Thoughtware

Article 08/10/2018

100 Percent ESOP – The First Six Months After Implementation

Presenters/Authors
Dennis McGuire

You have just invested a lot of time, energy and effort in implementing an employee stock ownership plan (ESOP) to acquire 100 percent of your company. Prior to implementation, you met with stockholders, CPAs, attorneys, valuation experts, sureties, bankers and other interested advisors in order to make the most informed decision. The ESOP implementation was a challenging but worthwhile process.

However, now it is time to get back to running and managing your successful business. Your business operations will continue to be first and foremost on your mind; however, there will be a number of ESOP-related matters that will need attention post-implementation. Here is an overview of those considerations:

  • Cash flow – As a 100 percent ESOP S corporation, the company is now exempt from federal and generally state income tax. This can have a significant positive impact on long-term cash flow. However, for the immediate future, this tax savings likely will be used to fund repayment of the ESOP’s loan to acquire the company. While substantial cash flow planning was performed pre-implementation, it is important to revisit cash flow needs on a regular basis given this new structure.
  • Accounting methods – You have two principal options to consider:  Adopting purchase accounting or continuing to report assets and liabilities at historical values. If you adopt purchase accounting, your balance sheet accounts will be revalued at their fair values. This most likely will have a positive impact on the previously reported equity value and financial ratios. However, you will want to weigh the cost of implementing purchase accounting as well as annual costs of evaluating goodwill or other intangibles versus the benefits. If you choose to continue reporting assets and liabilities at historical values, the ESOP debt will reduce overall equity and affect a number of financial ratios.
  • Banking and bonding – Clear and timely communication of the above accounting method decision is critical to a smooth transition with your banks and sureties. Avoid interim or year-end financial statement or income tax surprises with clear and concise communication soon after the election.
  • Operations – The ESOP implementation most likely took time and energy away from your normal operations. The most successful ESOP transitions are those that have great management teams in place both prior to and after implementation. The elements that made the company successful prior to the adoption are a critical component of the continued success of your organization. Management should make a deliberate effort to refocus on the operations of the business and what has made the company successful.
  • Employee education – Your employees will be energized by your decision to adopt the ESOP, but they also will have many questions. Plan to schedule time periodically for discussions. Expect questions to center around topics such as income taxes, economic values, duties and responsibilities, communication protocols and related topics.

Again, congratulations on your ESOP election. This decision is undoubtedly one of the most significant organizational and strategic decisions in your company's history. You'll soon be enjoying the many advantages and benefits of your ESOP.