Successful Succession

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IntroductIon

I had several offers to buy the business over the years; most of them would have resulted in Clansman Dynamics relocating overseas. Scotland has a proud tradition of engineering; I wanted the company to remain here. When I had to start thinking

about business succession, I wanted to find a way to anchor the firm here for the long term for current and future generations of engineers. Employee ownership enabled me to do that.

Several years on, I’m happy with my decision. I achieved the price I wanted and I’ve remained involved with the company. We export 95% of our output and customers have been very positive about our ownership structure.

The employees have risen to the responsibility of ownership and have a much greater understanding of the business than they had before. If you had told me five years ago that engineers would be challenging me on margin and currency transactions I would not have believed you!

I have no doubt that I made the right decision. I still get approaches now for the company. I’m delighted to say we’re not for sale. Clansman Dynamics is here for the long term.

Dick Philbrick, Chair CDS Advisory Board Founder and Chairman, Clansman Dynamics Ltd.

Employee ownership is gaining momentum worldwide and it is great to see Scotland leading the way. The number of employee owned businesses headquartered in Scotland has more than doubled over the past four years, and this rate of growth is forecast

to increase significantly. The 2014 tax incentives for owners who sell their business to employees should increase this rate even further. Business owners are increasingly finding employee ownership

• a succession option that gives them the ability to exit their business in a way they choose

• a way to achieve a competitive price for their business

• a model that provides a stable, long term foundation for the business to grow and prosper.

From an economic development perspective, employee ownership is the business model of the future. Employee owned firms tend to remain in their local area, providing quality careers and opportunities. Wealth is retained in the community supporting the growth of local economies.

We have ambitious plans to grow the sector. It is our aim that employee ownership will be equally considered alongside the more usual succession options such as a trade sale or management buyout. The result will be a fairer and more sustainable Scottish economy.

Sarah Deas, Chief Executive, Co-operative Development Scotland

Employee ownership is the best model for Clansman Dynamics. We made the transition in 2009 and have never looked back. Turnover has soared by more than 60%. Productivity, profitability and innovation have all flourished.

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It gives employees a meaningful stake in their organisation together with a genuine say in how it is run. It also safeguards the long term future of the company, retaining jobs, skills and investment.

Companies owned by their employees tend to demonstrate the same benefits as other independent entrepreneurial businesses. A study by the Cass Business School showed that employee owned companies were more profitable, added more staff and were more resilient during the economic downturn. Evidence shows this type of business is typically 5-10% more productive than traditional ones and is more satisfying workplaces.

Employee ownership provides business owners with a succession option that allows them to control the pace and terms of their own exit, as well as control the extent of their involvement in the business moving forward. Some exiting business vendors choose to remain in an executive or non-executive role; others choose to exit immediately. This level of choice is not usually available with other succession options. Overall, employee ownership roots business in Scotland, drives performance and delivers economic wellbeing.

New LegislationIn 2013 the UK Government announced new measures to promote employee ownership within the UK:

• Capital Gains Tax and Inheritance Tax relief for owners who sell their shares into an Employee Benefit Trust (EBT)

• Exemption from income tax on cash bonuses up to £3,600 pa made to employees of qualifying employee owned companies

Why EmployEE oWnErShIp?Employee ownership may be a good fit for businesses of all sizes and sectors. It allows owners to manage their exit while achieving a competitive price for their business.

Research showsEmployee owned companies:

• Are more successful over the long term

• Find it easier to attract high calibre staff

• have healthier and happier employees

• have stronger customer and supplier relationships

• Are more innovative and up to 10% more productive

Benefits to exiting ownerAchieve a competitive price for your business

retain the company’s independence

Influence the future shape of the company

control the pace and terms of your own exit in a tax efficient manner

continuity of customer, supplier and employee relationships

“ Everybody now understands that 5% saving on the £6m a year we spend on parts is a huge sum of money. It means we’re now more focused on good financial, as well as technical, solutions.”

Dick Philbrick, Founder and Chairman, Clansman Dynamics Ltd

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MythbusterThe employees will not be able to raise the necessary funding: Specialist help exists to facilitate the financing of employee buyouts. Banks view the model favourably and are willing to lend to a good business proposition.

I won’t get a good price for my business: A properly structured employee buyout will realize a competitive price for the business. A trade buyer may propose a premium price to acquire assets or customer base, and the vendor must balance this offer with other objectives of the sale.

