How One Company Persevered & Rewarded Employees
by Ken Dillon, president, D&D Roofing & Sheet Metal
How is it possible to provide an attractive stock liquidation for shareholders and a serious improvement to employee productivity and pride of ownership? Current shareholders should consider an Employee Stock Ownership Plan (ESOP). When it came time for our two shareholders to explore options for retirement, there was a lot at stake. It was paramount that the company persevere, and that current employees have the opportunity to continue their employment, hopefully until retirement. Selling any company is inherently difficult, but roofing companies are more of a challenge. Roofing businesses generally have limited cash reserves, some with questionable receivables and highly depreciated equipment.
Our shareholders, one active and one absentee, considered multiple alternatives. Outright sales, either stock or assets, are few and far between. At the time in the late 1990s, consolidations or roll-ups were prevalent. The owners pursued and entertained several different groups. Most offers were cash and substantial stock options with long-term employment requirements for the owners, and no firm guarantees for existing managers and field personnel. We continued to explore different options from mergers, outright sales, or further acquisitions.
At an industry convention recently, a workshop caught my attention. It was presented by a group that initiates and administers ESOP’s. In an ESOP, shareholders receive fair market-based returns for their stock. The stock is then held in a trust, and earned by the employees, based on longevity with the company. This in turn fosters an environment where the employees show improved performance and significant pride of ownership. We encourage all our employee-owners to consider themselves stockholders in their company. We go as far as telling them when someone asks to speak to the owner, they reply, “You already are speaking with one.” It is shown in multiple studies that ESOP companies are substantially more profitable than equivalent non-ESOP companies. We believe that it is due to their pride in ownership.
It is important to note that control of the company does not change. If the current shareholders are willing to accept fiduciary responsibility, they may elect themselves as trustees to the ESOP and thereby vote all the shares of the ESOP. The trust and plan are controlled by the trustees. Because participating employees hold their shares in the ESOP trust, not in company shares, they only can vote for mergers, sales, and liquidation. All non-union employees are eligible to be included and can enter the plan after one year of employment, with a vesting program of generally 0-5 years.
The purchase may be leveraged, partially leveraged, or internally funded through excess company funds. The purchase can be any one of the above or a combination thereof. In any case, borrowed bank funds and/or stockholder notes must be recorded as a liability on the balance sheet. This could affect the company’s borrowing ability and bonding capacities. The trust will need to employ administrators to calculate employee shares and buy-backs. They will also need to maintain a qualified firm to perform the regulated valuations. An ESOP attorney will aid in the drafting and administrating of the trust plan.
The company must maintain adequate funds to buy back stock when employees leave or retire. This requirement has been the most difficult part for many ESOP companies, as the company is required to essentially buy back its own self year after year. Buy-backs may be partially or completely termed, as authorized by the plan. In addition, there can be substantial tax advantages and exemptions for ESOP’s that vary, depending whether the company has elected Chapter C or S status.
ESOP’s are complicated and expensive to maintain, but can provide shareholders a viable means to divest their interest in their companies. The tax incentives for ESOP corporations are tax-free rollovers for C-elections and tax exemptions for S-elections. These incentives were established by Congress in 1974 and it is believed that the intent was to encourage shareholders to share company stock with all employees. The benefits to the employees, encouraging a community of employee-owners, can be very beneficial to the company’s overall financial success. The shareholders are pleased overall with the establishment of our ESOP trust and our employees are thrilled to become owners.