ESOPs: Your Questions Answered BEI National Conference August 27, 2015

Transcription

1 ESOPs: Your Questions Answered BEI National Conference August 27, 2015 Presented by: Kelly O. Finnell, J.D., CLU, AIF Executive Financial Services, Inc. (901)

2 Introduction Executive Financial Services, Inc. Executive Financial Services, Inc. ( EFS ) is a national ESOP consulting firm EFS has implemented ESOPs transactions in 9 states and 17 cities throughout the United States.

3 Introduction Executive Financial Services, Inc. Our Services Include: Feasibility Studies Plan Design Transaction/Financing Design Employee Communication Repurchase Obligation Planning, and Mature ESOP Planning EFS is a recognized thought leader in the ESOP community

4 Presentation Overview ESOP Basics Characteristics of Good Candidates Case Studies Reasons Not to do an ESOP Reasons to do an ESOP Q&A

5 ESOP Basics

6 Our Observations Tax Efficiency There are unique provisions in the tax code that are solely applicable to ESOPs. These provisions can result in higher after-tax proceeds of an ESOP sale compared to those of an M&A transaction.

7 Our Observations Liquidity and Diversification ESOPs allow for partial liquidity events, which enable selling shareholders to diversify their holdings while participating in future increases in company value.

8 Our Observations Control In contrast to a strategic sale, shareholders can maintain operating control of the company after ESOP implementation. As a result, ESOPs are a very popular liquidity option for privately-held companies.

9 Our Observations Estate Planning An ESOP creates an opportunity to reduce estate taxes as the equity value is temporarily decreased immediately following the transaction.

10 Our Observations Legacy ESOPs provide business and employee continuity. Through selling to an ESOP, companies can maintain independence, ultimately perpetuating company legacies and protecting employee jobs.

11 Characteristics of Good Candidates For a Transaction Owners accustomed to dealing with complexity Previous transaction experience Sophisticated advisor team Strong successor management team

12 Characteristics of Good Candidates ESOP Specific Transaction Tax Motivated Legacy Motivated AEBITDA of $1M + Payroll (excluding Owner) of $1M+

13 Characteristics of Good Candidates ESOP Specific Transaction Low level of debt Commitment to employees/community Mother Theresa/Gordon Gekko

14 Recent EFS ESOP Transactions Tax Status Revenue AEBITDA Payroll Gov t Contractor & Logistics Services S Corporation $10.8M $2.1M $6.1M Uniquely unsophisticated company Credit union Owner s HELOC was company s LOC Outsourced CFO Didn t know what an audit was No outside CPA firm No corporate counsel Number of Employees Transaction Price 70 $3M (49%) We recommended that the company hire IBG

15 Recent EFS ESOP Transactions Tax Status Revenue AEBITDA Payroll Gov t Contractor & Logistics Services S Corporation $10.8M $2.1M $6.1M ESOP Financing (New Bank) $2M Bank Debt No personal guaranty $1M Seller Note Company brought CFO in house Seller took less value in order to reward employees Number of Employees Transaction Price 70 $3M (49%) Retained flexibility for future transaction

16 Reflections Just met minimum transaction size ($3M) Very smart Owner, but very low level of business knowledge and experience Outsourced CFO Credit Union HELOC as Company LOC Audit

17 Reflections Owner felt like transaction was difficult Wanted everything to move in straight line (i.e., cookie-cutter process) We referred Company to local CPA firm and banker

18 Recent EFS ESOP Transactions Tax Status Manufacturing Company C Corporation Revenue $10M Owner (age 70) came in late, took a long lunch, left early Company received LOI from strategic buyer, but plant would close AEBITDA $1M Payroll $3.2M 2 children employed, but not capable of leading the Company Number of Employees 75 2 long-term employees tapped as successor management team Transaction Price $6M (100%) Attractive collateral base Property, Plant, and Equipment

19 Recent EFS ESOP Transactions Tax Status Manufacturing Company C Corporation ESOP Financing (New Bank) $5M Bank Debt No personal guaranty Revenue $10M $1M Seller Note AEBITDA $1M Payroll Number of Employees $3.2M 75 Incentives for successor management Increased salary ESOP Accounts SAR Plan (20%) Transaction Price $6M (100%)

20 Recent EFS ESOP Transactions Tax Status Manufacturing Company C Corporation Revenue $10M Children kept their jobs Plant remained open AEBITDA $1M Seller made 1042 election Payroll $3.2M Number of Employees 75 S election Transaction Price $6M (100%)

21 Reflections Successor management team negotiated very hard for increased pay and benefits Recognized they were in strong position Owner had transaction experience (LOI) Ruled out sale to third party Many great financing offers resulted from competitive process

22 Recent EFS ESOP Transactions Logistics Services Owner (age 68) diagnosed with multiple myloma Tax Status C Corporation Revenue $213M AEBITDA $5M Company hired IBG to sell Company IBG brought stalking horse with LOI Owner walked out of meeting Payroll $10M Number of Employees 145 Strong successor management team President and CFO ran ESOP process Transaction Price $22.5M (49%)

23 Recent EFS ESOP Transactions Logistics Services Tax Status C Corporation Revenue $213M 9.61 Multiple 49% sale of CPS AEBITDA $5M Payroll $10M Number of Employees 145 ESOP Financing (Existing Bank) $6M Bank Debt No personal guaranty $16.5M Seller Notes + Warrants Transaction Price $22.5M (49%)

24 Recent EFS ESOP Transactions Logistics Services Tax Status C Corporation Revenue $213M Incentives for successor management Increased salary and bonus pool SAR Plan (15%) AEBITDA $5M Payroll $10M Owner did NOT make 1042 election Age and health Number of Employees % rate on Capital Gains Transaction Price $22.5M (49%)

