Innovative Financing Solutions for Employee Ownership Initiatives - Part 2

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Welcome back to part two of the conversation I'm having with the wonderful Alison Linda, um, about employee ownership, about, um, capital, about democratic business practices, about all kinds of stuff, man, we're having a great talk here, um, and I am excited. If you didn't get a chance to listen to part one, go back. and listen to that because Alison got to share with us, um, kind of how she became passionate about the work that she's done with an organization that she co-founded called Project Equity, and a new project that she's working on called the Ownership Capital Lab. Um, it was a really great conversation because I think it was a really great overview into the mindset around why is employee ownership becoming such a hotter topic of conversation right now. And I think that's sort of where we want to pick up when we were finishing our conversation, Allison, Alison, thank you. Welcome back to the show. So glad to have you here today. Glad to be here. Thanks so much for having me. Yeah, so we were kind of finishing off by talking about that there's these different ways. That, um, you know, businesses have been transitioning to models where instead of just having a private owner, which is what we traditionally think of in, you know, in an entrepreneur, um, business owner situation, two models where there's actually more democratic and usually. Employee owned aspects of the business. You know, you mentioned this could just be having employees on the board. It could just be allowing them to vote on certain things. It could just be putting in your structure some ways where employees get to have ownership and take ownership of their work. Um, so I guess I'm, I'm curious, you know, if, if I was, if I'm, if I was a business owner listening to this out there, and I might think to myself, why on earth would I want to do that? Why on earth would I want to give up any ownership of my business? I took all the risk, you know, I, you know, I started this thing, whatever they might be thinking, I guess when you see business owners who are excited to transition to employee ownership, uh, what is going on there? Why, why would someone want to do that? Yeah. Well, it's usually one of two things. So, So, you know, a business owner that maybe earlier in their career might see this as a way to really, um, you know, put a lot of fuel behind that employee engagement piece of the business. So, if you were to think about, you know, you're a business owner, and most typically, a business owner has all of their assets in their business, um, you know, some are lucky to also have, you know, money on the side or investments on the side, but the typical business owner, that, that business. Really is, is their, their asset base. So, um, you can do two things at once. You can do a partial liquidity for your, you know, maybe you're 10 years in, you know, for your 10 years of work. Um, and you can get, get a little bit of that, that value out of the business to be able to diversify your assets by doing a partial sale of your business to employee ownership. So maybe you start with a 10% or a 30% sale of the business. And by doing that, you, you really Have this, this powerful tool for increasing employee engagement, for really building that ownership culture that we're talking about that can have outsized business results for your going forward, say, 70% ownership value of that business. So if you think about the ability to grow the the whole pie, so maybe you sold a portion of it and you've gotten your liquidity out of that, but then the rest of the the whole pie, the whole value grows as you have this deeper employee engagement. So that's really the first scenario that we see and most typically we do in that scenario see a partial sale. I often call it the on-ramp to 100% employee ownership, because now, OK, so maybe you're 10 years in and maybe at that 20 years or at 30 years, you're ready to, to exit fully and you're ready to retire. You actually have your retirement vehicle already set up. So that you can then sell the remaining, say, 70% of that business at retirement, and you can do it on your own timeline, you know, quote unquote, on your own terms. Of course, the financial terms are going to be a, a negotiation and based on market value and all of the above. You have a tremendous control over how that, how that unfolds. You can separate. the timing of your own exit operationally from the business and the, and the partial or full sale of the ownership structure. So, so those two can be separated in time either because that's what works best for you and or because that helps the business have, you know, fewer big changes at once. So it helps it be more stable and And you know, ultimately more profitable for all involved. So, so whether or not this is a, a succession plan and you're looking for an exit or it's really about employee engagement um as a tool to, to, to increase the business results, you know, you can, can think of, think of employee ownership in in both of those ways. Yeah, I definitely think that there's a bit of a mindset in the business culture that is very much influenced obviously by Silicon Valley, right? And that that mindset that I've seen a lot of is very much scale and exit, you know, like, let's scale this thing and then let's exit. Um, but I also know that like, when I think about the small businesses that I grew up in kind of the You know, whether it was the coffee shop in the beat up downtown that I grew up in, or it was, um, you know, any of the other number of businesses that I really loved and really made the place that I lived in feel like home, um, you know, it