Is employee ownership a viable alternative to family succession?

A look at why a transition to employee ownership may be preferable to a third-party sale, if family succession isn't a viable option.

If succession planning for your family business no longer looks capable of keeping the business in the family, most people would automatically consider that their only option (other than to close down the business) is to sell to a third-party.

This is often not the most desirable of outcomes, as it can usually involve a competitor or a corporate investor acquiring the shares in the company, or the assets of the business, and merging it into their wider structure.  This can result in a loss of the ethos and culture of the company, together with a loss of long-term staff as a result of the merging of the two businesses.  We have also seen anecdotal evidence to show that the process of selling to a commercial third-party can often be fraught, and sometimes unpleasant – and does not necessarily protect the long-term future of the business.

Owners who are willing to perhaps realise the value they have built up in the business over a longer period, or who are most focussed on protecting the culture and ethos of the business, and the long-term success of the business and security for the employees, can consider an employee ownership transition instead.

The move to employee ownership sees the employees take on ownership of the company.  There are three main structures used, which are:

1. 100% trust ownership;

2. direct ownership of shares by individual employees; and

3. a hybrid model with a trust holding the majority, and some direct share ownership by specific employees.

The most common form is the 100% owned trust structure, as this is the simplest and cheapest to set up and, if it relates to an existing business where the owners are retiring or setting up their succession plan, has capital gains tax advantages for the outgoing owners.

We will not go into detail of the differences between these structures here, but you can find more information on these on our website here, and our previous articles here and here.

There are advantages for the outgoing founder in that, should certain conditions be met, then no capital gains tax is payable on the sale of the shares to the employee ownership trust.  Employees are also able to see a benefit as an income tax-free bonus (although do note that NI contributions remain payable) is able to be paid by the operating company to employees in each financial year (up to £3,600 per annum) if the employee ownership trust holds at least 51% of its shares.

Following a transition to employee-ownership a trading company will continue to be run by the directors and its senior management.  There may be a need to recruit new managers before the change if the outgoing owner is no longer wanting to be a part of the business.  In some cases some of the owners may stay on for a short period to help with the transition or even continue as before but with more accountability to the employees).  Managers should be committed to greater transparency and will hopefully obtain greater engagement from employees who become more invested in the success of the business.  This is what allows employee owned businesses to continue to grow in strength, whilst maintaining their culture and rewarding employees, after the founder has moved on.

The Employee Ownership Association, together with their research partner Ownership at Work, has conducted research over the course of the recent pandemic and this has provided evidence to show that employee owned businesses may be more resilient than other companies, as it " shows a business model uniquely equipped to cope with the challenges of the pandemic – companies that are resilient, agile and capable of rapid change; thanks to shared ownership and reward, high levels of employee commitment, and deep roots in their communities ".