June 17, 2010
By Nancy Mann Jackson, contributing writer, CNNMoney.com
ESOP plans let founders cash out and employees cash in
(excerpts)
An ESOP allows a company to gradually buy out its existing owners. Typically, the company makes tax-deductible contributions to a trust set up to facilitate the employee stock-ownership plan. The trust then uses that money to buy stock from the current owners....
Why form an ESOP?
...Most owners willing to go to the trouble of implementing such a plan have the interests of their employees and the business in mind.
...making owners out of employees can be a business-building strategy.
"The company is put in a position of being able to survive and thrive in the future, so that our employees' jobs are secure and our customers continue to get the great pizza they've come to love," says Barbara Gabel, co-founder of Zachary's Chicago Pizza, which opened an ESOP seven years ago and now has sold 75% of the company to it. "Our community has a great affinity for the mom-and-pop small businesses, and they love it that a company they respect is employee owned. It enhances our hard-earned goodwill."
Making it work
For ESOP companies, all the benefits of the plan have to outweigh the hassles of implementing and maintaining it. Most work with an array of ESOP specialists, valuation experts and attorneys to determine whether a stock ownership plan is feasible and then to create one. The process can be daunting.
"Once you've begun the ESOP, everything is more complicated: company financial reports, and financial decisions," Gabel says. "Every year your company has to go through an intensive valuation to determine a current stock price. You need to educate your employee-owners about the ESOP. Because the ESOP is complicated, you have to find ways to encourage your employee-owners to want to learn about it."
The process is strictly regulated by the federal government, which sometimes changes the rules.
For instance, when Zachary's Chicago Pizza implemented its ESOP, employees were required to work there for three years before they were vested in the plan. But a few years later, the law was changed so that the company had to give stock to employees who leave after just two years. While Gabel and her husband and co-founder, Zach Zachowski, don't like the new rule, they didn't want to freeze the ESOP altogether, so they had to comply.
Even with inherent difficulties, founders of ESOP companies say it's worth it.
"Aside from the complexity and the downsides, the ESOP option does allow founders a way to achieve the ultimate success, which is to reach back and pass on their own success to the next generation," Gabel says. "Currently, our employees own about 75% of the company, and are on the brink of owning 100%. It will be with a sweet sense of joy and pride that we sit on the sidelines and watch them create their own destinies."
—See entire ESOP article on CNNMoney.com
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