What Could Go Wrong When Transferring Ownership to Employees?

Monday, November 27th, 2017

We often hear owners say they want to transfer their businesses to third-party buyers when they first encounter the concept of Exit Planning. However, we’ve observed that in many completed Exit Plans, owners actually choose to transfer their businesses to employees.

Some reasons for this decision include employees knowing the culture and values of the business, a desire to keep the business with people the owner knows and trusts, and employees’ inherent desire and commitment to grow the business.

As owners start to consider options that include transferring to employees, they can forget to ask two important questions:

Do the employees I want to succeed me even want my ownership?
If so, how can I motivate each employee to stay and make the financial commitment?
Your love and enthusiasm for your company can cause you to skip these critical first questions. What may seem like a good fit to you can lead to chaos if the most important employees (often referred to as “key employees”) cannot, will not, or just don’t want to accept ownership. Fortunately, there are three things you can do to address this issue.

Talk to Your Key Employees
Knowing whether a key employee would consider and be capable of ownership is the most important step in transferring to a key employee, and it’s often the step that’s most overlooked. Many owners take pains to convince themselves that a certain key employee (or key employees) would be a perfect fit, but fail to ask the employee whether he or she is even interested in ownership. For some key employees, being a key employee is more than enough for them. Others simply don’t have the skills to transfer into ownership. The best way to address these issues is to talk frankly with them about their aspirations and what they’d do if they were owners.

Incentivize Your Key Employees
Key employees who are interested in ownership can be scared away when they learn that ownership transfers aren’t a gift. While this may be unreasonable, it’s remarkably common. The idea of having to spend their own money to own the company can be overwhelming, especially when key employees don’t have the funds to pay for a share of ownership upfront. Fortunately, you can quell this concern by creating and implementing an incentive plan that focuses their attention on growth and rewards them by turning performance into ownership opportunity.

“Handcuff” Your Key Employees
A key aspect of successful incentive plans is assuring that they handcuff employees to the business. Handcuffing key employees means providing lucrative payouts (based on performance) that take some time to fully mature. Key employees who leave the company too soon walk away from their benefits. This is an important element in an incentive plan that is intended to lead to an ownership transfer to key employees.

Talking, incentivizing, and handcuffing are the three basic aspects of most successful insider transfers, but they’re also critical functions of successful business planning in general. We encourage you to learn more about each element before you begin the insider transfer process. If you’d like more information and assistance on how to best talk to, incentivize, and handcuff your key employees—whether you’re looking to exit your business soon or not at all—contact us today.

The information contained in this article is general in nature and is not legal, tax or financial advice. For information regarding your particular situation, contact an attorney or a tax or financial advisor. The information in this newsletter is provided with the understanding that it does not render legal, accounting, tax or financial advice. In specific cases, clients should consult their legal, accounting, tax or financial advisor. This article is not intended to give advice or to represent our firm as being qualified to give advice in all areas of professional services. Exit Planning is a discipline that typically requires the collaboration of multiple professional advisors. To the extent that our firm does not have the expertise required on a particular matter, we will always work closely with you to help you gain access to the resources and professional advice that you need.

This is an opt-in newsletter published by Business Enterprise Institute, Inc., and presented to you by our firm. We appreciate your interest.
Any examples provided are hypothetical and for illustrative purposes only. Examples include fictitious names and do not represent any particular person or entity.

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