Buying and Selling an ESOP Company

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1 Buying and Selling an ESOP Company 2015 ACG Charlotte Deal Crawl Affinity Seminar September 22, 2015 Alberto Toribio del Pilar ButcherJoseph & Co. 101 S. Hanley Rd., Suite 1450 St. Louis, MO P: (314) Daniel (Danny) Johnson, Jr. Moore & Van Allen 100 North Tryon Street, Suite 4700 CharloPe, NC P: (704) Bill Hayes Mosaic Capital Partners 101 South Tryon Street, Suite 2620 CharloPe, NC P: (704) cp.com

2 Representative List of ESOP Owned Clients and Portfolio Companies 2

3 Why ESOP Companies Look to Sell Evaluating the Ownership Structure Changing Risk Profile Market Conditions Unsolicited Offers Changes in Liquidity Needs Repurchase Obligation Issues Debt Service Needs Employee ownership should be evaluated like any other ownership structure. An ESOP is not always a perpetual investor, and as such, requires ESOPowned companies to evaluate their ownership structure in light of the business strategic objectives for growth. Non-ESOP Shareholders Wish to Exit 3

4 Parties Involved in the Sale of an ESOP Company Buyer Company ESOP Management/Board of Directors/Partners Board of Directors/ Shareholders Trustee Legal Advisor Management Legal Advisor Financial Advisor Legal Advisor Financial Advisor Financing Source Financial Advisor Tax Advisor 4

Shareholders Trustee Legal Advisor Management Legal Advisor Financial

5 Issues for an Acquirer of an ESOP-Owned Company Acquirer needs to be educated as to the peculiarities of ESOP transactions There is a difference between what is customary in non-esop M&A transactions and what is allowable under ERISA and customary in ESOP M&A transactions Acquirer will have to conduct more extensive due diligence and rely on that due diligence as recourse usually limited to an escrow Valuation/fiduciary/administrative issues relating to the ESOP will also have to be negotiated What happens with the money in the ESOP from the transaction proceeds? 5

Acquirer will have to conduct more extensive due diligence and rely on that due diligence as recourse usually limited to an escrow

6 Optimal ESOP Company Sale Process The ESOP Company s Board of Directors develops policies and procedures for sale process, and hires Advisors Senior management receives offer, confirms offer is Bona Fide ESOP Trustee and its Advisors (and in some cases ESOP Participants) analyze the offer Board of Directors reviews offer, recommends approval or disapproval Buyer due diligence, negotiation and documentation of transaction Buyer, company and ESOP Trustee address post-closing issues 6

(and in some cases ESOP Participants) analyze the offer Board of Directors reviews offer, recommends approval or

7 Issues for ESOP Trustees In Evaluating the Offer In evaluating an offer to sell the Company, the ESOP Trustee should consider the following questions: Does the offer equate to or exceed fair market value? (This is Absolute Fairness) Would the ESOP receive its fair share in the transaction relative to other parties to the transaction? (This is Relative Fairness) Was a thorough process used to reach a proposed transaction? Whether the buyer is the best deal partner? Did the Board hire an investment banker? Was an auction process used? Was the contract with the investment banker structured to ensure the best deal possible for the Company? Are the Company decision makers motivated to get the best deal possible or just to get a deal done? 7

(This is Relative Fairness) Was a thorough process used to reach a proposed transaction? Whether the buyer is the best deal partner? Did the Board hire an investment banker?

8 Other Issues for the ESOP Trustee in a Sale Transaction Can the ESOP Trustee agree to an earn out? Can escrowed funds/earn outs be considered a part of the purchase price for purposes of determining Adequate Consideration and Fairness? Can the Trustee take into consideration any other non-financial factors in evaluating the proposed transaction? 8

Can escrowed funds/earn outs be considered a part of the purchase price for purposes of

9 Administrative Issues in Connection with the Sale of an ESOP Company Participant voting requirements Repayment of ESOP Debt/Remaining shares in suspense account Plan Termination/Disposition of Plan Assets/Full Vesting Other qualified plans and protected benefits Triggering change in control provisions of deferred compensation plans Distribution of plan assets 9

Termination/Disposition of Plan Assets/Full Vesting Other qualified plans and protected

10 Outstanding ESOP Loan Outstanding ESOP-related debt will have an impact on the ESOP s return from the transaction The obligation to repay the ESOP s outstanding debt should be negotiated as it may accrue to either the ESOP or the plan sponsor/other shareholders. The ESOP related debt affects the unallocated shares of stock held by the plan. ESOP Trustee may be able to obtain a final company contribution and/ or dividend payment to pay down the remaining ESOP loan (but issues under Section 415 may arise if the maximum limit is reached because of prior contributions) Will ESOP shares be sold for cash or shares of the buyer? Participant distribution and rollover issues 10

The ESOP related debt affects the unallocated shares of stock held by the plan.

