Often, growing your company is not just about making money. It’s a part of your identity. “The idea of selling to a third party and being told it’s time to play golf for the rest of your life is terrifying to many,” Bruce Lazear says. “They don’t want to be irrelevant — and being rich doesn’t make them relevant. They have friends at the country club bored to tears.”
The partner at Lazear Capital Partners can identify with that. “As someone who has had a business for 20 years, I appreciate how much it means to me at a level that’s beyond its earnings,” he says. “It’s part of my life. I enjoy the creative process of going to work. So do our clients.”
That’s where an employee stock ownership plan comes in. “With an ESOP, they can remain the CEO, even as they get their liquidity and their payments, and still be part of leading their team, growing their people and servicing their customers,” Lazear says.
However, few people truly understand the fundamentals. “If you really explain how ESOPs work to entrepreneurs, about half the time they would choose this over signing the company to a third party,” he says. Lazear, who’s firm handled 16 ESOP transactions in 2019, breaks it down for business owners.
An ESOP primer
An ESOP is an ownership transition tool that enables the owner to sell the business to a retirement plan, Lazear says. That retirement plan’s primary investment is the business stock, and employees participate in the plan with shares usually based on their relative payroll.
In his experience, virtually 100 percent of CEOs/owners remain with the company after the sale.ESOPs also enable people to sell and not have to pay income tax on the gain of the sale, he says. In addition, future earnings of the company are tax free.
These plans can work across a broad array of businesses but are typically used by:
- Consultancies, meaning the company sells time and advice.
- Companies in which the material portion of the purchase price is contingent, usually based on future earnings.
- C corporations that sell assets.
- A business where there’s not a natural buyer.
- Companies where the intellectual capital and employees are a true asset.
“Manufacturers, distribution, trucking, construction companies, consultancies like systems integrators, computer consulting firms, staffing firms — those are all ideal ESOP targets because it’s a great answer for the owners and the employees,” Lazear says. On the other hand, technology or high-growth companies that can be sold for a price that based on future earnings are not good candidates. They are worth more when they go through a sales process.