Employee Ownership Australia (EOA) has recently commenced working with Graeme Nuttall OBE from the European legal firm, Fieldfisher. Graeme is the author of “Sharing Success: The Nuttall Review of Employee Ownership”. This 2012 report for the UK Government succeeded in knocking down obstacles to promoting employee owned companies. As a result of the Nuttall Review’s findings the “Employee Ownership Trust” (EOT) was introduced. Graeme was involved in the design and implementation of this form of ‘perpetual’ employee ownership, which was passed into law by the UK Parliament in the Finance Act 2014 and has significant tax concessions to back it up.
EOA recently spoke to Graeme about how the EOT model has fared since its introduction and, in particular, in the difficult times of the pandemic confronting us all.
EOA: You have described employee-ownership trusts (EOTs) as ’a refreshingly different ownership model for private companies’. Why is this so?
GN: EOT ownership creates long term better businesses. An EOT means all employees have a stake in their business and a genuine say in how it is run. This produces better business outcomes and a great place to work.
There are two key dynamics. Firstly, the employees have a collective voice, through the trustee, in how the company is owned and governed. Secondly, the trustee uses its powers as controlling shareholder to ensure bonuses are paid to all employees so that every employee can share in the success of the business.
This is a distinctive business model in its own right. Employee ownership can be achieved through all-employee share plans but one reason the EOT is popular is because it has none of the administrative and financial burdens of operating such plans. Shares are held collectively on behalf of all employees: there’s no buying and selling of shares by individual employees. Once the business has funded the buy-out there is no need for ongoing financing of the EOT.
Since 2014 over 300 companies have converted to EOT ownership covering tens of thousands of employees.
What has been the effect of introducing EOTs in the UK and how significant are the EOT tax exemptions?
Employee ownership has grown phenomenally in the UK since the EOT was introduced. Since 2014 over 300 companies have converted to EOT ownership covering tens of thousands of employees. EOT ownership is now a mainstream ownership model for businesses such as architects. The annual growth trajectory was impressive, prior to the Covid-19 pandemic. This is because the EOT has met a latent demand from baby boomers for an attractive business succession solution, although the EOT can be introduced at any stage in a business lifecycle.
The EOT works for companies of all sizes and across pretty much all sectors. There is flexibility in structuring a move to EOT ownership, in that it allows existing owners to time their exit to meet their personal situations and they can remain as minority investors if they wish.
The commercial merits of the EOT business model are its selling point. The UK tax exemptions are important “nudges” to encourage advisers and owners to consider EOT ownership but, in my experience, they are not the main driver. There is a complete exemption from UK capital gains tax, when individuals sell a controlling interest to an EOT. Until recently this usually only provided an additional 10% tax saving, compared to other reliefs. There is a UK income tax exemption for certain employee bonuses paid by an EOT controlled company. This means bonuses can be paid tax effectively without having to set up and award free shares under a share incentive plan.
…the EOT has met a latent demand from baby boomers for an attractive business succession solution, although the EOT can be introduced at any stage in a business lifecycle.
When it comes to thinking about business succession and sharing ownership with your employees, how do you get across this bigger picture?
Advisers need to wake up to what many business owners really want. Advisers must rethink their standard response to the question, what ways are there to sell my company? They must explore whether an employee buy-out, through an EOT, would meet all their client’s aims.
The usual exits for owners of a company such as an ASX listing, a trade sale, a sale to private equity, or a management buyout all have their own limitations. Why be pressured on timing or take on the commercial risk of negotiating with third parties? A sale to an EOT is a neat exit because the existing owners can control when and how the transition happens.
Moreover, a sale to an EOT trustee meets wider objectives that aren’t satisfied by the usual succession methods. Sellers can be proud of selling to an EOT. An EOT buy-out is a way of recognising the contribution employees have made to the success of the business, continuity can be achieved for customers and suppliers and an EOT sale can avoid the dismissal of employees or the closure of premises that often occurs with other types of exit. Also the business ethos, the “sellers’ legacy”, is more likely to survive and prosper.
Sellers can be proud of selling to an EOT. An EOT buy-out is a way of recognising the contribution employees have made to the success of the business.
With economies everywhere under pressure from the effects of the coronavirus pandemic, and with business conditions likely to take some time to improve, the big question in business everywhere is surviving the market down turn.
How do you see EOT owned companies managing the tough decision-making needed in this climate?
