Building Employee Loyalty with ESOPs

EPISODE 77: Jennie Muniz, a Partner at DHG, gives listeners a background on Employee Stock Ownership Plans (ESOP) and some of the benefits that they can deliver.

Transcript

Introduction

[00:00:08] JL: Welcome to today’s edition of DHG’s GrowthCast. I’m your host, John Locke. At DHG, our strength relies on our technical knowledge, our industry intelligence and our future focus. We understand business needs and are laser-focused on company goals. In this ever-changing world, DHG’s GrowthCast provides insights and thought-provoking conversations on topics and trends that address growth opportunities and challenges in the current and future marketplace.

Thanks for joining us as we discuss tomorrow's needs today.

[00:00:41] ANNOUNCER: The views and concepts expressed by today's panelists are their own and not those of Dixon Hughes Goodman LLP. Always consult the advice of your legal and financial professional before taking any action.

Interview

[00:00:57] JL: Welcome to GrowthCast and today’s topic is ESOP. Our guest today is Jennie Muniz, a partner in DHGs assurance practice. Welcome to GrowthCast, Jennie.

[00:01:08] JM: Thanks for having me.

[00:01:10] JL: Well, I know many of our listeners are familiar with the term ESOP, but would you officially define it for us?

[00:01:17] JM: Definitely, ESOP stands for Employee Stock Ownership Plan, and they're a form of an employee benefit plan.

[00:01:24] JL: Okay, sounds pretty simple. How do they work?

[00:01:27] JL: Typically, a portion of the company shares are purchased for employees. Those employees can earn those over a period of time. They are governed by a plan document and they're held by a trust.

[00:01:40] JL: Why are we talking about ESOPs in today's environment?

[00:01:44] JM: ESOPs are gaining popularity, especially among family businesses, for most business owners, they may not have heirs that want to take over the business. So it's another way to transition to the next generation instead of having a third party sale. ESOPs offer business owners and alternative, rather and still giving them that control of how they want it to flow.

[00:02:10] JL: Well, let's talk about advantages. What are some of them for the ESOP?

[00:02:15] JM: First there's increased productivity, most ESOPs we work with have strong employee loyalty, but low 401k participation, because an ESOP gives the employees a share of the company, they will directly benefit from that success and will feel a sense of ownership. This can lead to the increased productivity and overall performance improvement for companies with employee stock plans. When employees have a financial stake their overall morale and trust in the company may increase.

[00:02:45] JL: Well, I'll tell you what that sounds a win a huge win for the employee. What about the business owner themselves, especially as they age out a little?

[00:02:57] JM: Yeah. Secondly, as I mentioned above, it's an alternative exit strategy for owners. Traditionally, family businesses passed down to heirs. Well, we're not seeing as much of that anymore. In setting up an ESOP owners will not have to sell to a third party. They can trust that it will be owned by their employees. Their information can also remain private and not shared with prospective buyers. Owners who choose to remain involved, they can do so for a period of time. They don't have to once it transfers to the ESOP, they don't have to immediately retire, get out and they can see and still manage that business for, we usually we see three to five years.

[00:03:38] JL: I'm sure there's some great tax advantages or we probably wouldn't be talking a lot about it at this time of year.

[00:03:44] JM: Definitely. ESOP structures allows for multiple tax advantages. C corpse can contribute to ESOP that are tax deductible and for S corpse, a portion owned by the ESOP is tax exempt. Employees are not taxed on the contributions received rather they are taxed when they take those out at retirement. Additionally, stock contributions are tax deductible up to 25% of payroll as our contributions used to repay the ESOP loan.

[00:04:17] JL: We've talked a lot about the issues that are prevailing in industry today with talent. Talk to us a little bit about how this can be a strategy for a family owned business, especially to attract and retain better talent in this age of, I guess we would say war on talent, right?

