The Scottish Government recently announced a plan to make Scotland the ‘best country in the world for employee-owned (EO) businesses’ and wants to increase the number of EO businesses fivefold by 2030.
According to First Minister Nicola Sturgeon: “All the evidence tells us that employee ownership delivers benefits to business performance, the people who work in them and the places in which they are located… We want to make it easier for companies and workers to find out more about this model.”
We’re very much behind her on this. Employee ownership can be an excellent strategy for succession planning, exiting a business, and/or boosting performance.
A recent survey of 100 EO businesses by the Employee Ownership Association found they have higher levels of productivity and efficiency than non-EOBs, better workforce retention and recruitment, and a strong record of encouraging employees at every level to drive innovation – itself a way to fuel resilience and growth.
There are also tax benefits for both owners and employees. Owners who sell more than 50 per cent of a company to employees receive capital gains tax relief (as long as certain conditions are met) so they pay no tax on the sale. Owners can retain a minority stake so they still benefit from future profits and a sale. Furthermore, staff in an EO business are eligible for (but not guaranteed) a tax-free annual bonus of up to £3,600.
The benefits can be reaped across different sizes of business and sectors too. While the most famous example of an EO in the UK is probably the huge John Lewis Partnership, we’ve seen it work well for a business with nine employees.
Our most recent convert to EO was one of the UK’s leading book production companies: Palimpsest Book Production Company, established by Craig and Ruth Morrison in 1994.
Craig and Ruth chose the EO model as a solution for securing the future of the company and giving the employees the opportunity to participate in that future. We helped them set up an Employee Ownership Trust which now holds a controlling interest in the business on behalf of the 21 employees.
There will be around 500 such businesses in Scotland by 2030 if the Scottish Government’s plans come to fruition. Currently there are just over 100, generating combined turnover of around £940 million.
So, how does EO work and how does a business go about it?
There are three types of employee ownership available, each with its own pros and cons:
Direct employee ownership – where employees become individual shareholders. Benefits of this include employees feeling directly engaged in the future of the company. However, each time an employee moves, on the shares need to be transferred to someone else, with commensurate paperwork to be done and potentially stamp duty to be paid.
Indirect employee ownership – where shares are held collectively on behalf of employees, normally through an Employee Ownership Trust. This offers simpler ongoing administration and quicker decision-making than direct employee ownership.
Hybrid ownership – this model combines the two with some of the shares being held by a trust and other shares by individual owners (and sometimes the departing owners). The flexibility of hybrid ownership allows for the current owners to scale down their holding over time and make a phased exit from the business (good for continuity) or for shares or share options to be held by the new management team to attract or incentivise the new driving force of the business.
In each case there will be practical and commercial decisions around, for example: the value of the business; employee engagement and incentivisation; how to raise finance to buy out the owners; the tax implications; the pace of the buyout; governance.
All decisions about moving to employee ownership also need to made in the wider context of tax, employment law, protecting intellectual property and other assets, and the overall financial climate and landscape for raising finance (either through mainstream lenders or other sources). If the business is family-owned there may be relationship and succession issues to factor in as well. It is vital that any move towards EO should be made with advice from EO advisers, lawyers and accountants who have expertise in this area.
Douglas Roberts is a Director in Lindsays’ Corporate and Commercial team