seemed like it was more for those businesses. It was more about a legacy and it was more about their community and I think that with that trend that we see in tech and then in some other places where the trend seems to be that you build a business so that it can be bought up by a bigger business. And then just absorbed into some larger conglomerate of businesses. It seems like this might be a way um for those business owners to leave that legacy in their community, um, without having to just kind of get eaten up by the big guys if they've, uh, you know, as they're retiring. Yeah, very well said. You know, today we teach, we when we teach entrepreneurship, we usually also talk about planning for your exit. Like, how are you, what are you? Growing in order to be able to exit it. Now, if you, if you rewind the clock 40 or 50 years or a couple of generations, um, that's not at all how people thought about their businesses. You know, they thought about businesses as, well, I'm going to start a business and it's going to support me and my family. And then, you know, we're going to be a community anchor and we're going to do good things, right? You think about the, who's sponsoring Little League, just, just to, to call it that, but many, many wonderful things in our communities, right? It's the small businesses that are vested in those communities. And, you know, when we think about, again, roll back the clock 40 or 50 years, if you were to land in, in any, any town USA, right? It would look unique. It would have its unique character, its unique set of businesses. Today, if you land in any town USA, we don't have that as much anymore, right? Because many of the same brands are, are in, in, you know, what is your local coffee shop? What is your, right? Um, And so, so yes, the, the, the difference between a business owner starting today or a business owner who is retiring today, you know, the baby boomer generation is generation of, of, of entrepreneurs. So, you know, today we have nearly 3 million businesses that are, have owners at or near retirement age. And that is, that is because the baby boomer generation, um, and, you know, generations prior that are still running their business. Businesses are very, very entrepreneurial. That's 1 in every 2 locally owned businesses with employees. So 1 in every 2 private employers is owned by somebody who needs to find a buyer for their business because they're at or near retirement age. So we have, first off, we have this, this, this massive number of local businesses in our community that are the community connected organizations, right? They're the ones who hire our teenagers. They're the ones who Who sponsor our, our local organizations, um, and they circulate their money in the economy 3 times more than than national chains or corporations. So half of those businesses need to find a buyer in the next 1015, maybe even extend it to 20 years forward. Um, and we, so that means we have a supply demand imbalance happening and the, the good, one of the other like really. Powerful things about employee ownership is that it creates a buyer group for every single business. Every business has a built-in buyer group in the form of its employees. So you're a business owner and you're trying to figure out how to sell your company, right? What are your options? Well, many business owners are, are regularly getting inbound emails from, you know, from private equity talking about interest. In investing or acquiring, so you can definitely go that route. And by the way, there are some employee owned private equity firms, I'm sorry, firms that are, are operating like private equity that focus on employee ownership, that are doing the same thing. They're going and contacting business owners and saying, Hey, I'm interested in acquiring your bus acquiring your business, and by the way, we can do it and, and maintain your legacy. So you may be getting inbound interest, or maybe you're thinking, I'm gonna go list with a broker, and I'm gonna find, find a buyer for my business that way. Well, depending on the community, you may have a, a, you know, varying amount of luck. Business, we find that business owners in rural communities have a harder time finding buyers. And it's simply a numbers game, right? There aren't as many people there who are likely to be interested in that particular business at this particular moment in time. And so, so, you know, whether it's a rural business owner, suburban, urban, you do have a built-in buyer group in the form of your employees. And you can really leverage that opportunity to be able to keep that business locally owned. For many businesses, their name is on, you know, you're, you're the founder of the business. You put your name on the business, right? So, so this is your, your legacy, your family's legacy. Um, and you can can maintain that local ownership and have it carry forward and be a really impactful local business that you can look back on from retirement and be really, really proud of. Yeah, and be able to say that not only did you start something, but that it's going to continue on because I, you know, one of the things I've been seeing is that a lot of these folks who are hitting retirement age and spent their whole lives dedicated to building their business, um, you know, when you, a lot of times people want to think. The ideal of passing that on to their children, but you do see the numbers of that usually when that happens, it's out of business within a generation, if not two. and so it does seem like, well, if the option is either, you know, force it on my kids who don't want it maybe or um sell to some mega conglomeration, this gives them a path to be able to say, hey, the people who helped me build this, the people who