Employee Ownership: A Winning Succession Strategy

When you want to exit your organisation, sometimes the traditional exit strategies are just not right. Sometimes, it is all about leaving a legacy and creating a win-win-win scenario. In those cases, employee ownership can be an alternative strategy. Interestingly, employee ownership can be a part of your strategy, not the strategy. We have multiple clients who have sold, listed, raised private equity investment and passed the business onto family members, all with employee ownership as part of the succession strategy.

Our clients and employee ownership

Over 135 of our clients, including businesses looking to transition ownership to their employees, have utilised an employee ownership model, which involves transferring some, part or all of the company’s equity to a Peak Performance Trust – our version of an Employee Ownership Trust (first launched here in 2009 with one of our real estate clients), as part of their succession strategy. The Employee Ownership Trust (EOT) model is significant in this context as it facilitates business succession, protects employees, improves employee engagement and potentially enhances worker commitment by making them indirect company owners. Employee Ownership Australia is also promoting the use of employee ownership trusts as a viable model for succession. These structures have significant benefits over traditional employee share schemes as a more flexible vehicle for employee ownership.

Push to promote employee ownership through EOTs as a viable model for Aussie businesses

It is believed that EOTs will be widely adopted by businesses throughout Australia, with new structures designed to provide incentives to improve performance, profitability, and productivity, as well as a vehicle for succession and sometimes exit. 420 EOTs were established in the United Kingdom from the introduction of its 2013 models to 2018, showcasing the model’s success and popularity. Efforts to promote employee ownership in Australia have garnered support from both sides of politics.

A better business model

Employee ownership can be seen as a better business model in many ways. We have multiple examples of businesses where value has increased so much that even though the founders now own 80% and the employees 20 % (for example), the reduced ownership percentage is now far more valuable than 100% of the business was previously – this is having your cake and eating it too. Employee Share Ownership should be a win-win-win scenario where the founders, the business and the employees are all better off. When properly designed and implemented, these plans should include improved management structures and governance models that contribute to improved business value.

The different forms and degrees of employee ownership

Employee ownership can take various forms, such as Employee Stock Ownership Plans (ESOPs), worker cooperatives, options plans, performance rights plans, ESS startup plans, or broad-based equity compensation plans. It can also range from a minority stake to a majority or 100% ownership of the company. The degree and type of employee ownership may affect the workers’ level of participation, financial incentives, and governance rights. The selection of the most appropriate plan and the rules within that plan are critical to success. Education of employees is also critical – the plans we see failing to deliver have not been designed properly or have failed to educate employees properly.

How does an Employee Ownership Trust (EOT) work for the company?

While in Australia, business owners should take advantage of the guidance offered to them to begin establishing employee-owned shares in the company, Meld Studios chose to use its profits to acquire co-founding shareholder shares over the years, involving an employee trust that holds equity on behalf of employees. This approach ensures that the founder’s equity will diminish with age and that the equity held by the employee trust will increase, benefiting current and future employees through a collective ownership structure. Prof. Pendleton (widely regarded as an international expert on employee ownership) highlighted that the Employee Ownership Trust (EOT) system allows the owner to regulate the pace of withdrawals and phase out any withdrawals as desired, maximising employee benefits with a focus on generous taxation concessions and the simple yet effective structure of employee ownership model.

What are other benefits of Employee Ownership Trusts (EOTs) for workers?

Aside from bonuses linked to a share of profits and the increase in value of the equity over time, there may be other advantages for employees (beneficiaries) and company culture. Employee involvement can influence a company’s direction in some ways. The best feature of EOT is flexibility. You involve employees through employee ownership trusts, giving them access to both equity (capital value) and income (dividends) or even creating a workers’ representative for the company board, if necessary. Discussing the full benefits of EOTs, it’s important to highlight the comprehensive advantages for employees, including tax advantages and profit sharing, akin to the John Lewis model in the UK, where employees not only gain from the capital value but also receive a share of the profit each year, showcasing a tax-advantaged vehicle with a distinct legal identity and specific tax benefits for employees.