25 Reflections ESOP can pay as much as any financial buyer Used convertible preferred stock to mitigate impact of minority interest discount Owner entrusted transaction process to successor management team Issues with lender counsel

26 Recent EFS ESOP Transactions Tax Status Plant Automation & Information Systems S Corporation Revenue $25M AEBITDA Payroll $3.8M $17.6M 55 Shareholders (all employees) Sophisticated company and employees Great CFO Very involved President and Benefits Manager Number of Employees Transaction Price 150 $23.7M (100%) Won t take a penny less than $25 per share

27 Recent EFS ESOP Transactions Tax Status Plant Automation & Information Systems S Corporation Revenue $25M AEBITDA $3.8M ESOP Purchase Price: $27.50 per share ESOP Financing (Existing Bank) $5M Bank Debt No personal guaranty $18.7M Seller Notes Payroll Number of Employees Transaction Price $17.6M 150 $23.7M (100%) Incentives for executive team Increased salary and bonus pool SAR Plan (40%): Sellers accepted less than FMV for stock in exchange for richer SAR package

28 Reflections Company was very well prepared for ESOP Fired first ESOP consultant and hired us Purchased 22 copies of my book Had internal ESOP education session led by CFO Great attitudes CFO viewed financial due diligence process as a learning opportunity

29 Recent EFS ESOP Transactions Tax Status Missile Defense Contractor C Corporation Revenue $266M 200 Shareholders Extremely well-educated workforce 200 employees hold Ph.D. in engineering or physics AEBITDA $25.2M Payroll $105M Virtually unlimited opportunities to sell to strategic buyer Number of Employees Transaction Price 1,200 $84M (51%) Board committed to maintaining company s independence $120M in 401(k) Plan Assets

30 Recent EFS ESOP Transactions Tax Status Missile Defense Contractor C Corporation Revenue $266M ESOP Financing $10M Bank Debt ($25MM committed) $47M Seller Notes (7% interest) $27M Lateral Transfer AEBITDA $25.2M Payroll $105M Virtually no incremental cost Number of Employees 1,200 Transaction Price $84M (51%)

31 Recent EFS ESOP Transactions Tax Status Missile Defense Contractor C Corporation Revenue $266M S election $10M annual tax savings Government contractor, redirected PSP contribution AEBITDA $25.2M Payroll $105M Gifts to local community foundation of $5M Number of Employees 1,200 ESOP purchased shares from foundation Transaction Price $84M (51%)

32 Reflections Many shareholders preferred a Seller Note to cash at Closing Despite transaction complexity, process completed in 6 months $2M+ in Company fees ESOP Committee/Successor Management Team Co-op most challenging employee

33 Reasons NOT to do an ESOP 100% Transaction Take the Money and Run Low Tolerance for Complexity Hot Target for Strategic Buyer

34 Reasons NOT to do an ESOP Inadequate Successor Management Highly Leveraged Company Cyclical Earnings

35 Reasons to do an ESOP Tax Motivated Company/Owner Glide Path to Retirement Protect Employees from Merger and Executions

36 Reasons to do an ESOP Committed to Company Independence Preserve Legacy and Company Culture

37 Q&A

38 Cost-Benefit Analysis Projected ESOP Implementation Fees ESOP Consultan t Valuation Trustee Total $200,000 $35,000 $35,000 Projected ESOP Tax Benefit over the next 10 years Selling Shareholders $4,760,000 (23.8% Capital Gains Rate) Company $8,000,000 (40% Corporate Tax Rate) Trustee Counsel Other Total Cost $50,000 $10,000 $330,000* 2.59% $12,760,000 % of Fees 1.65% * Does not include fees for corporate counsel or accountant of $20,000,000 ESOP Transaction

39 ESOP Transaction Process Feasibility Phase Implementation Phase Engage Trustee Team Arrange Transaction Financing Trustee Due Diligence Negotiate Transaction 4 Weeks (4 Weeks Total) 4 Weeks (8 Weeks Total) 6 Weeks (14 Weeks Total) 4 Weeks (18 Weeks Total) Collect and analyze historical and projected financial information Build financial models and estimate preliminary range of value Explore possible transaction structures Prepare debt capacity analysis, sensitivity analysis, and costbenefit analysis Determine if ESOP is a viable option Spearhead ESOP trustee selection due diligence process Identify candidates Distribute questionnaire Field questions Receive responses Negotiate agreements Engage Trustee Legal Counsel Independent Appraiser Draft Summary Transaction Memorandum Arrange introductory teleconference to discuss roles and responsibilities Draft and circulate Project Performance & Closing Checklist Identify potential ESOP lenders Distribute and collect NDAs Prepare and circulate Transaction Financing Request Collect and compare term sheets Schedule in-person meetings between lenders and company Collect due diligence request lists from trustee Establish online repository for information Schedule on-site due diligence meeting Assist with ongoing diligence Distribute LOI to Trustee with key terms: Price Seller Note(s) MIP Reps & Warranties Indemnification Receive counteroffer via redline Finalize negotiations via /teleconference Execute final LOI to memorialize negotiated terms Transaction documents drafted and circulated ESOP Feasibility Analysis is presented to the business owner(s) who will decide whether to proceed with ESOP Implementation ESOP Trustee and its advisors are in place and all of the professional advisors are in agreement on transaction structure and timing Company selects lender and executes commitment letter to secure ESOP transaction financing Trustee s independent appraiser begins preparation of range of value Stock Purchase Agreement and related Transaction documents are finalized and executed; Transaction closed

40 Thank you! Kelly O. Finnell, J.D., CLU, AIF Executive Financial Services, Inc. (901)