It’s likely that most Phoenix business owners have encountered a company that offers an employee stock ownership program (ESOP) in the past few years. In Phoenix, some of the most successful companies are exploring whether an ESOP is right for their business, and word of mouth is a powerful tool in the business community. When something works, others want to try it. Because of this, ESOPs are trending in the region and across the country.
According to 2024 Department of Labor data, there are 97 ESOPs in Arizona with 16,220 participants. Many are centered in the Greater Phoenix area, and there also tends to be a higher concentration in the manufacturing or construction industries.
For those considering implementing an employee ownership program as the next phase of their company’s legacy planning, it is useful to know the current status of ESOPs and tips for maximizing opportunities heading into 2025.
ESOP Basics
An ESOP is an IRS-permitted retirement plan that business owners can offer their employees as a method to pass along the company to their employees by selling any portion of their company into stock ownership plans.
Good candidates for ESOP programs include businesses that have been operating for five-plus years and have strong cash flow and solid management.
Typically, the process begins with a business selling to an ESOP trust. A bank usually provides a portion of the financing to the sponsoring company, which in turn makes a loan to the ESOP to finance the acquisition with the seller(s) providing the balance of the financing in the form of Seller Subordinated Notes. Every ESOP has its own rules when it comes to tenure requirements and vesting schedules, and eligible employees are awarded shares as the ESOP loan is repaid and shares released according to the established ESOP plan document. Setting up an ESOP can seem overwhelming from the outside, which may deter owners from pursuing it. An ESOP team can be large and includes the sellers, the bank, the trustee to ensure accuracy of shares, attorneys for the bank, company and trust, as well as financial advising firms assisting with the underwriting and structure.
While this seems complicated, working with a bank can make this a bit easier.
To Sell or to Stay – That Is the Question
Employee ownership programs have been around for a long time. The popularity of ESOPs ebbs and flows depending on things like valuations and what’s happening in the economy.
Until recently, many private investors, private equity firms or larger strategic companies were purchasing companies outright. In recent years, there has been a slowdown of these purchases and a rise in ESOPs providing a vehicle for owners to obtain liquidity while providing employees a direct stake in the company through ownership. When determining what steps to take with their business, an owner has options to choose from that work best for their circumstances and how active they hope to remain in the business.
UMB has taken an active role in leading ESOP deals for established and stable companies with solid management as a way to further help business clients on their ownership journey.
An example of a banking benefit is, when a company is sold, a valuation is completed before the initial sale. Employee owners can see additional value if the company continues to do well and prices of their shares increase. For those selling to another company, the valuation will not shift. Banks such as UMB can help with that timing by using succession planning resources. Financial institutions have experience in this area and can help structure plans from start to finish. This can also help with some of the “outsiders” to make the process smoother for sellers.
Beyond owner and company benefits, ESOPs benefit the local economy, and that can be important to someone who has spent their career in one area. In 2018, ESOPs in Arizona distributed $2,705,299,609, helping local communities, workers and businesses thrive, according to the ESOP Association. And working with a local bank keeps the dollars in the region as well.
Those with a longstanding relationship with their business banker can discuss implementing an ESOP with them to get the process started.
Advantages of Working with a Bank on an ESOP
- Typically unsecured loans
- A wealth of experience across ESOP, lending, succession planning, etc.
- Protection of the company’s values vs private buyout
- Money stays local when using a local banking institution
- Less risk than financing alone
Frank Gorman is the executive vice president of commercial banking at UMB Bank in Phoenix. He is a Phoenix native, has his finance degree and MBA from Arizona State University and has worked locally in banking since 1984. He is an established banking leader on deposit, treasury and complex financing needs, including cash flow, enterprises lending and ESOP financing.
