The Trustees’ Role

Selling a business through an Employee Ownership Trust (EOT) is an excellent exit strategy for those shareholders who want to preserve the legacy of the company while realising wealth at 0% Capital Gains Tax. It can also be a soft exit for sellers who gradually relinquish control.

A few critical elements of EOT are succession, the post-EOT business model, the Trustees’ role, developing management alignment following the sale, the transition and expectations for gradually providing value to the sellers. All of this is done to guarantee that a proper succession is in place and that it is carried out in the future best interests of the company and its employees. Post-EOT, it will be crucial for the business and management to concentrate on its core operations and making money. An external Trust could facilitate a seamless transition without affecting the continuing business, as managing the Trust could be a distraction.

The Management

Technically, although the employees are the new stakeholders, that stake might never be realised. In order to make this transaction effective, it is crucial that they are fairly compensated and rewarded in the form of a competitive compensation plan, bonuses and other incentives. The expectations for the Trustee board need to be clearly stated in terms of the types of choices they should be involved in.

Despite the fact that the seller may retain management in EOT, the board will and should change. As a result, it is crucial to audit roles and duties and analyse competencies to identify any gaps. It may be necessary to enroll in training programmes to increase managerial skills and financial literacy.

Additional time is needed to establish the parameters of the remuneration panel. As the compensation packages become more public, it is certainly critical to increase transparency at director level.

The Board of Trustees

EOTs are controlled by trust Law, which stipulates that each Trustee must be accountable for the assets and actions of the trust on behalf of its beneficiaries, just like other forms of trusts, including charities, family trusts, and will trusts are. The employees are the only beneficiaries in the case of EOTs. The Trustees are primarily responsible for making sure an EOT is successful once it has been established.

The Board of Trustees is typically:

• An Employee Trustee (they must be nominated)
• A Professional Trustee
• An Ex-shareholder/Seller

It should be a minimum of three to avoid deadlock provisions. Their responsibility is to speak for the views and interests of the employees. This might coexist with an employee council in larger organisations (100 plus employees). Additionally, it will be their duty to see that any vendor loans (the customary way to cover the cost of the sale to the EOT and realise shareholder value) are repaid, and that this loan is paid even though it is contingent on cash flow because it is a due contract and is in best interest of the employees.

The Roles of Trustees

The Trustees business needs somebody who will conduct themselves without causing controversy; someone who can maintain alignment with all parties, while understanding that the employees are the ones the EOT is there to serve. Acting as the lynch pin, the Professional Trustee sits in the centre to make sure that neither the selling shareholders’ nor the employees’ position is overrepresented. They must present a fully independent viewpoint and uphold a balance of viewpoints. The Trustee in this role must focus on the following.

• Are the employees being engaged?
• Have the employees understood the purpose of the Trust?
• Is the performance aligned with the budget?
• Are the managers running the business mindful of the benefit of the employees?
• Is cashflow on track for both loan note gifts and employee bonus?
• The Trust will have, at least, an annual general meeting (AGM) to review the accounts and plans for the coming year and provide a decision on whether they support the annual business plan or not, as presented to them by the Board of the company.
• The Trustee Board should only be presented with items for approval on an exception basis or at the decision of the specific Trust. For example, if the business is not performing in accordance with the plan

The responsibilities and priorities will vary depending on the nature, size and structure of the business, as well as the structure of the Trust. It is, however, very clear that the Trust avoids any operational or management mandate. Its ultimate control is to ensure the business is run in the interest of the employees and to appoint the Directors if this is not being carried out.

The Trust will need to review certain spending levels for good governance and to make sure payments won’t affect the Trust’s ability to meet repayments for the vendor loan repayments. Company spending is generally left up to the Board of Directors’ discretion. Thus, the professional Trustee plays a crucial role in presiding over the Trust, controlling parties’ expectations, and clearly recording events in minutes. To mitigate risk, all Trust company directors, appointed Trustees, and trade company officers should obtain Directors and Officers Insurance. The Trustees, who should meet every three or four months depending on preference, receive reports from the managing director of the trade firm.

The Employees

The extent to which the employees are now involved in the Trust and, consequently, the business must be explained to them by the Trustees and management. This includes being aware that they do not personally own any percentage of the business (unless a hybrid model in implemented with some direct management holding).

Since there is no favoured owner, all employees labour for the mutual and equal benefit of all, regardless of share certificates. This is a crucial point because, despite what many people may believe, there is little proof that employee-owned businesses are ever sold. It is frequently preferable to inform employees that an EOT is more of a bonus and profit share play than a shareholder value play. While they are in the business, they are working for each other’s advantages rather than just for their own.

Employees Understanding the Slow Value Transfer

Some employees can believe incorrectly that the Trust is about huge bonuses or consensual management. The ability to transfer long-term value from the seller to the employees in the EOT, which normally takes 6 or 7 years or more, will depend on the company’s future success and earnings. The sellers have built value which is being realised slowly and this is incredibly generous of sellers. A trade sale would normally mean a greater initial pay out and it is important that employees understand the difference and generosity. A few crucial points:

• The debt structure that goes with a sale may be viewed negatively by management but in fact nearly all trade deals have such debt structure, it is just not as transparent to management as in the case of an EOT sale.
• The Trust’s role is to look after the investment of interest in the business, not run the business itself.  It is not for employees, nor managers to comment on the deal structure or value quantum as they are effectively benefiting for free with payments being entirely made from the company.
• For employees to have something that is of significant beneficial value to them beyond any initial bonus, all parties must recognise that it will take time. The EOT is only funded by the success of the business over time so the benefits will build as the sellers are bought out over time.

Summary

Given the Trustee role is heavily biased towards ensuring the ethos of an EOT is implemented and maintained, it is important to appoint one who is familiar with Employee Ownership. Beyond that, however, if things are not going to plan or there are growth opportunities available to the business that fall outside of the previously agreed business plan, e.g. acquisitions for growth, appointing major employees on high remuneration packages, or major organisational restructures, then the management team/Board of Directors should be consulting with the Board of Trustees on these matters.

Checks

• Are the employees being engaged?
• Have the employees understood the purpose of the Trust?
• Is the performance aligned with the budget?
• Is the Management information correct at Board and Trust level?
• Are the managers running the business mindful of the benefit of the employees?
• Is cashflow on track for both loan note gifts and employee bonus?