Decisions will take forever: the firm will continue to be run by a professional management team with responsibility for making business decisions. many employee owned businesses feature wider transparency and involvement.

There is no obvious MD Designate, therefore a trade sale is necessary: part of the implementation process will involve the formulation of a leadership succession plan. Employee owned businesses are attractive to high calibre senior candidates, with many firms reporting that they find it easier to recruit senior or specialist staff once they become employee owned.

An employee buyout seems too complicated: It is not necessarily a more complex transaction, and in many cases, because it is less adversarial than a trade sale, can be more straightforward. It is a model that can be shaped to suit the business. the appointment of expert advisers who can guide you through the options is important.

Scott & Fyfe The company – Scott & Fyfe Limited has a 149 year history as an industrial textiles manufacturing business, starting as one of the Tayside jute factories and now an innovative technical textiles operation, based in Tayport, Fife.

The challenge – Having been owned and managed by the Tough family since the early 20th century, the company was hurt by the challenges of the 2008 recession as well as the structural decline of demand in two major sectors. Led by a new chairman and with a new chief executive, the company consolidated its asset base and reset its industrial, financial and ownership strategy.

The solution – The chairman, with previous experience of employee ownership under his belt, proposed the concept of the family selling out to the employees as a long-term solution to the question of the family future. They, more concerned with the continuity of the business in Tayport than in providing employment opportunities for future family members, found the potential attractive.

Deal Structure & Ownership – In December 2012 the older generation sold its (24%) equity stake to a new employee benefit trust (EBT). The two sons reinvested their net holdings in redeemable preference capital in order to fund the business and all employees received £500 of shares. Thus the principle of both direct and indirect employee ownership was established, such ownership being subject to further radical change with both profit participation and incentive schemes in shares as well as a share purchase scheme providing the route to further direct share ownership.

Governance & Employee Engagement – The proposed change in ownership was presented to the staff in September 2012 supplemented by a detailed explanatory website (www.tayportworks.com) and a “boarding card”, welcoming all staff as employee owners.

One employee director was elected to the board and two employees were elected as trustees of the EBT. An employee forum, that had been already established, was enhanced with two additional employee-elected members.

The impact – It is premature to judge the true impact of this change of ownership; however employees are beginning to think as business owners, there is greater camaraderie across teams, staff are demonstrating more flexibility in working hours, cross-skilling and holidays and the monthly briefing has given employees a deeper understanding of the business.

“ By implementing the employee ownership model, the family were able to realise their value in the business in a way that suited them, whilst achieving their aim of continuity in Tayport.”

Professor Nick Kuenssberg OBE DUniv, Chairman, Scott & Fyfe Limited

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A Trust is often used to hold the majority of shares for the long term. It’s a stable structure, that once set up, takes little administration. The company’s employees are the beneficiaries of the Trust. The Trust deed can be used to stipulate the conditions of future sale, or to convey the wishes of the founders in how the company is to be run in future. The Trust will not require funding so where appropriate, any dividends payable can be waived by the Trust and paid out to the beneficiaries as cash bonuses. John Lewis Partnership operate this way and the annual bonus payment is very much welcomed by the company’s employees!

A Share Scheme is used to distribute shares to employees. There are HMRC approved plans which ensure this can be done tax effectively. The Share Incentive Plan allows employees to buy shares via payroll, and the company can offer additional shares as an incentive to buy. The Share Incentive Plan can be used to give free shares to employees when the company is performing well. Some companies use the Enterprise Management Incentive Scheme to reward the firm’s executive team.

The business will be owned by the employees but will run much as before. A board of directors will continue to govern the company and a professional management team will run the business operations.

The most significant change that businesses find is in the level of communication within the company. As owners, employees have more interest in business performance and strategy, and look for more information. The challenge for management is to ensure that this information is accessible, and employees are given the appropriate education and support to understand how the business operates.

Firms report that this effort is well worth the investment; it is when employees think, feel and act like owners that the business reaps the substantial benefits of employee ownership.

EmployEE oWnErShIp modElSThe beauty of employee ownership is that the business structure can be shaped to fit with the business, the wishes of the founders and the aspirations of the employees. Most firms will use a combination of trust and share schemes to own the shares in the company.

