What Happens to an ESOP When a Company is Sold?

As ESOP trustees, we understand that while Employee Stock Ownership Plans (ESOPs) are designed to ensure long-term business continuity, circumstances sometimes lead to the company being sold to a third party. This prospect can create uncertainty among ESOP participants about the security of their accounts. Let’s address these concerns directly.

4 Critical Facts Every ESOP Participant Should Know About Company Sales

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1. Participant protection is paramount in any company sale. 

ERISA rules and ESOP trustee fiduciary responsibilities ensure that all plan participants receive fair treatment throughout the process. ESOP participants will not lose their ESOP retirement investment savings.

2. The company's ESOP plan document serves as a roadmap.

This plan document details specific rules for vesting and distribution in the event of a sale or ESOP termination. This documentation provides clarity and predictability about what participants can expect during a sale.

In our experience, ESOP sales typically result in one of two outcomes:

1. The sale triggers an ESOP termination. If this occurs, all participants become immediately vested and receive their full ESOP distribution based on the current market value. They can opt for a lump sum payout or roll the funds into a 401(k) account.
   
   
2. If the buyer is another ESOP, participants of the ESOP that was purchased will most likely be integrated into the new company’s ESOP with their existing account values rolling over into the new plan.

‍3. A purchase offer doesn't guarantee a sale. 

The ESOP board has a duty to protect both the company's assets and the ESOP participants' investments. Many companies form a committee to review and respond to purchase offers to ensure shareholders are protected. If the board or committee feels the offer is unacceptable, they can stop the sale process before it even begins. When an offer appears acceptable, the board and ESOP trustee collaborate to reach a satisfactory solution, with the trustee providing the final approval for the deal to proceed.

4. The type of proposed sale affects the role of ESOP participants. 

There are two types of ESOP sales: A purchase of assets and a purchase of stock.

In a purchase of assets sale, the buyer receives the company's assets but may or may not take on the company's liabilities. Plan participants will be asked to vote in favor of or against the sale of company assets. We ensure participants receive detailed financial information prior to the vote. As trustees, we reserve the authority to reject the outcome of the vote if we determine that it is not in the ESOP's best interests. This is extremely rare, but it can happen.

In a purchase of stock sale, the buyer purchases the company’s stock and acquires the liabilities as well. The ESOP trustee can decide to move forward with the sale without obtaining input from the participants.

‍The bottom line: There are many steps involved in selling an ESOP, and shareholder protections exist at every stage to help ensure plan participants do not lose their ESOP account retirement savings.

Reasons for Selling an ESOP Company

While ESOPs are traditionally established to ensure business continuity, secure the owners’ legacy, and avoid a sale or closure, we recognize that circumstances can change over time. Though the intent of forming an ESOP is to create a thriving, independent company, there are situations when a sale becomes the most prudent option.

In our experience as trustees, we've seen various catalysts for ESOP company sales. Often, successful ESOP companies receive unsolicited interest from competitors or private equity firms looking to make strategic acquisitions. In other situations, companies may face financial challenges that necessitate a sale, such as difficulty meeting ESOP repurchase obligations. Boards may also proactively pursue a sale when they determine it represents the best path forward for both the business and its employee-owners.

Benefit of Selling an ESOP Company

Selling an ESOP company can create significant advantages for plan participants when the transaction is properly structured and executed. Here are the key benefits:

1. Financial Benefits

Selling an ESOP can increase the value of ESOP shares, especially if the buyer is willing to pay a market premium. This can result in enhanced retirement savings for plan participants.

2. Strengthens the Business

Selling an ESOP can add new capabilities or open up new markets to the business, putting it in a stronger position for future growth and transformation. A sale also eliminates any uncertainty about succession issues that may have been a concern prior to the sale.

3. Asset Protection

Market volatility may necessitate a sale. An ESOP may be open to a merger or acquisition to avoid loss of company assets during a downturn in the industry. There may also be an industry trend toward consolidation. In that case, the board might act preemptively to remain competitive.

Disadvantages of Selling an ESOP Company

Selling an ESOP can have potential disadvantages, which should be carefully weighed against the advantages. 

1. Damage to Company Legacy

ESOPs are often formed to protect the original business owner's vision for the company, to leave a legacy, and to create a distinct company culture. After a sale, this could be overwritten by the new company's culture, potentially affecting employee morale, performance, and retention.

2. Consolidation

Depending on the capabilities of the two businesses, some job losses may occur as a result of consolidation. Facilities may be shut down, and redundant functions may be eliminated.

3. Leadership Changes

Similar to consolidation, the new company will have new leaders. This change in governance can be hard for employees to accept and may result in the loss of existing leaders.

What Happens to ESOP Payout When a Company is Sold? 

When an ESOP sale results in plan termination, all current and former plan participants will receive their distributions, although this process can take time.

Distributions are typically paid in two installments rather than as an immediate lump sum upon sale closing. The first partial payment usually occurs within a few months of the sale, with the remaining balance paid in the following year. This means the complete distribution process can extend up to two years. During this period, we continue our trustee role, protecting participants' interests until all termination activities are completed.

Participants have options for their distributions. They can either roll the funds into a 401(k) plan or cash out their account based on the fair market value of the stock. We remind participants that choosing to cash out will trigger income tax obligations on the distribution.

In cases where the ESOP is being merged with the purchasing company's ESOP, participants will not receive a distribution. Instead, their account values will transfer directly into the new company's ESOP plan.

Employees Do Not Need to Fear an ESOP Sale

We understand that news of a company sale can create anxiety among employees about job security, leadership changes, and retirement benefits. We want to reassure ESOP participants that they have both legal protections and our fiduciary oversight working in their favor.

Your ESOP trustee must ensure all company decisions, particularly those involving a sale, prioritize employees' best interests. Experience shows that ESOP sales often result in increased share values and higher account balances. Additionally, companies with strong ESOP cultures typically demonstrate greater commitment to protecting employee interests during transitions than non-ESOP companies.

For participants concerned about a pending sale and its impact on their ESOP distribution, we recommend reviewing your ESOP plan document, which you received upon enrollment. This document outlines the distribution process during a sale and provides valuable clarity. For specific questions about your ESOP, contact your company's HR department.

Learn How Aegis Trust Protects Your ESOP Interests

As a dedicated ESOP trustee, Aegis Trust Company brings decades of experience in safeguarding employee-owner interests through every phase of ESOP ownership. Our comprehensive fiduciary services include initial ESOP transactions, ongoing trustee services, and specialized ESOP consulting. We work diligently to protect plan participants while ensuring compliance with all regulatory requirements and fiduciary responsibilities.

For specific questions about your individual ESOP plan or distribution payouts, please contact your company's plan administrator. For businesses interested in learning more about our trustee services, we invite you to contact us to discuss how we can support your ESOP needs.