Re: Fw: Worker co-ops as a structure for buy-outs

["Peter Kardas" <peterk@olywa.net>]

John Logue and Don Jamison--

Back when we worked for the Washington State Employee Ownership Program in
the early 1990s (a program that for all intents and purposes is now
defunded), Jim Keogh (still with the Washington Department of Community,
Trade, and Development) and I worked on this question of selling existing
businesses to worker co-ops.  In addition to the problems that you've both
identified, we also came upon the following issues:  1) if existing owners
will be self-financing a sale to employees, they may well be reluctant to
sell 100% of the business to the co-op, given their uncertainties about how
well the co-op will be able to manage affairs after the transaction; 2) even
benevolent owners do not generally operate truly democratic businesses, and
so a sale to an ESOP, which inherently lends itself to (sometimes
benevolent) top-down governance (you have to work hard to make it
democratic), will tend to be more appealing than sale to a co-op, which by
its nature has to be democratic; 3) even if you can find a willing lender,
such as the National Co-op Bank or a local revolving loan fund, there are
going to be collateral and personal signature issues, and those tend to
increase the appeal of departing owner self-financing; 4) if the owner takes
advantage of the 1042 rollover, his or her replacement securities may be
available for use as security on a loan -- there are ESOP programs set up
through various financial institutions which can perhaps be adapted for use
in co-op transactions.  To address some of these issues or subjects, we put
together a document (which Dan Bell will be adding to the COG on-line
library--it should be a Word document entitled COOPGRAD) which puts forth an
idea for the gradual sale of a business to a worker co-op.  Unbeknownest to
us, Dave Simon, a co-op
attorney from Portland, Oregon, was working on the same strategy.  He may be
of use to you (I don't have his email address; the last phone number I have
for him is 503-223-5181).  While we talked with a couple of business owners
about selling their business to a worker co-op (whether gradually or all at
once), and at least one was looking at it really closely, to the best of my
knowledge no such transactions took place.

One other issue--one of the claims made in the COOPGRAD document is that a
sale to a worker co-op would be much cheaper than a sale to an ESOP.  This
is primarily because of lower attorney fees and lower valuation costs.  In
running the scenario by one highly qualified ESOP/co-op attorney, he argued
that in fact selling to a co-op can be quite expensive if the seller follows
full-disclosure SEC "blue sky" requirements.  There is no law which spells
this out in regards to a sale to a worker co-op, but he believes the selling
owner could be open to a lawsuit by disgruntled co-op owners whose acquired
business didn't perform the way they expected.  Following blue sky
requirements, in this attorney's opinion, would make the sale to a co-op as
expensive as a sale to an ESOP.  I have not checked out his opinion with
other co-op or securities attorneys.

Good luck with your continued search for that first 1042 sale to a worker
co-operative.

----- Original Message -----
From: John Logue <jlogue@kent.edu>
To: <EOsubnat@cog.kent.edu>
Sent: Friday, June 02, 2000 4:22 PM
Subject: Re: Fw: Worker co-ops as a structure for buy-outs


