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I recently sat down with Chris Budd, whose book the Eternal Business was recently published, to find out what he’d been up to in the last few months. This is what he had to say:
Neil: What have you been up to since you sold your business in April?
Chris: I’ve had an interesting summer! Since the announcement of the sale of the majority shareholding of my firm, Ovation Finance Ltd, to an Employee Ownership Trust (EOT), I have been overwhelmed by the interest in this new way of succession planning.
I set up a new business, The Eternal Business Consultancy (a subsidiary of Ovation). The book, The Eternal Business, was published in September. And I’ve been out and about talking about EOTs, for example as part of the recent Nucleus Illuminate sessions.
N: What has been the reaction to employee ownership?
C: Hugely positive. The EOT as an exit plan for owners has really caught people’s imaginations, to the extent that I want to help as many people as possible but am limited by time.
I am therefore putting the finishes touches on an online programme which will guide owners through the decision as to whether the EOT is right for them. It then takes first the owner plus leadership team, and then all employees, through the process of getting a business ready for sale to an EOT.
N: Can you summarise the sort of businesses which are particularly attracted to EOT?
C: The EOT is a way of owning a business whereby the shares are the property of the trust, which distributes the profit to its beneficiaries – the employees. Consequently the employees have double motivation to make the business work – they have control, and they get the rewards.
To get to this position, the owner first sets up the EOT, then sells their shares to the EOT. As the EOT doesn’t have any money, a debt is created, which is repaid by the future profits of the business.
So the business lives on and the employees get the profit after the earn out. The owners who have been contacting me have therefore been those that would like to leave a legacy; to look after their employees and clients.
N: Does that mean selling to an EOT means selling for a lower price?
C: Absolutely not. The price is set by an independent market valuation.
Now, this might seem to be lower than the offered price elsewhere. However if this is the case, then the other offer may well not actually be realised (see my recent article about the ‘fish and chip’ deal). Because if it was a realistic offer, then it would have been reflected by the independent market valuation, wouldn’t it?!
N: Fair point. So do the owners get the value they expect from sale to an EOT?
C: It depends on what they expect! It is true to say, however, that we tend to overestimate the value of our own businesses. This is partly due to the inflated prices quoted in the press that don’t end up actually getting paid; and also because we tend to over value something we already own (see Neil Bage’s article on the ‘endowment effect’).
N: You say the value is paid from future profits. Isn’t this a bit risky?
There are two answers to this. Firstly, it is important to recognise that virtually every sale of any business ever has been paid for by the future profits of the business. Even an amount paid up front will have warranties and clauses that factor in the future success of the business. So the sale to EOT is no different from any other exit route in that respect.
Secondly, yes, being paid out of future profits is a bit risky! Most business sales carry the risk of not being paid everything.
The Eternal Business book and programme exists for this very point. It helps owners and employees to transition their business to one ready for sale to the EOT. One major reason for this being so important is to reduce the risk of the business not succeeding post sale; to maximise the possibility of the profits increasing post sale, and the payments to the owner being made.
This is actually not something you get to do with a trade sale!
N: So what is the profit situation of EOTs work in practice?
C: According to the Employee Ownership Association, one year post sale EOTs report an average increase in profit of 15%.
N: What reasons have you heard against the EOT?
C: Often owners, excited by the idea of the EOT, go and talk to their key employees. I think this can be a mistake, as the EOT takes a bit of understanding. Indeed, the first part of the online programme helps owners prepare the ground for these conversations.
The reaction of key employees goes one of three ways in my experience. If the employee doesn’t have any money and therefore had no expectation of buying shares, it is almost universally positive.
Sometimes employees thought they were going to be given shares. This was never going to be the case due to the tax implications, so that needs to delicate handling.
The tricky situation is where employees thought that the succession was going to involve them buying shares, perhaps a management buy out (MBO).
N: Can an MBO happen alongside an EOT?
C: It can, indeed it might work very well as a two step process. The majority of the business (51%) gets sold to the EOT, the remainder bought by employees. They can then sell to the EOT at a later date.
It is also possible to put into place a share incentive scheme for all employees alongside the EOT. This needs to be considered very carefully – there are possible conflicts in decision making that this might build into the business.
The main message, however, is that if the initial reaction of the management team is against the idea of the EOT, it shouldn’t be instantly dismissed. They may just not ‘get’ the EOT at first pass.
N: Last question – is EOT a Socialist idea?
C: Certainly not! It doesn’t sit on the political spectrum at all. There is nothing more Thatcherite than employees owning bits of the business they work for. Yet there is nothing more socialist than workers getting a share of the profits from their hard work!
Contact Chris on chris@theeternalbusiness.com to find out more about EOTs, and to register interest in the online programme.