An ESOP (Employee Stock Ownership Plan) is an attractive way to access the personal wealth currently trapped in the shares of Florida’s privately owned businesses and share the wealth with the employees that helped create that business.

What is an ESOP?

Technically, it’s a qualified, defined contribution employee benefit plan that invests primarily in the stock of the employer. However, practically, it’s simply a tax advantaged way to sell a business.

Why sell to an ESOP?

  1. It is the most flexible liquidity strategy available to a business owner, allowing them to specify and control the most important issues in a transaction.
  2. There are compelling tax advantages both to the company and the selling shareholder.
  3. The owner can retain operational control of the business and/or transition management at the time and pace desired.
  4. The ownership that the employees gain is a gift, created by the tax savings.

What are the tax incentives?

  1. Shareholder  Most third party sales are structured as asset purchases, creating an effective blended tax rate to the seller of roughly 25%. An ESOP sale is always a stock sale, generating gains taxed at 15% for the entire purchase price. In some instances, the shareholder may be able to defer even the 15% capital gains tax by reinvesting proceeds in US stocks and bonds.
  2. Company  Going forward the company can shield significant portions, if not all, of its earnings from taxes, increasing the debt service capacity of the company by up to 37.5%.

How are shares distributed to employees?

  1. Allocation  Eligible employees are allocated shares over a period of years. Typically, the number of shares each employee receives is a function of their payroll. If the company’s payroll is $10,000,000 and an employee earns $100,000, they will receive 1% of the shares allocated in that year.
  2. Vesting  The Pension Protection Act of 2006 revised vesting to provide for three year cliff vesting and six year graded vesting which must start in year 2 and vest not less than 20% per year until 100% is reached in year 6.

How are employees paid out?

  1. Retirement. The shares in the retiring employee’s account are put to the company. The value can be paid out over a time frame of up to six years.
  2. Before retirement. The company can provide for up to a five year pause before the six year payout begins. This discourages employees from leaving the company prematurely just to access the balances in their accounts.

How is the value of the company determined?The laws require that an ESOP pay no more than “adequate consideration” for the shares, and that a good faith effort be made to determine “fair market value.” An independent valuation expert must consider the following three methods:

    1. Income approach – including discounted cash flow methods, and/or capitalized earnings methods.
    2. Market approach – including guideline company method of comparing similar publicly traded companies and/or market transactions to the subject company.
    3. Asset approach – generally appropriate for asset intensive companies.

ESOPs are complex financial transactions which PCE custom tailors to fit the specific needs of each client. PCE also offers a “Dual Track” approach which, in addition to the ESOP process, includes a sales strategy to both financial and strategic buyers.

If you have comments or questions about this article, or would like more information on this subject matter, please contact us.
Will Stewart

Investment Banking | ESOP
Orlando Office

407-621-2100 (main)
407-621-2124 (direct)
407-621-2199 (fax)