> Don -
>
> Heck, I thought that you had solved my "1042 co-op" problem, and we could
> write up just how to do it.  But I guess that that's still down the road.
>
> There's no question that financing is an obstacle in small deals employee
> ownership deals, and more so for co-ops than ESOPs.  I'm glad that your
> local revolving loan fund and the community development credit union are
> willing to entertain the idea.
>
> Could you say a bit more about your community development credit union?
> Size?  Sponsorship?  Who took the initiative to organize it? and the like.
>
> For other financing sources, remember that ICA has a revolving loan fund
> (LEAF) that will see Vermont as in its catchment area.  Further, if you
can
> do a successful deal or two locally, you should go to the National
> Cooperative Bank's Development Corporation for further support for the
model.
>
> This is very important work that you are doing.
>
> John
>
>
>
>
> At 02:27 PM 6/2/00 -0400, you wrote:
> >Mr. Logue --
> >
> >     Thanks for your thoughtful reply.  No, we don't have any examples of
a
> >sale to a co-op using the 1042 rollover.  The sales to a co-op that Jim
> >Megson at ICA has told me about have involved owner financing.  Coming up
> >with a big chunk of change is a challenge for most working folks.  This
is
> >where our local community loan fund and "community development" credit
union
> >can (and seem to be willing to) play a role.  A local attorney who does a
> >lot of ESOPs thinks this is all great, and that there could well be a
bunch
> >of small business owners who would be very receptive to selling to their
> >employees if we can figure out the means.  Maybe we'll lead the way
toward
> >bridging the co-op/employee ownership gap, and bring employee ownership
to
> >some of the many very small businesses out there.  This is kind of fun!
> >
> >Regards from Don Jamison
> >
> >-----Original Message-----
> >From: John Logue <jlogue@kent.edu>
> >To: EOsubnat@cog.kent.edu <EOsubnat@cog.kent.edu>
> >Date: Thursday, June 01, 2000 11:48 PM
> >Subject: Re: Fw: Worker co-ops as a structure for buy-outs
> >
> >
> >>Dear Don,
> >>
> >>Here's my take on why there are so many retiring owner ESOPs and so few
> >>co-ops.
> >>
> >>1) We have yet to find an example of a 1042 rollover sale to a co-op --
> >>although the law provides the same tax break for a co-op as for an ESOP.
> >>Peter Pitegoff didn't know of any either, when we last talked to him.
We
> >>need an example of how it is done to publicize.
> >>
> >>Do you have one in Vermont?  Or elsewhere??
> >>
> >>2) Some owners are concerned about co-ops being too radical.  We had one
in
> >>a company with 5 employees insist on doing an ESOP instead for that
reason.
> >> It made no economic sense whatsoever.
> >>
> >>3) There's a disconnect between employee ownership and the traditional
> >>cooperative movement.  If we bridge that -- which I see as one of the
prime
> >>political necessities for employee ownership to develop more quickly in
the
> >>US -- we might well see more worker co-ops.
> >>
> >>4) As for financing, you are right.  In the concrete situation, try the
> >>National Cooperative Bank or its development corporation.  More
generally,
> >>we need local credit unions that do business lending to co-ops.
> >>
> >>Another possibility is to get a mutual insurance company to join in
> >financing.
> >>
> >>I seem to be getting back to the need for an alliance with the
traditional
> >>cooperative organizations.
> >>
> >>5) Can the credit union you met with do business lending?
> >>
> >>6) Carla Dickstein, across the way in Maine at Coastal Enterprises, may
> >>have some good ideas.  She's in this discussion group.
> >>
> >>Good luck with promoting the idea of co-ops among retiring owners!
> >>
> >>John
> >>
> >>
> >>Greetings!  At the suggestion of Dan Bell, I am forwarding the following
> >>message.  Any thoughts would be much appreciated.
> >>
> >>-----Original Message-----
> >>From: Don Jamison <donjam@together.net>
> >>To: Cooperative business list <cooperative-bus@relay.doit.wisc.edu>;
worker
> >>co-op list <workers-net@lists.services.wisc.edu>; Northwest Cooperative
> >>Federation <nwcf@seanet.com>
> >>Date: Friday, May 19, 2000 11:33 AM
> >>Subject: Worker co-ops as a structure for buy-outs
> >>
> >>Hello, all --
> >>
> >>     Do any of you have experience with using the worker co-op structure
in
> >>employee buyouts?  Have any of you promoted the worker co-op an option
for
> >>ownership succession?
> >>
> >>     Employee Stock Ownership Plans are the primary means bringing about
> >>worker ownership these days.  But, besides the fact that ESOPs are not
> >>inherently democratic (though they can be made so), they are not
suitable
> >>for smaller businesses because of the costs of maintaining them.  I've
> >>heard mentioned several thresholds for ESOP affordability (some say
roughly
> >>a dozen employees, a local lawyer who has done a bunch of ESOPs says the
> >>business needs to have a value of roughly $750,000) -- all are well over
> >>the heads of many of the businesses that are being sold here in Vermont,
> >>and everywhere else too...
> >>     A 1988 book by Daniel Bell of the Ohio Employee Ownership Center
> >>called Bringing Your Employees Into The Business is mostly about ESOPs,
but
> >>also has a chapter on using the worker co-op structure for smaller
> >>businesses.  It points out that, just as with a sale to an ESOP, an
owner
> >>selling to a worker co-op can defer taxes by rolling over proceeds from
the
> >>sale into eligible securities (stocks and bonds), and that it would
appear
> >>to be possible to sell over an extended period of time (the tax
deferment
> >>kicks in when the business is 30% owned by the co-op -- again, just as
with
> >>an ESOP).
> >>     Why hasn't this mechanism been used very much?  Why couldn't the
> >>worker co-op structure be used to make employee ownership as common an
> >>option for very small businesses as it is becoming -- through ESOPs --
for
> >>larger businesses?
> >>     I've heard two explanations.  First, it is said that turning a
> >>business into a worker co-op requires much more of a cultural shift than
> >>does an ESOP.  But I wonder -- if an owner planned for a sale to
employees
> >>in a timely way, and allowed for an adequate transition period (either
> >>before the sale, or after -- with the former owner sticking around as a
> >>consultant), why couldn't an "ownership culture" be created in plenty of
> >>time -- with outside help, of course.  Second, the financing mechanism
for
> >>an ESOP allows for a lot of leverage.  There is nothing comparable for
the
> >>worker co-op.  In most of the cases I know of where an owner has sold to
a
> >>co-op, owner financing has been part of the deal.  What would it take on
> >>the financing side to make sales to worker co-ops more common?  An
equity
> >>fund dedicated to the purpose?  A willingness on the part of some CDFI
to
> >>make loans for member share purchases?  What else?
> >>     These are not just idle questions.  I know of several business
owners
> >>who would be interested in selling to a co-op if we could figure these
> >>things out -- and we haven't done much in the way of outreach.  I'll
soon
> >>be meeting with a local credit union and a community loan fund, and
could
> >>use your ideas! [This meeting was last week, and all are enthused!]
> >>
> >>Regards from --
> >>
> >>Don Jamison
> >>New Leaf Cooperative Enterprise Program
> >>Burlington (VT) Community Land Trust
> >>donjam@together.net
> >>802-660-0640
> >>
> >>
> >>
> >>John Logue
> >>Ohio Employee Ownership Center
> >>Kent State University
> >>Kent, OH 44242
> >>(330) 672-3028
> >>(330) 672-4063 fax
> >>jlogue@kent.edu
> >>http://www.kent.edu/oeoc/
> >
> >
>
>
> John Logue
> Ohio Employee Ownership Center
> Kent State University
> Kent, OH 44242
> (330) 672-3028
> (330) 672-4063 fax
> jlogue@kent.edu
> http://www.kent.edu/oeoc/
>