have been with me for all these years, let's pass it on to them. And I also know that there's a new model where there's you can set up a trust that the business would be housed within and then the mission of the trust is to um serve the interests of the business and of the people who work in the business and you can even include the community. That the business lives in, which I think is just this really kind of beautiful way for someone who wants to start a business to make the world a better place, to have their impact on the world, to be able to actually see that live on past them rather than just seeing it bought up by, you know, some conglomerate. Yeah, absolutely, yeah. So, so you were, you were referring to, to the employee ownership Trust or EOT for short. Yeah, we had on um Jenny Everett and her colleague Mark to talk about that, um, a couple episodes ago. Yeah. Fantastic. Yeah. So just, just for your listeners, the three main forms of broad-based employee ownership include the ESOP, employee stock ownership plan, which Comes with a tremendous tremendous tax benefits, um, the largest form of employee ownership in the United States because of those tax benefits. The second largest form today is the worker owned cooperative, which is, you know, a cooperative in the same vein that a farmer co op or a rural electric co op, uh, or a consumer food co op is a cooperative, but it's the workers who are, it's owned and governed by and for the benefit of the workers. And then the third main form, which is the newest in the United States, but is well established in Europe, is called the EOT or Employee Ownership Trust, and it utilizes a perpetual purpose trust, trust, that's the trust structure. And so that word purpose is really embedded. So you can, um, you know, for those business owners who, who really think about their business and operate their business with a double or triple bottom line, and that And that mission is centrally important to their work. Having that mission really um sort of protected over the long term in that perpetual purpose trust, uh, can be a very beneficial approach to take. And you know, when we talk to business owners, we never start with oh which form of employee ownership. We always start with what your goals are. What are the, what are your goals personally? What are the the goals of and then. Goals for and the needs of the business and the workforce and the broader stakeholder set. You will often, um, do an exercise with a, with a business owner and ask them to think about, OK, you've, you've sold your business. Now imagine you're sitting 5 years hence, looking back on it. What is it that you want to see? What really matters to you? So that kind of a thought process really helps to crystallize what those goals are and what the priority is of those. Goals. Of course, everyone wants to be paid fairly for their life's work. Check, right? Employee ownership does that. It's a market sale. Um, but then the other things around, around legacy and who's taking care of and what's taking care of. Do you want that mission ensconced, right? Like, what, what are those priorities? And then from there, we can help match to what is the right form of employee ownership that's going to help you meet those goals most effectively. And I wanted to also just, just pick up on a, a thread we're Chatting about a couple of seconds ago about all of the, you know, important ways that employee ownership operates within a local economy. And you know, when we, when we think about, um, especially economies that depend on, on manufacturing or production where you've got supply chains and other suppliers, and we think about the fact that 1 out of every 2 privately held employer businesses needs a buyer. Um, you know, we often think about the big companies. So, you know, you've got a really big manufacturing company and it's really important that we maintain that business. But what we don't always frequently talk about is, well, who are the suppliers to that big company? You know, we often call those tier one is the really big ones, tier 2 are the first level suppliers. And then there's the tier 3 suppliers and the size of those companies, right? Tier 2 are smaller than tier 1 and tier 3 are going to be significant. smaller because they're smaller than the tier 2. And when we get down to those smaller tier 3, that's the bedrock, right? Without those tier 3 suppliers, those tier 2 companies can't be successful, and so on and so forth up the chain. And so it matters that we are thinking about all companies, all sizes of companies in our economy, and that we have a tool to retain all of those businesses as we go through this great silver tsunami of the business, the ownership transition of companies. And for, you know, for your listeners who may be business advisors or, or businesses, you know, recognize your value in the supply chain, right? If you're a tier 2 or you're a tier 3, you are as important as the, as the big guys. And so, you know, the importance for you of prioritizing succession planning, it's a first order order business, right? So action planning often ends on tomorrow's today, to do list, because, oh, I'll get to it later, right? It's like saving for retirement. We're eating more broccoli. I'll get to it later. But we really need all of our business owners to be paying attention to their own succession so that those assets that, you know, you've spent your life building up those business assets and those jobs, that those don't go away when you retire. We want, we want those assets to, to main maintain. In our communities and our in our local economies. Yeah, because when I do think back to, you know, cities and communities, whether they're, I mean, I grew up in a town of 600 people, um, and