The majority of contractors employ 20 or fewer employees. Deciding what to do with a small business can be difficult as you approach retirement age.
Based in Southern California, Scott Eichler is a registered investment advisor and founder of Standing Oak Financial. He said he encourages customers to consider employee stock ownership plans as part of succession planning.
Here, Construction Dive talks with Eichler about when ESOP is a good fit, what pitfalls to avoid, and when to start.
Editor’s Note: The following has been edited for brevity and clarity..
CONSTRUCTION DIVE: If I were a small construction business owner, what would be the best succession options to consider as I approached retirement?
Scott Eichler: The first question that needs to be answered is “How long do you have?” If you are under 3 years old, your options decrease sharply. The caveat here is that you don’t want to wait. If you are 30, 40, 50, or 60, you should start answering this question today. Procrastination only makes it more difficult.
The second question is about the size of your business. If your business earns more than his $1.5 million, you should strongly consider employee stock ownership. However, if your business is low income, there are some other tools that can come in handy. Something like a cash balance plan is often a useful tool when paired with a sales contract.
A third key issue is identifying a successor. Is the person already working for you? Do you already have a strategic alliance with that person/company – ideally someone you like to work with and can transition the relationship from 3 to 5 years for him. Ultimately, that’s the benefit someone is likely to buy. They want to transfer the trust you have built with your clients.
Why sell to employees instead of another business?
Relationships, relationships, relationships. Our industry is all about relationships. Unless you have proprietary tools, processes, or other assets with patents, you are selling an established relationship. The best buyers of these relationships are those who already have some form of relationship with their clients. they are employees.
Construction companies are notoriously difficult to sell to third parties. More importantly, the IRS encourages this behavior and provides significant incentives to sell to employees. Owners selling to employees often make more money than selling to third parties. This phenomenon is closely related to these tax incentives.
There is considerable evidence that employee-owned businesses are often more productive. They have skins in the game. they are less likely to leave. They have more incentive to be productive. Our interests match!
Finally, some of your employees have shed blood, sweat, and tears (and got paid) to help you. You will be amazed at how good it feels to do something amazing for them and their families. Never deny that feeling. It’s a long way. That’s a great story.
How do contractors set up an ESOP?
The first step is to find a financial advisor who specializes in the ESOP area. They will help you make an initial assessment. And for that matter, you don’t need an advisor who only offers ESOP services. You need an advisor who considers multiple avenues to experience the benefits of your exit. They should have access to private equity, experience in mergers and acquisitions, etc.
What are the main pitfalls to be aware of?
We all aim to maximize the value we get from selling our business. Time and returns work in your favor. Fees/costs and taxes work against you. It may seem obvious, but we’ve often seen people adopting an exit strategy based on whole life insurance fail to realize the huge impact of premiums. When used correctly, insurance is fine, but these solutions are weighed down by insurance costs that water down returns. You want to find an advisor with the right licenses and tools to maximize your chances of efficient planning.
Additionally, you need an advisor with succession planning experience. In many cases, the advisor managing the funds is not the advisor managing the ESOP trust. that’s ok. But it’s okay. This keeps everyone focused properly. It creates checks and balances.
The biggest pitfall I always tell is don’t wait. The most important tool in your bag is time. If you’re procrastinating on this, drop that habit instead of crying over spilled milk. Start looking. I send a mail. engaged.
How soon should owners create these plans?
You have to wait until cash flow is positive. We can’t do much for you if you’re spending every dime you earn. Please reach out after reading this sentence.