[00:04:38] JM: Definitely. Employee retention is not what it used to be. People would work for companies for many years and may get a pension. This is a different way to look at it. Employees, typically a trust, and a plan is set up so that employees earn over time, so there could be a vesting structure where the employees will earn their shares over five or six years. This enhances the employee retention, rather than having that turnover annually or every few years. That vesting can be set by the company when they set up the plan and it's governed by that plan document, as I mentioned, and having the opportunity to have a share in the company can be a very attractive bonus for top talent seeking new job alternatives, as well as providing a secure retirement plan.

[00:05:26] JL: I'm sure there's a lot of paperwork that has to take place to get something this set up. Talk to us about all the changes that need to a business owner needs to evaluate in the cost benefit analysis of that part of the equation.

[00:05:45] JM: When an owner steps back from their business with an ESOP employees, they won't have to worry about business disruption. Typically, when you're selling to a third party or maybe a private equity, there is a change in management. So with an ESOP sale, there really is no change in management, that governance structure stays in place, and therefore your vendor and your suppliers are not disrupted. This allows the company to continue those relationships with long term distributors and clients will also keeping that same management structure on board, having the consistency of employee ownership without the change, typically associated with new ownership enhances that employee loyalty to the company.

[00:06:27] JL: This sounds such a win, win, Jennie. In what instances would it not be appropriate for an ESOP? When should a business really step back away and maybe think about, “Hey, maybe not now, but later.” What would be some of the circumstances?

[00:06:46] JM: Yeah, they're definitely better industries that fit into ESOP plans rather than non ESOP plans. Typically, we've seen construction based companies work really well, because they have, as I mentioned, loyal employees that typically don't participate in a 401k Traditional Plan. As well, as I've seen banking industries involved in ESOPs. The ones that may not be really suited for Aesop's is obviously smaller companies. If you only have a handful of employees, that may not work out well, as well as if your business isn't growing. The traditional Aesop's are growing, thriving businesses that want to continue for years to come and have that employees continue to foster that company growth.

[00:07:40] JL: That creates a lot of loyalty, doesn't it over the years with these specific companies. I can see, especially in family businesses and construction, that that being a huge lawyer for talent and creating a great culture when people have that ownership is pretty cool. Let's just as we wrap up today, when should a business really consider jumping into the ESOP? What are maybe a couple of first steps that they should consider taking?

[00:08:12] JM: Yeah, definitely research, research, research, somebody who should not just jump in feet first and say they want to be an ESOP. Consulting with a lawyer, as well as your CPA to make sure it's the right fit. Maybe doing a feasibility study, which will show if it will be a good fit for your company, as well as looking into other providers, because you'll need a record keeper, maybe an external trustee to look over after the trust, as well as thinking about your cash flow and your future cash flows and making sure you have enough funds to look at the repurchase obligation which everybody might not think of in the beginning. That's the fun – stock that gets into the plan. Eventually people will start to take distributions. So thinking about that cash outlay is very important and how it will affect your business.

[00:09:06] JL: Well, this is great, Jennie. Thank you for spending time with us today and sharing your insights on ESOPs for our listeners. Thanks for being with us.

[00:09:14] JM: Thank you.

End of Interview

[00:09:16] JL: Thank you for listening today's episode of GrowthCast with DHG partner Jennie Muniz. We hope that you have a better understanding of ESOPs and the advantages of offering this type of benefit plan to your employees and your growing business. I'm your host, John Locke and I look forward to reconnecting with you soon on another episode of DHG GrowthCast  and until then, be sure to rate review and subscribe to DHG GrowthCast on Apple podcasts, Spotify or Podbean.

End of Episode
About DHG's GrowthCast

At DHG, our strength lies in our technical knowledge, our industry intelligence and our future focus. We understand business needs and are laser focused on company goals. In this ever-changing world, DHG’s Growthcast, provides insights and thought -provoking conversations on topics and trends that address growth opportunities and challenges in the current and future marketplace. Join us in discussing tomorrow’s needs today.

Disclaimer: The views and concepts expressed by today’s guests are their own and not those of Dixon Hughes Goodman LLP. Always consult with your legal and financial professional before taking any action.

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