you know, I, I've lived in cities as well, but it's, it's when I think about the stakeholders in the community who usually really kind of cares care a lot about the community that they're in, a lot of times it is those small business owners, um, and so I, um, it just, it, it makes. Sense to me on that level. I guess, you know, one of the biggest things that I think we we touched on it a little bit in the first half, but I'm wondering, it still felt a little fuzzy to me. You mentioned that if a business were to move in this direction and say, yeah, like I want to sell a portion or maybe, you know, half of or whatever it is of my business to my employees, um, but my employees like they're not, they they they're not capital investors. They don't have a ton of money laying around. How exactly does does that process. Yeah, yeah. So, so the, the high-level takeaway for, for anybody listening is that in an employee ownership transaction, it is not the employees that come with the financing. The business is the one that takes on the financing for the sale of the business. So, I'm gonna just use a, a, a simple example here. So whether your business is worth $10 million or $1 million or some totally different number, let's say that it's a million dollars. Just for easy math. So you're gonna sell your million dollar business, uh, and turn it into an employee ownership trust. And so, so where does that million dollars come from? So most typically there is going to be a seller note for any of these transactions. And that seller note, depending on where the financing comes from, it can range from, say, 15 or 20% if you're engaging with one of the more private equity style investors, um, To 30% if your financing is coming from a CDFI, a community development financial institution, or if you're in the $10 or $20 million range and you're getting bank financing for an ESOP transaction, you may need a more like a 50% seller note. So, um, so there is at least some skin in the game that is that that that business owner is going to need to hold on to. So let's say it's 20% in my million dollar example. Uh, so, so that means that, um, what's gonna happen to the remaining $800,000. So you're typically gonna have, um, a, a, a senior lender, maybe a senior and a junior, more likely to have a senior and a junior if it's a much larger transaction size. So you'll maybe have a lender that is, is bringing $800,000 of loan capital to the table. So that means that on the day that you sell your business, you're getting a check for $800,000 and then over a period of, say, 5 years, you're getting a, a payment, think of it like a 5 year annuity payment on that remaining 20% value of the company with interest. So, you know, yes, you're holding on that seller note and you are getting compensated through interest. So, um, you know, where does that financing come from? And this is, you know, back to we were talking in our, our previous, um, conversation about the how employee ownership is very siloed. So a typical business owner isn't gonna know where to get financing because it's very hard to walk into a local bank and say, hey, you know, I'm selling my, my company and I've got 30 people who are the buyer group on the other end, and the bank's gonna say, well, which one of them is going to sign for the personal guarantee? Well, that doesn't really make sense, right? That's a kind of a square. Pay groundhole issue. But the good news is, is that because of this issue, there have been a number of, uh, I mentioned CDFIs that stands for Community Development Financial Institutions. These are federally regulated financial institutions that have more flexibility because of that community mission. And so there are a number of CDFIs that exist. Some are regional, but there are several that are national in scope, or nonprofit loan funds that have stepped in to really bridge this gap that is that the bank finance. gap. So there is financing out there, and the best way to identify it is to, to work with an organization that specializes in employee ownership because they're gonna, they, they're going to know all the people, they're gonna know which sources of financing are going to be the best fit for you, um, and they're just going to make it a whole lot easier. Yeah, yeah, and that's, I mean, that's where your background really lies was in actually you've, you've helped dozens and I mean, how many, how many businesses through, through Project Equity, the organization you co-founded. Have you all helped transition to models of employee ownership? Yeah, in its first decade, Project Equity has has supported 25 companies to become employee owned, so we've got a lot of experience across all three forms of broad-based employee ownership, and I say we, I mostly mean that the team that is carrying the equity forward. Um, but you know, I personally, of course, have, have experience with that and, and, you know, project equity also has, um, you know, raised capital to finance the transitions and, you know, I founded a fund called the Employee Ownership Catalyst Fund that is wholly owned by Project Equity, um, that, that does provide flexible capital for all, all of the main forms of broad-based employee ownership. Well, I wish we had time to get into uh what. We're moving into next, but we'll just have to have you back. Um, thank you, Allison, so much for your time today and for all of you listening out there. Thank you. Make sure to subscribe on all of the platforms where you get your podcasts. Um, and until next time, remember, we are each other. Thank you for listening. If you liked what you just heard, be sure to subscribe to the podcast and be sure to visit bizradio.us to find hundreds of other engaging conversations, local events, and more.