Employee Ownership Trusts (EOTs), how they work, why they are becoming more popular and the risks associated with this exit option.
Welcome back to our blog series on exit options for ambitious recruitment business owners. In this blog, we’ll explore employee ownership trusts (EOTs) as a unique exit option that empowers your team and promotes shared success. We’ll delve into what an EOT is, how they work, why they are becoming more popular and the risks associated with this exit option. By the end of this blog, you’ll have a thorough understanding of EOTs and their potential benefits for your recruitment business. Let’s begin!
Before we delve into the details, let’s clarify what we mean by “employee ownership.” It refers to businesses that are predominantly owned by their employees, often through the utilisation of an Employee Ownership Trust (EOT). An EOT is a special type of trust that allows the majority ownership of a business to be sold, with the assets held for the benefit of both current and future employees. For a more detailed explanation, we encourage you to download our comprehensive EOT guide.
The sale to an EOT follows a simple process consisting of three key steps:
Between 2020 and 2022, the employee-owned sector more than doubled in size, surpassing 1,000 employee-owned businesses. In 2022 alone, 332 new employee-owned businesses emerged, setting a new record for annual growth. So why is this exit strategy becoming so popular?
Obtaining a fair price: One of the key reasons for the popularity of EOTs is the availability of willing buyers at fair prices. Selling to an EOT removes the need to find external buyers and allows for a fair price to be obtained through an independent valuation.
Tax advantages of selling to an EOT: Unlike traditional third-party sales or management buyouts (MBOs), selling to an EOT can provide exemption from capital gains tax, subject to meeting specific conditions.
Preservation of culture and legacy: Many business owners choose EOTs to protect the company’s culture, values, and legacy. This model ensures that the business remains true to its roots even after the ownership transition.
Motivating and rewarding employees: EOTs provide a mechanism for retaining and motivating your team by offering them an opportunity to become co-owners. This fosters a sense of commitment, engagement, and alignment with the long-term goals of the business.
Attracting new talent: An EOT can be a powerful tool in attracting top talent to your business. By offering an ownership stake in the business provides a unique incentive and the opportunity to be part of the businesses success. It can create a sense of shared prosperity and a culture of collaboration.
Competitive Advantage: Being an employee-owned recruitment agency gives your business a distinct competitive advantage in the market. Clients and candidates are more likely to choose your agency over others, knowing that their partnership or employment will contribute to a company that values its employees and shares it’s success.
Funding the sale: Funding the sale of shares to an EOT poses unique challenges. As the EOT itself has no assets, external sources must be relied upon to finance the purchase. Accumulating profits in the target company in anticipation of the sale can contribute to funding, but it is often insufficient to cover the entire consideration. Borrowing may be an option, but it requires guarantees or security, which can raise directors’ duties concerns and impact the target company’s borrowing capacity. Consequently, deferred consideration, paid over several years using profits generated by the target company, is commonly employed to address these funding obstacles.
When selling shares to an EOT, a significant portion of the consideration is typically left outstanding as deferred payment as mentioned above. Therefore the seller’s future proceeds rely on the target company’s sustained profitability, generating profits necessary to fund the deferred consideration through the EOT. While the sale price is fixed at completion, if the target’s value increases afterward, the seller won’t benefit from the appreciation.
To meet the qualifying conditions, the seller must relinquish ongoing control over both the target company and the EOT. The seller’s reliance lies on the target’s directors deciding to allocate profits toward funding the consideration through the EOT, as well as the EOT trustees’ decision to apply the trust’s assets for the payment of deferred consideration.
Although the seller may retain a board seat or act as an EOT trustee, their role is limited to voicing opinions without retaining any control.
Employee Ownership Trusts offer a compelling exit option for recruitment business owners seeking to empower their team and foster shared success. By establishing an EOT, you can create a legacy, drive employee engagement, and align the interests of your workforce with the long-term objectives of the business. However, it’s important to consider how the sale will be funded and the impact of relinquishing ongoing control. To explore the implementation of an EOT further, download our comprehensive EOT guide for in-depth insights and practical advice. In our final blog, we’ll provide an overview of the different exit options covered in this series and offer advice on maximising your exit opportunity.
If you own a recruitment business and would like to discuss exit options, call our friendly team of business experts on 0845 606 9632 or email hello@recruitmentaccountants.com.
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