Academic Research on Employee Ownership

Based on the latest academic research on employee ownership, here are the top 15 benefits:

1. Reduced Employee Turnover: Employee ownership combined with a supportive corporate culture can reduce turnover and enhance loyalty to the firm.
2. Increased Employee Engagement: ESOPs instil a sense of ownership, motivating employees to innovate and contribute to the company’s success.
3. Alignment of Interests: ESOPs align employee and company goals for mutual success, fostering a culture of shared goals.
4. Increased Productivity: Engaged employees are more productive, improving efficiency and performance.
5. Attraction and Retention: ESOPs attract top talent and foster long-term commitment.
6. Sense of Belonging: ESOP ownership reduces turnover, enhancing employee loyalty.
7. Firm Survival: Cooperatives and ESOPs have a higher survival rate than similar companies with more common ownership models.
8. Consumer Interest: A significant percentage of consumers are more likely to buy products from employee-owned companies.
9. Price Premium: Consumers are willing to pay a price premium for products from employee-owned companies.
10. Higher Wages: Employee ownership is related to higher wages after controlling for other factors.
11. Longer Job Tenure: Employee ownership predicts longer job tenure, which is strongly predictive of household wealth.
12. Better Financial Decisions: ESOP company employees are taught business and finance fundamentals, leading to better financial decisions.
13. Sustainable Reward System: Share ownership provides a basis for sustainably sharing the financial benefits of collective efforts.
14. Improved Company Performance: Companies with ESOPs and Ownership Mindset cultures significantly outperform their non-ESOP competitors.
15. Access to Niche Markets: Employee ownership facilitates succession planning and will sustain the company culture into the future.

Benefits for Workers

• Employee ownership has been shown to increase workers’ economic security through better pay, benefits, and asset building through profit sharing, retirement savings, and shared business ownership.
• Employee-owned companies experience greater job security and stability, with fewer layoffs, higher employee retention, and greater individual control over schedules.
• Employee ownership has been linked to improved well-being and psychological safety, with many employee-owned companies having health and well-being committees in which employees participate actively.

Benefits for Businesses

• A large body of evidence demonstrates that employee ownership strengthens business performance with higher growth, productivity, and profitability.
• Employee-owned companies exhibit greater employment stability in the face of economy-wide and firm-specific shocks.
• Employee-owned firms are more likely to survive a recession and less likely to fail (bankruptcy or liquidation) or disappear because of mergers and acquisitions.

Benefits for Communities

• Employee ownership is good for communities in many ways, including job creation, the multiplier effect on the local economy, savings on government spending, civic engagement, community development, and reducing inequality.
• Employee-owned companies are inherently locally owned and circulate more money into the local economy.
• Employee ownership saves the government money, which can be invested instead in community improvements, social services, or to reduce taxes.
• There is evidence that workers in employee-owned companies are more civically engaged, with higher rates of volunteerism than the general population.

Summary

Recent studies highlight the importance of employee share schemes and employee ownership, more generally, in promoting job creation and competitive remuneration, particularly through mechanisms like Employee Ownership Trusts (EOTs). Businesses need to adopt more innovative approaches to remuneration policy, and listed companies have been using employee ownership for many years. Employee Ownership Trusts now make this kind of scheme available to stakeholders in private companies as well. These schemes foster employee ownership, offering significant benefits and tax incentives, improving employee retention, and increasing international popularity.

Next steps

Find out if your business is suitable and what the best employee ownership structure to use in your company is to attract, retain, motivate, and reward key employees, build a better business model, and solve your succession woes at the same time. We offer a free assessment and discussion on applying employee ownership to your business, the most suitable rules and terms to include in the plan to create the outcome you are looking for, and an outline of the next steps.

Contact us to arrange a free consultation with one of our advisers.