Employee ownership ARW Transformers Ltd

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Background

The owner-directors of the company attended a seminar in 1997 organised by Employee Ownership Scotland focusing on succession options for retiring owners and, in particular, promoting the option of selling to the employees through an Employee Share Ownership Plan (ESOP). The company is now jointly owned by the employees and the management and the Employee Benefit Trust (EBT) which through time will distribute shares to the workforce through a Profit Sharing Trust (PST).

 The options

For the retiring owners there were three clear options for an exit and a realisation of the value of their shareholding and these were. A trade sale, a management buy-in, or a sale to the existing management and employees. Employee Ownership Scotland was able to persuade the owners that a sale to the existing management and employees was the most viable and easily achievable option.

 The process

Initially the process was driven by the retiring owners as it was they who approached Employee Ownership Scotland through a seminar. As with all potential successions the EOS method is to take a hard look at the feasibility of employee ownership focusing on future profitability, management potential, the marketplace, and the potential to raise the capital for a buy-out. Following this EOS proposed a corporate finance strategy which would buy-out the retiring owners, put fresh capital into the business through the EBT shareholding, and making use of discrete invoice discounting to ease cashflow.

The owners then had to be persuaded that this was a good deal for them, the employees had to be informed of the benefits of ownership, and the management had to be informed of the benefits of staying on in the new business. All this was accomplished at a series of meetings and presentations.

 Raising of the finance

The first stage of finance raising was to determine the amount required and obviously the agreed selling price would have a major impact on the capital requirement. The agreed price was settled on negotiation at around net asset value. The means of raising the finance was as follows:

Initial equity

Subject to audit of the 1997 accounts ARW will have a net book value of around £400,000. Two current directors were looking to exit but were not looking to realise full value as above. . The third current director will remain in the business but it is proposed to reduce his holding.

New equity

Four of the current management team accepted 500 shares (on the basis of the above valuation). With the existing director, this would give the new 5 person management team 55% of the equity.

Employee Share Ownership Plan

An integral part of the ESOP mechanism is the Employee Benefit Trust. It was proposed that the two exiting directors and the remaining director sell their holdings to the EBT at par and receive the balance of their discounted valuation in the form of pension contributions.

Employee shares

The new equity structure sees the 5 new directors with 55% and the EBT with 45% of the equity. As the company continues to generate profit the ESOP mechanism will use pre- tax profit to distribute the shares held in the trust to all employees. The shares still have to be held in trust for 3 years to avoid being treated as a benefit in kind.

Share purchase

This requires cash to be readily available (their is sufficient retained profit on the balance sheet) and it is intended to factor the company’s debtors to this end. This reduces the Net Worth of the company but greatly reduces the borrowing requirement of the buyout.

 The full process

The company continues to trade and use its profits to fund the purchase of the shares held by the EBT. Given that these shares were bought at par from the exiting owners, the EBT would show a substantial profit on sale to the PST/employees at current valuation. This would strengthen the balance sheet on re-investment and enable further distributions to the employees.

 The conversion

The company is now employee owned and looks forward to profitable trading.