Guide to becoming an employee owned company

What kind of employee ownership would work best for your company?

Through a detailed investigation of your business and objectives we will help you make the best decision.

There are three main forms of employee ownership:

Individual share ownership

A combination of trust and individual ownership (hybrid)

Long term trust ownership

Generally, trust ownership will be simpler both to set up and run. But this does not make it the automatic best choice for all companies.

Which of these will be the best solution will depend on your company and its employees. The following may help you to start thinking about this:

Indirect (trust) ownershipIndividual share ownershipHybrid ownership
Capital growth not an objectiveCapital growth importantTrust ownership is preferred but you want some individual share ownership to provide:

a modest degree of capital growth and/or

a direct feeling of ownership
Higher staff turnoverLow staff turnoverYou want to limit the total number of shares in circulation, as this limits any need for the company to help pay for share buybacks from employees who wish to sell their shares (or are required to because they leave)
Larger employee numbersSmaller employee numbers
Long term investment/ownership is importantEmployees likely to consider personal share ownership more real than trust ownership
Desire to prevent (or make difficult) a takeoverTax breaks for individual share ownership make it more attractive and affordable
Employees may have difficulty funding share acquisition
Limited funds to buy back employees’ shares
If bonuses/performance-based rewards are important, the company is happy for these to be cash-based rather than involving shares
Where the terms and level of the trust’s ownership allow it, the ability to pay bonuses free of income tax may be an added attraction

What happens next in the process will depend on which approach you have chosen.

Other considerations

Some do’s and don’ts

Individual share ownership

If employee ownership is to involve entirely individual share ownership, you should consider how your employees are going to acquire their shares?

Should they:

  • be given shares (these would be subject to income tax & possibly NI on their value when the employee receives them unless they do so through a SIP. However, if the shares are low value the tax consequences may be minimal)
  • buy shares (this will not create a tax liability as long as the price paid is at least market value or if the purchase is through a SIP)
  • be granted options to acquire shares in the future (no immediate tax liability created but there will be one when the option is exercised, and the shares bought, unless an exemption is available through SAYE, CSOP or EMI.

There are detailed guides available for SIP, SAYE, CSOP and EMI

Consideration should be given to the longer-term ownership of the shares and what will happen for, example, when an employee wishes to sell their shares. It is common to provide in the company’s articles of association that employees wishing to sell must offer their shares internally, and that if they leave they must offer them for sale

Where employee ownership results from transfers by the company’s founders, 100% individual employee share ownership may be complex to structure.

Hybrid Ownership

You will need to consider all the issues mentioned above and then establish a trust to acquire the shares in the company.  The trust will then transfer some of its shares to employees, or the company will issue new shares, (either by sale, gift or grant of options), normally over a period of several years.  The trust will retain a specified number of shares on a long term basis. For example, where an employee ownership trust has acquired all the shares in a company it will generally wish to ensure that it retains more than 50%, so that it retains control of the company.

Trust Ownership

An employee ownership trust (EOT), may be a key component in your company’s employee share scheme.

This will acquire a majority or significant ownership stake in the company, then hold it long term.

To create an employees’ trust, it will be necessary to prepare a trust deed which will be formal evidence of the trust’s creation and will set out its terms.

These terms may include how the individuals responsible for running the trust are to be appointed, any particular constraints on what the trust may do with its shares and, if the trust is intended to confer any specific statutory tax reliefs on those who sell to it or employees, (an employee ownership trust), specific provisions required by the tax legislation.

Other considerations

Whether the intention is to have individual, trust or hybrid ownership it is likely that an employees’ trust (normally an employee ownership trust) will need to be established as a single buyer from the selling shareholders.  It is complex to transfer what may be a significant holding of shares from existing shareholders to multiple employees in a single transaction but far easier to transfer them to a single body – the trust – which can then either retain them or transfer them to employees over a future period.  Once the trust has completed its share purchase, it will then either retain the shares (trust ownership), distribute some of them (hybrid) or distribute all of them (individual ownership).  Even under individual ownership, it may still be adviseable to retain the trust after it has distributed all its shares to employees, as it can then buy shares back from employees who subsequently wish to sell (or are obliged to because they leave) and then recycle them.

Before putting any arrangement in place there are additional questions that need to be considered, including;

  • the percentage of the company to be sold
  • how many shares and what their value is
  • how the payment is to be structured and what will the tax treatment be

These and other questions will be dealt with as the transaction progresses. The details of the questions and answers are unique to each situation so bespoke answers will be needed.

Some do’s and don’ts of employee ownership

DO

  • look at other companies that have introduced employee ownership and learn from their experience
  • review which form of employee ownership will work best for your company
  • think about the intended long term purpose
  • if individual employee share ownership is intended, consider how any internal share market will be handled and the tax ramifications
  • if an employee ownership trust is intended, do make sure you fully understand the tax requirements of the EOT legislation
  • communicate with employees regularly about the company’s financial performance
  • ensure you have a capable and committed management team
  • establish clear reporting lines between management and shareholders
  • consider training for trustees
  • look into the financial side carefully.  As well as requiring a full and independent valuation of the shares to be sold, it is wise to ensure that the company has carried out careful cash flow planning so that it can confidently fund its EOT to pay all agreed instalments of the purchase price
  • consider joining the Employee Ownership Association
  • do ensure that your company has an effective plan for leadership succession, if any founders are planning to step back

DON’T

  • appoint trustees exclusively from the board of directors.  This could result in personal liability and conflict of interests. Consider appointing employees (perhaps selected by election from amongst the employees) and perhaps an independent person. In any case, directors of the company should be a minority of the trustees
  • try to hide bad news. Employees in an employee owned company should be treated in the same way as any other shareholder.  They should be notified of bad performance promptly, as well as of what measures are being taken to remedy the situation
  • make arrangements too complex. Complexity tends to confuse – this means employees may not fully understand the benefits of the scheme, and also increases the risks of unforeseen consequences
  • let tax considerations dictate the structure of your scheme, except to the extent they are consistent with your primary aims
  • choose employee ownership unless you genuinely believe it is right in the long term for the company

This is a general guide only and should not be treated as advice. 

Copyright Postlethwaite Solicitors Limited 2020

An introduction to employee ownership by Robert Postlethwaite

  • Employee ownership

Robert Postlethwaite of Postlethwaite Employee Ownership & Share Schemes Solicitors

To explore how employee ownership or an employee share scheme could work for your company, call me on 020 3818 9420.

Robert Postlethwaite Managing Director