Ekonomska Demokracija IED

An award-winning legal innovation ready to untap the potential of employee ownership

An award-winning legal innovation ready to untap the potential of employee-ownership.

sloESOP

sloESOP is a legal innovation that establishes a financial mechanism for the purchase of company shares on behalf of employees. sloESOP solves the ownership succession problem, acts as a motivational scheme, and creates a greater sense of belonging to the company. SloESOP is built upon the European ESOP model, which was awarded with the 2022 SozialMarie Prize for Social Innovation.

sloESOP

sloESOP is a legal innovation that establishes a financial mechanism for the purchase of company shares on behalf of employees. sloESOP solves the ownership succession problem, acts as a motivational scheme, and creates a greater sense of belonging to the company. SloESOP is built upon the European ESOP model, which was awarded with the 2022 SozialMarie Prize for Social Innovation.

European ESOP

Essentials

With thousands of successful cases and millions of workers turned into co-owners, the Employee Stock Ownership Plan (USA) and the Employee Ownership Trust (UK) are two of the most successful employee-ownership models today. sloESOP is based on the European ESOP, which builds on that rich experience. Pioneered by the Institute for Economic Democracy under the mentorship of David P. Ellerman, the European ESOP takes the best features of both models while addressing their problems.

What's worth keeping?

  • Leveraged buyout
  • Individual ownership through individual capital accounts (ICAs)
  • Possibility of gradual and partial conversion
  • Sustainable and broad-based ownership inclusive of all permanent employees

Our improvements

  • Shares are continuously repurchased to provide better incentives, avoid repurchase liability, and ensure a more equitable distribution of risk
  • The legal entity of the ESOP trust is a cooperative, which guarantees democratic representation – improving accountability and productivity – and makes the process of distributing ownership and voting rights among employees automatic

European ESOP

Essentials

With thousands of successful cases and millions of workers turned into co-owners, the Employee Stock Ownership Plan (USA) and the Employee Ownership Trust (UK) are two of the most successful employee-ownership models today. sloESOP is based on the European ESOP, which builds on that rich experience. Pioneered by the Institute for Economic Democracy under the mentorship of David P. Ellerman, the European ESOP takes the best features of both models while addressing their problems.

What's worth keeping?

  • Leveraged buyout
  • Individual ownership through individual capital accounts (ICAs)
  • Possibility of gradual and partial conversion
  • Sustainable and broad-based ownership inclusive of all permanent employees

Our improvements

  • Shares are continuously repurchased to provide better incentives, avoid repurchase liability, and ensure a more equitable distribution of risk
  • The legal entity of the ESOP trust is a cooperative, which guarantees democratic representation – improving accountability and productivity – and makes the process of distributing ownership and voting rights among employees automatic

How does the European ESOP work?

1. Initial transaction

First, the value of the company’s shares is estimated.* After that, the seller of the shares (or an external creditor, who provides debt capital for the purchase of shares) receives a Note Payable from the company, which guarantees that dedicated contributions will be made to pay off the debt. Finally, the shares are transferred to the employee ownership cooperative (EOC), which now owes to the seller/creditor the agreed amount.

The valuation of shares is a crucial part of the ESOP transaction. The valuation for an ESOP buyout is different from a valuation done for a sale to an outside party. This is because in the former the shares are paid for through profits of the company and valuations are made on an annual basis.  

For these reasons, we strongly encourage the use of net-asset valuation, which is the simplest and most transparent method.  

ESOP valuations are likely to be lower than offers from external buyers. Nevertheless, sellers should consider the additional advantages of the ESOP sale: 

  • Rewarding the employees that helped to build the company
  • Keeping the business and the jobs it provides anchored in the community and ensuring wages and taxes are respectively spent and paid in the community
  • Maintaining the organisational culture that the selling owner worked hard to establish
  • Increasing the likelihood of keeping the business alive and the entrepreneur’s legacy intact for many years to come.
  • Tax breaks may bring the net pay out closer to what the seller would receive with an external sale.

How does the European ESOP work?

There are three steps to the European ESOP transaction

2. Paying out the seller

The company makes regular contributions to the EOC, which in turn transfers the payments to the seller/creditor to pay off the outstanding debt. As the loan gets paid off, the shares are gradually allocated to individual capital accounts (ICAS) based on a pre-determined rule of share distribution (e.g., in proportion to salaries, on an egalitarian basis). It is only when the debt to the seller/creditor is fully repaid that all the shares will have been moved from the suspense account to ICAs. The end of this stage marks the completion of the transfer of ownership.

3. Roll-over

The company continues to make contributions to the EOC even after the external debt is paid off. The contributions are used to finance a program of continuous repurchase of shares from ICAs (on a “first-in, first-out” – FIFO basis), with oldest shares being bought from members and redistributed back to all the active members (those currently employed) on the basis of the chosen distribution rule. Liquidity is essential for this model to function.

  • Stabilizes cash-flow from the company to the EOC in a way that does not decapitalize the company. 
  • Establishes a sort-of profit-sharing scheme that provides tangible motivation for younger employees
  • Allows new workers to gradually accumulate shares in their ICAs
  • Helps to pay-off the departing employees without imposing an unpredictable repurchase liability on the company. 

How does the European ESOP work?

