With an aging population of business owners at many firms and the next generation interested in pursuing growth opportunities, succession planning remains an ongoing priority in the construction industry. While many companies plan to utilize conventional succession planning options, such as seeking out a sale partner or passing down the business to a family member or longtime employee, other alternatives are gaining traction. This includes a growing shift of exploring employee stock ownership plans that allow for company culture to continue uninterrupted and give current team members a stake in the business.
Planning and executing an ESOP is possible in any environment, despite outside noise related to high interest rates and ongoing recession speculation. Construction business owners have an opportunity to make moves now to better position themselves for future transactions.
AHEAD OF THE CURVE
Whether discussing retirement goals or staying ahead of exit decisions, owners must remain actively engaged in succession planning to be best position their business for success after they step away. One thing is certain: Preparing a solid succession plan takes time. Ideally, the process starts 24 to 60 months before any potential change in leadership. This means assembling a team of trusted advisors—including a CPA, attorney, banker and wealth advisor—to identify the best option and put strategies in place as soon as possible.
To properly outlay the intricate details of a well-designed succession plan, a business banker can explain the mechanics of how financing and transfer of ownership might work in different situations. This can include initial questions or referrals needed to determine tax, trust and estate matters as well as providing guidance on the most financially beneficial path forward.
A solid financial partner can walk through the steps and timeline to provide a better understanding of the process involved with different options. This can also include critical loan considerations—ability for new owner(s) to qualify for loans, the obligations for existing loans, etc. A trusted financial advisor can also help to determine how to handle any type of lump sum payment involved in a transition to avoid unnecessary costs or complications.
Finally, it is vital to develop a financial plan for the ongoing business and its new ownership following the sale. This financial plan will help determine how investment assets should be allocated and set a path for future liquidity needs. This process takes some time to think through, but those who wait to make financial plans until after the sale of the business could be putting themselves and their finances at considerable risk.
SEVEN STRATEGIES
In general, any planned or unplanned change in ownership typically involves seven common options:
- Sell to a strategic buyer—Another company in the same or a related industry that will seek to realize synergies by combining or running the companies together.
- Sell to a financial buyer—A company or individual without a company in the industry but with interest in purchasing as a financial investment.
- Sell to management—The management team pools resources to buy out the current existing owner.
- ESOP—Enables employees to own part or all of the company, accumulating shares over time and cashing in those shares when they retire or leave the company.
- Transition from singular leader to shareholders—The head of a business/company takes a step back from being involved in the day-to-day operations and installs others to run operations.
- Liquidate assets of the company—Sell off all the assets of a business (equipment, inventory, etc.) and close the doors, winding down operations.
Construction companies have regularly and successfully implemented ESOPs to create these positive benefits, but many are still unfamiliar with the process.
Two characteristics common to construction companies that end up pursuing an ESOP include:
- Solid management team—A company interested in forming an ESOP has to already have a strong leadership team in place. Leadership cannot rest on one individual’s shoulders. Whenever possible, these individuals should not be the owners/sellers. Building out the next generation of leaders is a must for an ESOP to work.
- Consistent year-over-year earnings—Sometimes this can be tough to achieve for construction companies, given the highs and lows of such a cyclical industry. But for ESOP valuation purposes, debt service and overall longevity/sustainability, earnings consistency is vital.
RISK AND REWARD
There are several key benefits to ESOPs. Chief among them is maintaining control over the legacy and culture of a company. As a viable option in a business ownership succession plan, the ESOP allows a retiring owner a means of taking care of employees, keeping the company intact while being able to extract cash from the business as well. There are also potential tax benefits in an ESOP, both for the company and the seller.
Outside of company culture and control, ESOPs are known to work as tangible recruiting and retention tools, particularly in industries like construction where a quality, stable workforce can be hard to maintain. A successful ESOP can offer a path of career growth and prosperity for a secretary, a laborer, a project manager and others.
Construction companies whose ESOPs have been functioning for years tell stories of opportunity and financial stability afforded to longstanding, loyal employees.
When setting out to form an ESOP, note that not all banks, lawyers or accountants have experience with ESOPs. Finding the right partners is the first step to setting up the ESOP for success. Specifically, a bank needs to be well-versed in ESOPs to help identify whether this option makes financial sense for the owners and the employees.
Regardless of a succession plan, ESOP or otherwise, significant time, thought and resources are required to develop the plan—potentially including an independent audit, establishing a business valuation and working with experts on succession planning. This ensures expectations align with reality and with the vision of others involved in the business. For example, ESOPs can require important financial management changes in order to reliably account for retiring or departing employees who may need to cash out of their ownership stake.
While the 24 to 60-month window can be a good guide, this process can vary depending on the complexity of the organization. Putting a plan in place as soon as possible should be a priority, but once determined, a financial partner should regularly revisit the details. Preparation and review work hand in hand, and updates are almost always required because people, situations and operations can change. Because of this, a financial partner in the succession planning process should be familiar with the mechanisms and provide objectivity in analysis.
Whether moving on to a new venture or a well-deserved retirement, or preparing for the potential of an unforeseen event, construction business owners should have an idea of how to exit in a way that best benefits themselves and employees while honoring the established vision that led to success. Determining top priorities and identifying the proper succession plan can allow for execution of that plan to carry forward the company’s legacy.
SEE ALSO:
