.xpxglobal.com/2011/03/14/the-pros-and-cons-of-esops-weighing-your-options