Employee-ownership yields a variety of dividends
When he joined Harkins Builders in 1958, Blase Cooke was a laborer earning $3 an hour. Cooke, however, rose quickly through the ranks and, by 1993, he was CEO and sole owner of the company.
Grateful that one company had enabled him to achieve success and wealth, Cooke sold Harkins to its employees the following decade “because he wanted everyone to retire with wealth from the company that enabled them to live an excellent quality of life in retirement,” said Ben Nichols, President.
Employee-owned companies are not common in the construction industry. But converting to employee ownership can be an attractive option to owners who are looking to sell off their shares and retire. Operators of employee-owned companies say the arrangement can also boost company culture, employee interest in driving the company’s success and in the recruitment and retention of talent.
Structured properly, the conversion to an employee-owned structure (typically in the form of an Employee Stock Ownership Program or ESOP) can deliver major tax benefits to the seller and exempt the company from state and federal corporate taxes. Creating an ESOP, however, is complex, costly and entails some risk.
As with any succession plan, owners should start laying the groundwork to convert to an ESOP five to 10 years before their anticipated retirement, said Michael Gentry, Director at KatzAbosch.
“A good, experienced, stable management team is key to the success of an ESOP because those managers are going to become owners and leaders of the company. If you have a high turnover of management, it is not going to work,” Gentry said. “Also, the owner/seller has to be willing to take on some risks because most ESOP transactions involve debt. Typically, the ESOP must go to the bank to borrow money to buy the stock of the seller and the bank is generally going to want the seller to guarantee that debt, so it is a somewhat risky transaction for the seller.”
Employee-owners of the company must meet strict financial management requirements.
“There are a lot of technical requirements to setting up an ESOP,” said Tom Morton, Chief Financial Officer of Price Modern, which became an employee-owned firm in June 2019. “It’s complex and relatively costly to implement. That’s the downside of an ESOP. We had multiple lawyers involved, but we also had an excellent third-party consultant walking us through the process. It is imperative to have good consultants.”
Ongoing operation of an employee-owned firm requires an annual market evaluation by a third-party consultant to determine the value of the company and its shares. The company must also actively manage the ESOP, which is a registered retirement savings program comprised of shares in the company and cash from corporate dividends and other company contributions. The cash must be invested according to company policy. Managers must regularly set aside funds to repurchase shares from former employees, provide employee-owners with updates on the value of their ESOP accounts and redistribute shares as employees join or leave the company.
That effort, however, generates major benefits. An employee-owned company since 1999, G.E. Tignall & Company has seen its share price rise from $15 initially to over $300, said Joseph Logue, President and Chief Financial Officer. Careful management of ESOP finances and company operations has produced annual growth in employee-owners’ ESOP accounts of seven to 10 percent – better than some mutual funds.
For workers at G.E. Tignall, “it’s a nice way to save for retirement. You don’t have to invest any money yourself. You just have to be part of the company. That’s especially valuable in an industry where a lot of people don’t plan or save for retirement,” Logue said. “Some people have a significant amount of money in their ESOP, especially in comparison to their net worth. Some guys have accounts worth six figures and that can become their predominant retirement vehicle.”
Since its inception, the Harkins ESOP has seen share prices grow nearly 7 percent annually and its cash account grow from $0 to more than $30 million. To date, Harkins has contributed over $111 million to the plan, and the program has paid out over $55 million in retirement benefits.
Those retirement savings, however, aren’t the only benefits produced by employee-owned companies.
“There’s a culture that happens with ESOPs,” Nichols said. “It is wonderful to have a company where every single dollar the company makes either goes directly back into equity in the company or directly back to the employees. It is a pretty amazing and equitable way to run a company.”
That culture not only produces many long-tenured employees and an enticement for new employees to join the company, it also heightens individuals’ commitment to helping the company succeed.
“Ownership is a big driving force among our people,” Nichols said. “It keeps everybody going in the same direction and living up to our vision of being a company that really values relationships. It motivates everybody to make good, long-term decisions and not do things for short-term gain.”
At G.E. Tignall, employee ownership has made individuals more mindful of the impacts of their everyday actions and “more dedicated to being the best contractor possible,” Logue said.
At Price Modern, Morton believes employee ownership “had a huge impact on our ability to survive and prosper during two very difficult years.” Despite pandemic shutdowns, supply chain disruptions and escalating prices, the value of Price Modern shares rose nearly 30 percent, its tax savings fully financed the purchase and the company experienced notable success in attracting new talent in a tight market, Morton said.