EOT owned companies start in a very good place when it comes to difficult decision-making. Employees have an EOT trustee board to look after their interests and to make sure senior managers consider both the financial and non-financial impact of defensive measures. But trustee intervention is unlikely because management instinctively takes employee interests into account.
Employee ownership means employees are better informed and so will understand and trust what senior managers are asking of them. Consultation structures allow employees to influence decision-making, which avoids a time-lag when action is needed. I’m confident the EOT model will survive these extreme management and employee relations challenges with its reputation intact.
EOT owned companies will manage their cash flows in much the same way as other private businesses but typically with some marginal advantages because of how they are owned.
Will capital raising become an issue for EOTs?
We are used to listed companies turning to shareholders, or at least their institutional shareholders, for extra capital by issuing shares at a discount (and probably diluting retail investors who aren’t allowed to participate). But this doesn’t happen as a matter of routine in private companies and so I believe it’s unfair to criticise employee-owned companies for failing to raise capital from third parties. No-one criticises, for example, limited liability partnerships (LLPs) for failing to take in “investor” partners to raise extra capital. If a particular business model has been adopted the owners will try to keep true to that model.
So, continuing the example, LLPs turn to their partners who hold back from distributing past years’ profits to ease cash flow concerns, and if that’s insufficient they look to cut their employees’ salary costs and other measures. EOT owned companies will manage their cash flows in much the same way as other private businesses but typically with some marginal advantages because of how they are owned, including:
(i) Cash reserves
In the case of companies owned by EOTs, my experience is that they have good cash reserves because the business is run with medium to long term priorities in mind, rather than just short term concerns. This means they tend to be well run and have prudent reserves. Some EOT owned companies can chose to finance short term losses from reserves.
(ii) Furloughing
In many UK companies there is “furloughing” of staff who cannot do their jobs (office maintenance staff, events managers and so on) or who are otherwise under-employed. Furloughing is a UK scheme under which the Government pays part of the salary cost of someone who agrees to stop doing any work. Again EOT owned companies seem to have introduced furloughing in a compassionate and fair way, in contrast to practices at some non-employee owned companies. It has to be said that most UK companies are being sensible about furloughing.
(iii) Salary cuts/hours cuts
In other cases, all employees are being asked to take temporary wage cuts and/or work reduced hours to manage cash flow. Again EOT owned companies appear to be reasonable and fair in what they are proposing and employees (who are kept well informed anyway about how a business is run) are accepting such changes, which again are voluntary. I am not aware of any EOT owned companies that have made a mess of introducing across the board salary cuts, in contrast to some traditionally owned businesses.
(iv) Bank borrowings/grants
EOT owned companies are also turning to banks for support. Again my experience is that well run businesses aren’t experiencing any difficulties. Some banks need to be told that personal guarantees aren’t available from the EOT trustee but that seems to be an educational issue rather than a systemic problem.
(v) Redundancies
Furloughing has helped prevent redundancies. In past recessions, employee owned companies have managed redundancies well, for example, older staff with fewer financial commitments volunteering and staff offering to share a job and similar employee driven ideas.
EOT ownership is a refreshingly different way of doing business. I see the popularity of the EOT growing now we all recognise how “good work” is so important to individuals and society.
So you see that the predicted growth path at the beginning of 2020 for the EOT will be sustained?
Some UK employee-owned companies are suffering, especially a few smaller businesses where sales stopped overnight as the UK went into lockdown. There will be some setbacks – there always are in business – but the attractiveness of the EOT model for business successions will be maintained.
EOT ownership is a refreshingly different way of doing business. I see the popularity of the EOT growing now we all recognise how “good work” is so important to individuals and society. Hopefully, we will soon see the EOT business model operating in Australia to implement employee ownership in the same way as it is doing in the UK, and more recently the USA.
Thanks Graeme
An introduction to the employee ownership trust (May 2021). An excellent, new introduction to the EOT by Graeme Nuttall.
EOT Webinar with Graeme Nuttall OBE (April 2022)
Employee ownership trusts: a flexible solution to business succession (Webinar, Prof. Andrew Pendleton, University of NSW, June 2022)
Meld Studios: Australia’s first company to become Employee-Owned by Trust (July 2021)
See also our “Business Successions” page and our “Employee Ownership Trusts” page
See the filmed interview with Graeme Nuttall by EOA’s then Chair, Angela Perry in 2012 here.
For an excellent webinar discussion/presentation by four EOT businesses in the UK and the US, lead by Graeme Nuttall (June, 2020), go to “Employee Ownership Trust Company Panel”
