I saw employee ownership as a logical outcome of a commitment to financial justice – to help build a more fair and inclusive society. This is not to disparage weekend volunteerism or charitable giving. But as we spend a good deal of our lives at work, how we work and who we work for matters.
In other posts, I have described my reasoning for converting the company I love (and once was the sole owner) to employee ownership.
My purpose today is to cover the next most common question I get: “why did we opt for an Employee Ownership Trust (EOT) as our model of ownership rather than an Employee Stock Ownership Plan (ESOP)?”
Quick Primer on Employee Ownership Models
Employee ownership comes in many forms. Broadly, the idea is that the employees of a company have a direct financial interest in the company. This interest could be formalized in stock holdings such as with an ESOP, a profit-sharing, or a host of other benefits. It may also involve some level of oversight or governance for the employees. The share of that interest can be as a minority, majority or full ownership of the enterprise.
The National Center for Employee Ownership is a great resource for all things employee ownership.
Millions of people own some stock in the companies they work at, but for our purposes, we did not want to dilute the idea of ownership to that extent, and we had no designs on equity being held outside the company. Technically, there is “ownership” here, but we saw ourselves going steps further than it being a purely financial transaction.
Our Company, Industry + Profession
We deliver technology consulting services for mission-driven organizations. It is an incredibly dynamic environment to make a living. Since I entered the field in 2007, I have gained expertise in more than a dozen applications and had to learn three entirely distinct technology platforms. In our profession, every day is new and every year requires reinvention.
The business environment is also constantly in motion. Firms are constantly being acquired either by competitors or private equity firms. The dreaded “Monday Morning Surprise,” where you learn that you now work for a new company, is a feature most of us will experience over the course of our careers.
Acquisition is not necessarily a bad thing. The hard part is the “surprise” – or lack of agency most of us feel at that moment. What if the acquiring party does not share the values of our firm? How will this impact our day-to-day work? How will the company pay for the acquisition and how might that affect the approach to service delivery, customers, and profit-maximizing behavior? Who will ultimately benefit from the acquisition? And, will we still have a job?
The reality is that the technology services industry is incredibly dynamic. There’s a lively spirit of entrepreneurship that constantly brings new firms into the market. Private equity firms continue to acquire firms, drive market share, build new entities, and then sell it. Every year firms fail either due to competitive threats, failure to innovate fast enough, lack of access to capital, or some combination of these and other factors.
It was in this environment that we contemplated employee ownership. We sought to preserve and improve our workplace culture and values and have shared agency in larger decisions such as acquisition. We also wanted to share in the rewards of the work consistent with the dynamic sector we work in. But we had to find a way to do all of this that would also make us a stronger, more resilient company.
Why not an ESOP?
I spent the better part of five years planning for our company to become an ESOP. Within an ESOP, the employees earn equity in the form of stock. When an employee-owner departs the company buys back their stock – thereby divesting the equity they had accumulated. An ESOP can preserve the mission of a firm and would enable the type of governance/oversight we had envisioned. It could also be calibrated in such a way as to preserve the mission and culture of the firm.
But we ran into quite a few challenges with the model.
The first was the cost. We received one-time conversion costs ranging from $150,000 – $300,000. We also began to understand the annual compliance costs would be significant – anywhere from $50,000 – $150,000. An ESOP operates much like a 401K and is therefore regulated similarly – and that regulation and compliance cost would be significant. But as this was intended to be a long-term initiative cost, in of itself, was not an insurmountable obstacle.
The second was the reward-structure. The upfront and annual costs were going to reduce the overall profitability of the firm for some years and therefore reduce near-term profit-sharing. It also became clear that the gradual accumulation of stock felt more like a 401K than a tangible benefit. We already had a 401K plan and employer-match. In short, the sharing in the success of the firm felt distant and intangible – and a bit redundant.
The third was the impact on our business. Cash-flow is a key concern of every small business. Meeting the repayment obligations of departing employees would need to be accounted for as we would constantly be repurchasing stock as people left. A related challenge is the reverse-incentive in that the only way to discharge this equity was to leave. Creating an incentive for someone to leave felt like the opposite of what we wanted for the health of our company.
We also saw a mismatch in what the team was looking for compared to what an ESOP would provide. Our annual all-staff survey reflected a desire to share in near-term benefits (e.g. profit-sharing) and some agency over the disposition of the firm but did not align well with the 401k-like structure an ESOP provides.
A post for another day may dig deeper into the “ownership interest” in employee ownership. For now, I will just say the professionals I spoke to advocating the ESOP model did not provide a case that resonated with my life circumstances. I was not looking for a tax advantage. I did not identify as an aging boomer looking to retire any time soon.
Suffice to say, the reasons not to become an ESOP were quickly outstripping the reasons to become one.
Why (and Why Not) an EOT?
It is difficult to walk away from anything you pour time and energy into. My research, consultations, and plans around transforming our company into an ESOP were no different. But it became evident that this was not right for our workforce, our company or my own intentions as the owner.
I (and I believe our staff) wanted more agency over the biggest decisions before the firm. We recognized the volatility of the market and, while we are not an aggressively profit-seeking venture, wanted to share in the rewards in the near-term. We wanted to preserve the values and culture of the firm. We wanted this all to make us a better company and better positioned to thrive in a competitive market.
We began to explore the EOT model. It is the most common form of employee ownership in the UK. But as we do business primarily in the US, I was concerned about novelty. We wanted consistency and stability at the core of our company not to be part of an experiment. So, we embarked down this path with caution as we considered joining the dozens (not thousands) of EOTs in the United States.
The first obstacles we bumped into with an ESOP were largely absent. There would be an upfront cost (in the tens of thousands of dollars) and an annual cost (about ten thousand dollars), but the conversion services were not going to hamstring the company on day 1. And by not being grouped in with 401Ks, the regulatory burden was significantly less.
The reward structure would be what we made of it. We saw an opportunity to codify our bonus structure into a formal profit-sharing plan. Making it clearer and more predictable, we expected, would also make it feel more meaningful. The shares are held by the trust on behalf of the employee-owners, so there is not a repayment burden – just a directive to operate to the benefit of our employee-owners.
The business could largely run as it had previously with an organization chart, management structure, and job descriptions. The major change was the creation of a Board of Directors. Our board would include employees, provide oversight of the CEO, and generally ensured continuity of the enterprise. I felt strongly that this change made us a better and more competitive company as it would ensure our broader strategy connected back to those that had a hand in executing the work day-to-day. The board also provided an opportunity to bring outside advisors in.
We also found in the trust a clearer mechanism to codify our values. We wrote into the trust documents our mission and purpose. And the employee ownership plan would create mechanisms that ensured there was no “Monday Morning Surprise,” as larger issues needed consultation of the board as well as the employee-owners. The board would later sanction our becoming a Certified B Corp– further defining how we would conduct our business.
In short, we found a way to create a more financially equitable corporation as an EOT. I believe it makes us more competitive as we can offer benefits to prospective employees few others can. Our team remains deeply engaged in its work and that is to the great benefit of the clients we support. We may ultimately decide acquisition is the path we want to take, but that is a decision we will make together and the proceeds of such a transaction will be shared among us.
Parting Thought
My goal in this post is not to disparage any form of employee ownership. We value the advice we received throughout this process from services providers, nonprofits, and financial and legal professionals.
We simply found a model that helps us be more fully what we are – a mission-driven, social enterprise.