ESOPs appeal to retiring business owners

The choices open to a business owner as he or she approaches retirement usually are three: sell to an outsider, sell to the management team or sell to employees via an employee stock ownership plan. And that last, according to a Workforce report, is growing in popularity.

ESOPs are defined-contribution retirement plans, similar to 401(k)s, but participant assets are primarily shares of the company they work for instead of stocks, bonds or mutual funds. And, says the report, since they’re investing in the business they work for, employees thus share ownership in the business equal to the proportion of stock in the plan. So both employer’s and employees’ retirement needs are addressed in a single method.

Related: 5 things to know about buying a company with an ESOP

In fact, according to Corey Rosen, founder and senior staff member of the National Center for Employee Ownership, attendance at NCEO’s Employee Ownership Conference has doubled in the past five years.

There are nearly 7,000 ESOPs, the report says, with about $1.3 trillion in assets and 14.4 million participants, according to data from NCEO. And they exist in a “wide range of industries,” most in manufacturing; in addition, the Midwest has the most, 2,115. Approximately 229 ESOPs have been created annually since 2010.

It’s something business owners should consider, especially since 70 percent of owners preparing for retirement say they don’t have an exit strategy—not a good sign since more than half of all business owners and 65 percent of millennial owners say they intend to walk out the door by 2020.

But that doesn’t mean they’ll work for all businesses. ESOPs are more suitable for businesses in which employee feedback at all levels is welcomed, and not so much for those with top-down management structures. The former encourages employees to pitch in with ideas on how to improve the business, and makes them feel empowered to do so.

That’s not to say that even with appropriate business structures, there couldn’t be problems. Stock valuations to set the price of the stock to be bought by employees from the ESOP can be tricky—as can affording the price of a valuation, which can run between $100,000 and $150,000.

There’s also the potential for lawsuits—most, says the report, centered on valuations—and the report cites Michael Keeling, president and chief staff officer of the ESOP Association, saying that he’d like to see the DOL issue clearer guidelines for valuations. While there are accepted procedures in the industry, there’s no official best practice guide—and such a guide is needed.

And Congress is actually promoting ESOPs, says the report, having introduced two bills in the House and Senate. The House bill would give the Small Business Administration broader authority in helping companies establish ESOPs, while the Senate bill would also empower the SBA to promote employee ownership.