This month’s article is written by our Team Member, Scott Densmore, and addresses the tricky issue of a potential sale of a business to one or more employees. Although a sale to an employee could be a viable option, as Scott’s article points out, there are traps for the unwary and an owner should consider doing things by the numbers, and through a third party acting as a buffer to try to maintain the relationship between the owner and the employee(s).
In addition to the example that Scott provides at the end of his article, we are currently representing a Seller client that spent approximately a year trying to sell his business to an employee/relative and another year “licking his wounds” and trying to get his business back to normal before calling us to represent him in taking his business to market.
Selling a Business to an Employee
Some of the most frequent questions we receive from sellers relate to employees. One common item we often discuss is a potential sale to an employee. While some transactions like this get completed, there are several issues that should be thoroughly thought through before making the decision to pursue selling to an employee:
Owners usually want to keep the sale of the business confidential from competitors, customers, and employees. There are many risks associated with employees finding out about the sale of the business and approaching an employee to consider a purchase could jeopardize confidentiality, as it is likely that if one employee finds out, all employees will know about it in short order.
There are often differences in the mindset and outlook between an owner and an employee. A great technician may have the skills to do the work, but many employees simply do not have the amount of drive, determination, and risk-taking that is necessary to successfully run a business.
Having enough available liquidity to complete a purchase is often a problem for employees. If the employees do not have the ability to make the down payment and put up sufficient collateral for bank financing, then they often look to the Seller to provide the financing, which may not be in the Seller’s best interest.
The sale of a business can generate many different emotions that rise to the surface. Sometimes, employees are quite familiar with the owners and many employees may be affected by feelings of entitlement. They may feel that they deserve a price discount or more favorable terms than an outside buyer because of their position with the company.
The decision to pursue a sale to an employee is irreversible. Once you cross the line you can never go back. If the employee does not buy, what happens now? If the business is not sold to the employee, the employee may hold a grudge or leave the business. If they leave, will they take other employees or customers with them?
A failed transaction of this sort can be very costly to an owner. Not long ago, a Seller was referred to us for help with selling their business. They had previously contemplated selling to two of their employees and decided to pursue it. Fast forward a year later and they were telling us about how the transaction had fallen through and a group of their employees quit, leaving the business without the ability to take on new projects. As a functioning company, the business was probably worth over $3,000,000 but is now considering liquidation at a fraction of that amount.
If you are contemplating the sale of your business to an employee, it may be in your best interest to talk to an experienced Intermediary to explore options before jumping in unprepared.
The majority of our business is derived from referrals. Please consider referring our services if you encounter a situation involving the potential purchase or sale of a business.
Ronald V. Chernak
Inspiring business relationships since 1982!
(originally posted in the July 2019 newsletter)