Employee Buyouts
Sometimes private business owners prefer to sell their business to a third party instead of an employee group because they don't think their employees can run the company without them. With this pessimistic view, the owners would rather depart by striking a deal with an outside company than to count on their employees providing them a secure and prosperous retirement.
However, there are occasions where an employee buyout (EBO) may be the best available option for the current owner. Clearly, if the company has been offered for sale and no serious buyers have come forth, the owner will have little choice but to consider this option. Moreover, the long-time employees may have the most serious commitment to make the deal work because they want to keep their jobs. In addition, employee groups typically lack the cohesiveness or expertise to drive a hard bargain with their bosses. Thus, even when serious third-party offers are on the table, the current owners may get their best price by selling to their employees.
There are also those entrepreneurial owners whose business plan from day one has been to sell their business to their employees. They base hiring and retention decisions on who is the most capable of running the company. Then, after waiting to see if an employee is a keeper, these owners deliberately groom these employees to take over the business.
Regardless of the reason, an employee-led buyout can be a viable method of transferring ownership in a business. Whether structured as an asset or stock purchase, an employee buyout transaction can involve virtually any size of business. Typically, the business involved is closely held. An EBO is a practical alternative that should be considered when the owner has groomed a capable management team that believes it can improve the operations and profitability of the company. The arrangement offers the owners the opportunity to dispose of their interests in the business to a group of people who will maintain their positions in the company and preserve their authority. An EBO also offers the employee buyout group greater control over its destiny and the opportunity to profit from its collective knowledge of company operations. Thus, an employee buyout can provide a practical solution to the diverse interests of the retiring owner and the current management team. As such, it can be used to fulfill an owner’s succession plan for transferring the business to a talented group of employees whether they are family or nonfamily.
In an employee-led buyout, a management group normally is the key participant in the acquisition and is usually aided by a primary and secondary lender. The buyer and seller understand the business and the circumstances that led to the proposed buyout, which often makes negotiations easier. Successful employee-led buyouts almost always require the owner’s full support and cooperation. Very often this cooperative spirit leads to a continuing relationship between the new and former owners in such areas as consulting about customers, suppliers, products, sales, and services.
The financing may be provided by a financial institution, a venture capital or pension fund, or (in very large transactions) by issuing debt securities to the public through an investment banker. In other cases, the selling shareholders simply take a note back for the balance of the purchase price. The borrowed funds are repaid with the cash flow generated by the business or the proceeds from the sale of unwanted business assets. In almost all cases, the borrowed funds are secured by the assets of the acquired business. In the case of third-party debt, the lender may require the selling shareholders to personally guarantee that debt.
The real struggle with an employee buyout is coming up with a smooth transition plan for transferring the business from the founding owners to the key employees. The most common characteristic of successful employee buyouts is early planning. If the founders have been steadily laying the foundation for an employee takeover, the likelihood of success is much greater than if a sudden decision is made at the eleventh hour of the last day.