Friends,
With all the chatter we’re hearing from clients regarding mergers and acquisitions, we would like to discuss several options for a successful business exit or transition. This week, we’ll focus on two options you have when deciding on the structure of your business sale: an employee stock ownership plan (ESOP) and selling to a strategic buyer.
The ESOP is technically an employee benefit plan that gives owners an opportunity for a profitable transition. It has certain tax benefits that may appeal to those looking to facilitate succession planning in a closely held business.
Some notable benefits of an ESOP include the following:
- Structural Flexibility: Facilitates the transition of ownership and creates a liquidity event for the owners that can be structured to accommodate different forms of financing
- Direction: Aligns employees’ interest with those of the shareholder (as the employee owns shares themselves)
- Tax Implications: Acts as a Qualified Plan
- Contributions are tax-deductible to the company
- The ESOP is a non-taxable entity
- 100% ESOP-owned S Corporations generally do not pay tax
- Employee Benefit: Participants can potentially rollover distributions to an IRA
Things to know about an ESOP:
- Timing of Payments: Payments are typically over time as opposed to a one-time liquidity event
- Upfront Cost: Setup costs can be substantial
- Future Ownership: Dilution can occur with newly issued shares
- Limitations: Cannot be used in partnerships
A strategic buyer typically has a business in the same or similar industry interested in vertical or horizontal (geographic, etc.) expansion and utilizing synergies created by their purchase or merger. Strategic acquisition companies look for targets that can add new technology, expand a service line, or help them grow through their process or workforce capabilities.
Advantages of selling to a strategic buyer:
- Higher Valuation: Might be willing to pay a premium given the potential synergy between the two companies
- Access to Larger Funds: If the acquirer possesses the ability to issue stock as a part of the transaction
- Long-term Vision: The strategic acquirer isn’t likely to flip the business in 3-5 years, but rather merge it into their operations for the longer term
Potential disadvantages of selling to a strategic buyer:
- Layoffs: The synergies mentioned above sometimes include cutting redundant employee positions
- Sharing Secrets: Legal precautions are taken – but the process could include sharing sensitive information with a competitor
- Legacy: The strategic company’s brand and legacy will likely overtake that of the acquired company
Please contact us if you or your clients are interested in exploring exit strategies. We’ll be happy to coordinate with various experts to compare opportunities.
Andrew