11 Alternatives for the Repayment of ESOP Loans/Disposition of Unallocated Shares Surrender of unallocated shares at deal price in exchange for cancellation of debt and allocate proceeds from remaining unallocated shares to ESOP participants May also need to negotiate replacement benefits if using unallocated share proceeds to repay ESOP debt Forgiveness of all or part of debt and allocation of shares to participants Substitution of buyer stock for company stock and continuation of ESOP 11

May also need to negotiate replacement benefits if using unallocated share proceeds to repay ESOP debt Forgiveness of all

12 Transaction illustration Traditional Private Equity LBO and a leveraged ESOP Traditional PE LBO ESOP Sale Transaction Senior Shares Equity Debt Junior Buyer PE Firm (1) Capitalization Acquisition Company Cash (2) Shares Seller(s) Target Sub- Debt Debt Seller(s) Senior Junior Investor PE Firm (3) Cash Promissory Note + Warrants (1) Outside Loan Cash Cash ESOP (2) Inside Loan Selling Company Note Buyer 1. Private equity buyer capitalizes the acquisition through a combination of debt and equity capital 2. Funds used to purchase the target from the seller(s) 1. The company borrows money from a lender (Outside Loan) 2. The company lends the borrowed funds to the ESOP (Inside Loan) 3. The ESOP uses the borrowed funds to purchase the Company s stock 12

Loan Selling Company Note Buyer 1. Private equity buyer capitalizes the acquisition through a combination of debt and equity capital 2.

13 Investment Structure and Comparison Subordinated Debt Structure EBITDA Return and Credit Comparison Metric PE Deal ESOP Term: 5+ years Cash Pay: 10 13% PIK: 0 5% Equity Participation: 0 35% Detachable warrants Year 0 $10.0MM $10.0MM Year 5 (terminal) $14.5MM $14.5MM Cumulative Cash on B/S Year 0 $0 $0 Year 5 (terminal) $14.0MM $16.2MM Five Year Return Profile Amount Invested $22.9MM $22.9MM Amount Returned $82.1MM $69.1MM IRR 29.1% 27.9% Multiple of Invested Capital 3.6x 3.0x Note to Return and Credit Comparison: ESOP scenario s Five Year Return Profile reflects a subordinated structured equity investment with an 11.0% cash interest, no amortization, and a 35% warrant package exercisable in the terminal year Year 1 Credit Profile Senior Debt Fixed Charge Coverage 1.33x 1.87x Senior and Mezzanine Debt Fixed Charge Coverage 1.19x 1.60x Total Fixed Charge Coverage 1.19x 1.18x 13

9MM Amount Returned $82.1MM $69.1MM IRR 29.1% 27.9% Multiple of Invested Capital 3.6x 3.

14 Financing a Leveraged ESOP Buyout Currently financing is readily available, with leverage multiples varying based on type of loan and underlying business risk Selected Capital Sources Most ESOP transactions are leveraged Senior Credit Facility 2x 4x Seller financing can have unique structural elements (warrants, payment-in-kind) Mezzanine Debt 1x 2x Purchase Price ~ 5x 8x TTM EBITDA Seller financing returns may be difficult to replicate in public markets Seller has ability to finance all tranches of the debt structure EnhancedCapital Seller Financing / Structured Equity 1x 2x Expenses Employees can be given an opportunity to rollover a portion of their 401(k) to fund the ESOP purchase Sources Uses 14

Purchase Price ~ 5x 8x TTM EBITDA Seller financing returns may be difficult to replicate in public markets Seller has ability to finance all tranches of the debt structure

15 Concluding Comments & Questions Alberto Toribio del Pilar ButcherJoseph & Co. 101 S. Hanley Rd., Suite 1450 St. Louis, MO P: (314) Daniel (Danny) Johnson, Jr. Moore & Van Allen 100 North Tryon Street, Suite 4700 CharloPe, NC P: (704) Bill Hayes Mosaic Capital Partners 101 South Tryon Street, Suite 2620 CharloPe, NC P: (704) cp.com 15

Moore & Van Allen 100 North Tryon Street, Suite 4700 CharloPe, NC 28202 P: (704) 331-1146 dannyjohnson@mvalaw.

16 Disclaimer These presentation materials and the presentation itself are for the attendees of the 2015 ACG Charlotte Deal Crawl Affinity Seminar and intended to encourage thought and discussion and to provide seminar attendees with useful ideas with respect to buying and selling an ESOP company. The materials and the comments of Moore & Van Allen, PLLC attorneys do not constitute, and should not be treated as, legal or tax advice regarding the use of any particular estate, tax or other planning technique or suggestion, or any of the tax, legal or other consequences associated with them. The speakers, ButcherJoseph & Co., Mosaic Capital Partners, and Moore & Van Allen, PLLC assume no responsibility for any individual or entity s reliance on the verbal or written information presented during or in conjunction with the seminar, and pursuant to Circular 230 and the regulations promulgated by the U.S. Treasury, the information is not intended or written to be used, and cannot be used, by any person for the purpose of avoiding any penalties that may be imposed by the Internal Revenue Service. Each seminar attendee should independently verify all information contained in the materials and statements made during the seminar presentations before applying them to a particular client situation, and should independently determine the tax, legal and other consequences of using any particular technique or suggestion before recommending or implementing the same on a client or attendee s own behalf. Materials copyrighted by ButcherJoseph & Co., Mosaic Capital Partners, and Moore & Van Allen, PLLC All rights reserved 16

The materials and the comments of Moore & Van Allen, PLLC attorneys do not constitute, and should not be treated as, legal or tax advice regarding the use of any particular estate, tax or other

Buying and Selling ESOP Companies

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