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Typically, the majority of the finance required to buy the shareholding from the owner is raised by the company. This is often a mix of company cash reserves, some borrowing and an element of vendor financing. This vendor financing is often by deferred consideration, which can be structured tax efficiently. An alternative would be for the owner to gradually divest their shareholding into an Employee Benefit Trust or to an Employee Share Plan. In most cases, employees will be asked to contribute some cash to buy shares.

Tax is an important consideration in structuring a transition for vendors, the company and also the employees. Specialist advice should be sought to ensure that the proposed transaction is tax effective and maximizes available incentives.

The process can be completed within six months. However, it is often wiser to take time to explore the possible options, decide on the best structure for your business, and involve the management team and workforce throughout the project. Parties to a successful transition include the exiting owners and the employees. The appointment of an expert advisor will deliver the best outcome.

Employee buyout process

Business owner explores options

CDS provides guidance and support

Employee buyout is agreed

Funds are raised for buyout

Owner sells shares

Buyout completes

Celebrate success

dEScrIptIon oF procESSMost employee buyouts are driven by the business owner. The owner will set the price for the business, and will be a major influence in the transfer process and ultimate shape of the company. When the transition is undertaken with input from the management team, and employee representatives, this allows for a smooth ownership and governance transfer.

Vendor FinancingIn some cases the seller will wish to defer part of the payment for the shareholding in the company, and will charge interest on the amount that is deferred.

Alternatively, the vendor may decide to divest the shareholding gradually, phasing the sale to employees over a number of years.

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Aquascot The company – Highlands based sustainable seafood business Aquascot began life in 1987 in what was then the new industry of salmon farming. By 2000 the firm had grown significantly, having become a sophisticated operation comprising fish farms and processing plants servicing an international customer base. Substantial investment was required to grow further, and the business was sold to a multinational food and farming business.

The challenge – The founders believed that the customers could be better served by returning to an autonomous form of ownership, rather than as a unit of a larger conglomerate. In 2003, they negotiated a buy back and Aquascot was once more an independent business.

The solution – Inspired by key customer Waitrose, the founders explored with their employees how they might develop the business sustainably for the mutual benefit of founders and employees. The company began their journey to employee ownership in 2008 with guidance from John Lewis Partnership and legal advice from Pinsent Masons.

Deal Structure & Ownership – Aquascot decided to emulate the 100% trust ownership structure of John Lewis Partnership and an Employee Benefit Trust was set up to acquire the founders shares on behalf of the employees. This is funded by company profits, with no investment required from employees. The share buyout is phased to facilitate the funding requirement and to minimize any disruption to the business. Aquascot is on track to become 100% employee owned in 2016.

Governance & Employee Engagement – The employees have a strong voice in the business via the Partnership Council formed in 2009. This is made up of ten elected employees who serve three year terms. The main purpose of the Council is to hold the Directors of the business to account and make ownership real for employees. The Partnership Council also plays an important role as an information channel within the firm, and strives to drive the values of the organization which are Commitment, Effective Teamwork, Respect and Trust.

The impact – In 2008 turnover for Aquascot was £19.4m and the company headcount was 115. Half way through in 2012, turnover reached £29m and the total staff was 150. By 2013 turnover had grown to £32m and 150 people are employed in the business.

For more information on CDS visit the website www.cdscotland.co.uk, email info@cdscotland.co.uk or call 0141 951 3055

“ Employee ownership allows us to focus on creating long term value for our employees, our customers and our partners.”

Dennis Overton, Founder and Managing Director, Aquascot

CDS SupportCo-operative Development Scotland (CDS) is the arm of Scottish Enterprise that supports employee ownership. Our advisers would be happy to speak to any business owner wishing to explore this option.

CDS will fund an initial feasibility study which will explore how the model might fit your business. If you then decide to move towards an employee buyout, CDS may be able to assist with consultancy costs to ensure a seamless process.

CDS Employee Ownership AmbassadorsCDS Ambassadors are leaders of Scottish employee owned businesses who are happy to speak to any company interested in finding out about employee ownership. They will talk through how the model works for their company and share their own experience of employee ownership.

For further information on the Ambassadors visit: www.scottish-enterprise.com/cds-ambassadors

Scottish Enterprise Atrium Court 50 Waterloo Street Glasgow G2 6HQ

www.scottish-enterprise.com

Co-operative Development Scotland27 Causeyside StreetPaisley PA1 1ULTel: 0141 951 3055Email: info@cdscotland.co.uk

SE/3961/Mar14

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