Employee ownership can be the best way to exit your business – see how the employee buyout process works.
There are many reasons a business owner might consider a sale to employees. A sale to a trade buyer might not be attractive or possible. Perhaps the vendor is not quite ready to leave the business just yet and would like some control over their own exit. In some cases, it’s important to the seller that they find a way for the business to continue operating in the local area. The owner might feel that the people who know the company best, the employees, deserve an ownership stake.
Once a business owner has made the decision that they want to sell to employees, the process is very straightforward.
The first stage is to reach an acceptable valuation for the company. The company’s accountant, or adviser, will look at the company’s past and forecast performance and evaluate the company’s assets. This will give an indication of the fair market value. If this is acceptable to the owner, the sale can proceed. However, any valuation needs to be independently verified.
There is no one model of employee ownership. The structure is very flexible and can be adapted to fit the business, the people in it, and the trading environment. The models fall broadly into three categories:
- Direct: All employees buy shares in the business, which they hold as individuals
- Indirect: An Employee Ownership Trust is used to buy the shares from the owners and the trust holds the shares on behalf of the employees
- Hybrid: This model combines collective trust ownership with a share scheme
Financing the buyout
With the direct model, employees are expected to raise the finance to buy the shares. There are ways this can be achieved with an element of salary sacrifice. Even so, it is unlikely that employees would be able to raise the full value of the company as individuals. For this reason, it is relatively rare to see the direct model of employee ownership outside of start up or smaller firms.
More usually, an Employee Ownership Trust is used to buy the majority of the shareholding from the owner. This transaction is usually financed not by the individual employees, but by the company.
The sale price is paid with a mix of company cash reserves, and an element of vendor financing. This vendor financing is often by deferred consideration, which means that the owner replaces their equity in the business with debt. This debt is repaid over an agreed timescale.
It is also possible to incorporate some external borrowing into the transaction. In this way, employees are able to own the company without any personal borrowing or liability.
Tax and the employee buyout
Legislation introduced by the Finance Act in 2014 means that a sale to an Employee Ownership Trust can be executed free of Capital Gains Tax as long as certain conditions are met. There may be other tax efficiencies that can be incorporated into the transaction. Expert advice will ensure that the process is effective and maximises available incentives.
Download the successful succession guide (PDF 697KB)
How long does an employee buyout take?
The legal elements of the business transfer process can be completed relatively quickly. A usual timescale would be between three to six months but it can be achieved more quickly. However, it’s often wiser to take time to explore the possible options to decide on the best structure for your business. It’s also a good idea to involve the management team and workforce throughout the project.
You are more likely to achieve the best possible outcome by investing appropriate time in exploration and communicating with employees and other stakeholders.
- Explore and appraise succession options
- Employee ownership feasibility study
- Employee buyout (EBO) agreed in principle
- Company valuation and tax clearance
- Set up the Employee Ownership Trust and/or share schemes
- Implement funding mechanism for share sale
- Transfer shares to the employee ownership trust
- Celebrate employee ownership
Interested in selling your company to your employees? Contact Co-operative Development Scotland.
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