There are three steps to the European ESOP transaction

1. Initial transaction

First, the value of the company’s shares is estimated.* After that, the seller of the shares (or an external creditor, who provides debt capital for the purchase of shares) receives a Note Payable from the company, which guarantees that dedicated contributions will be made to pay off the debt. Finally, the shares are transferred to the employee ownership cooperative (EOC), which now owes to the seller/creditor the agreed amount. 

 

The valuation of shares is a crucial part of the ESOP transaction. The valuation for an ESOP buyout is different from a valuation done for a sale to an outside party. This is because in the former the shares are paid for through profits of the company and valuations are made on an annual basis.  

For these reasons, we strongly encourage the use of net-asset valuation, which is the simplest and most transparent method.  

ESOP valuations are likely to be lower than offers from external buyers. Nevertheless, sellers should consider the additional advantages of the ESOP sale: 

  • Rewarding the employees that helped to build the company
  • Keeping the business and the jobs it provides anchored in the community and ensuring wages and taxes are respectively spent and paid in the community
  • Maintaining the organisational culture that the selling owner worked hard to establish
  • Increasing the likelihood of keeping the business alive and the entrepreneur’s legacy intact for many years to come.
  • Tax breaks may bring the net pay out closer to what the seller would receive with an external sale.

2. Paying out the seller

The company makes regular contributions to the EOC, which in turn transfers the payments to the seller/creditor to pay off the outstanding debt. As the loan gets paid off, the shares are gradually allocated to individual capital accounts (ICAS) based on a pre-determined rule of share distribution (e.g., in proportion to salaries, on an egalitarian basis). It is only when the debt to the seller/creditor is fully repaid that all the shares will have been moved from the suspense account to ICAs. The end of this stage marks the completion of the transfer of ownership.

3. Roll-over

The company continues to make contributions to the EOC even after the external debt is paid off. The contributions are used to finance a program of continuous repurchase of shares from ICAs (on a “first-in, first-out” – FIFO basis), with oldest shares being bought from members and redistributed back to all the active members (those currently employed) on the basis of the chosen distribution rule. Liquidity is essential for this model to function.

  • Stabilizes cash-flow from the company to the EOC in a way that does not decapitalize the company. 
  • Establishes a sort-of profit-sharing scheme that provides tangible motivation for younger employees
  • Allows new workers to gradually accumulate shares in their ICAs
  • Helps to pay-off the departing employees without imposing an unpredictable repurchase liability on the company. 

European ESOP

How does the European ESOP work?

1. Initial transaction

First, the value of the company’s shares is estimated.* After that, the seller of the shares (or an external creditor, who provides debt capital for the purchase of shares) receives a Note Payable from the company, which guarantees that dedicated contributions will be made to pay off the debt. Finally, the shares are transferred to the employee ownership cooperative (EOC), which now owes to the seller/creditor the agreed amount.

2. Paying out the seller

The company makes regular contributions to the EOC, which in turn transfers them to the seller/creditor to pay off the outstanding debt. As the loan gets paid off the shares are gradually allocated to individual capital accounts (ICAS) based on a pre-determined rule of share distribution (e.g., in proportion to salaries, on an egalitarian basis). It is only when the debt to the seller/creditor is fully repaid that all the shares will have been moved from the EOC to ICAs. The end of this stage marks the completion of the transfer of ownership.

3. Roll-over

The company continues to make contributions to the EOC even after the external debt is paid off. After the transfer of ownership is completed, the contributions are used to finance a program of continuous repurchase of shares from ICAS (on a “first-in, first-out” – FIFO basis), with oldest shares being bought from members and redistributed back to all the active members (those currently employed) on the basis of the chosen distribution rule. Liquidity is essential for this model to function.

The ins and outs of the European ESOP are explained in the paper ‘European ESOP: The main structural features and pilot implementation in Slovenia’ (2022).

The ins and outs of the European ESOP are explained in the paper ‘European ESOP: The main structural features and pilot implementation in Slovenia’ (2022).

Slovenian precedent

sloESOP is the proof of concept for the European ESOP model. The Institute for Economic Democracy established sloESOP in four companies during the pilot implementation phase, which is set to be completed by the end of 2022.  

Legislation is urgently needed to regulate and promote sloESOP in Slovenia. The Institute for Economic Democracy helped to draft a tailor-made law in 2020 which is set to be passed by the new Slovenian Government in the beginning of 2023. 

Our institute is advocating for the implementation of a set of policies that would help to establish the supportive infrastructure the employee-owned sector needs to successfully develop. A government actively involved in the creation of such a supportive ecosystem would set an important precedent for wider initiatives at the European level.

 

Slovenian precedent

sloESOP is the proof of concept for the European ESOP model. The Institute for Economic Democracy established sloESOP in four companies during the pilot implementation phase, which is set to be completed by the end of 2022.  

Legislation is urgently needed to regulate and promote sloESOP in Slovenia. The Institute for Economic Democracy helped to draft a tailor-made law in 2020 which is set to be passed by the new Slovenian Government in the beginning of 2023. 

Our institute is advocating for the implementation of a set of policies that would help to establish the supportive infrastructure the employee-owned sector needs to successfully develop. A government actively involved in the creation of such a supportive ecosystem would set an important precedent for wider initiatives at the European level.