This article is based in part on an NCEO webinar presented by Anthony Dolan and Macie Dorow of Prairie Capital Advisors.
Selling an ESOP company does, however, raise a number of issues that non-ESOP companies do not face. CEOs do not have to respond to most inquiries about selling the company, but they do need to respond to an offer that can demonstrate the buyer is serious, has the financial backing required, and is likely to offer a significant premium. (If the company wants to sell, then the offer must only be reasonable.)
Once a legitimate offer is received, the CEO and/or board may decide to pursue other offers as well. Because this adds time and risk to the original offeror, they may decide not to proceed. That is a good thing if you don’t want to sell, but it is not a consideration if you are trying to find a buyer. The board may want to hire an M&A advisor to solicit other bids to compare. These additional bids give the board more room to negotiate a better deal. It is reasonable to ask buyers to pay for due diligence costs (direct costs or staff time and costs) if you do not want to sell or are not sure you want to proceed. That will discourage a lot of buyers, something you may want to do. But if you want to sell, you should probably take on these costs.
The board needs to develop a policy on how to respond to offers. It should document the reasons for the sale and assess whether the future value of the payouts to participants will exceed the future value to participants of the company not selling and their staying in the ESOP. For instance, if Mary has $50,000 in shares, and the offer for those shares would be $70,000, would Mary be better off investing $70,000 over the next several years in a reasonably conservative portfolio, or would the value of her ESOP account (including appreciation, reallocations of forfeitures, and company contributions in excess of typical company retirement plan contributions) exceed $70,000? If the latter is true, the offer may not be sufficient.
If the board concludes that the offer meets these criteria, the company and the potential buyer usually exchange confidentiality agreements—also known as non-disclosure agreements—and will then customarily share cursory information about their businesses in order to gain a better understanding of each other. This could include, for example, summary operational and financial information. Under no circumstances should the company provide a potential buyer a copy of the annual ESOP valuation. If the board decides to proceed with the bid, the issue normally has to go to the trustee, who must make decisions on how to act solely on the basis of what is best for plan participants as participants, not as employees. That means even if everyone were laid off but the price was great, the trustee has to say yes. The board and/or trustee may want to hire an M&A advisor to help consider the deal or seek better offers.
Buyers need to know that buying an ESOP company is much more complicated than buying a non-ESOP company. The trustee will have its own advisors and require a fairness opinion on all of the terms of the deal. Other buyers may need to be solicited. If the sale is an asset sale, or the ESOP has pass-through rights on stock sales, the employees have to be able to vote on the deal. All of these things can make the ESOP a very prickly target, which is why few ESOP companies are sold that do not want to be sold.
Potential additional sticking points include whether any of the funds are escrowed, such as for pending liability issues. Trustees may not want participants to take that risk. Many buyers want to structure the sale as an earnout, at least in part. Trustees have not looked favorably on such uncertainty. Also to be addressed is if there are indemnifications, representations, and warranties that need to be resolved.
Of course, there are also non-ESOP issues, such as employment guarantees or deal completion bonuses for executives (the trustee may have to opine on these). Indemnity for breach of agreement, representations, and warranties must be limited to escrowed funds. The deal must include an agreement on the survival period of the plan and the role of the trustee while all these closing issues are resolved.
If the company has multiple offers that are similar in value to the participants, it is in a good position to negotiate over or at least consider non-ESOP issues, such as employment rights, severance pay to anyone laid off, or benefit levels.
This entire process will take many months, if not more, and incur substantial costs. Getting the right team of advisors is essential to getting a deal that works. If a sale ultimately takes place, in most cases, the ESOP will be terminated and employees paid out, a process that often takes about two years to complete. The trustee will remain in place until all the ESOP termination activities are complete.