What happens when workers buy the company

Most employee-owned companies in the United States were not started as employee-owned. They were ordinary businesses that were sold to their workers, usually when the founder wanted to retire. This is called a conversion, and it is the most common way a company becomes worker-owned. Here is how it works and what it means for the people who work there.

Why companies convert

The usual trigger is a retiring owner. Roughly half of privately owned businesses in the US are owned by people over 55, and many have no succession plan. The owner's choices are to sell to a competitor, sell to a private equity firm, close, or sell to the employees.

Selling to employees has a few things going for it. The buyer already knows the business. The owner can often stay on for a few years to hand over. The company stays in town with its jobs intact. And there are tax incentives: a seller can defer capital gains tax on a sale to an ESOP or a worker cooperative under Section 1042 of the tax code, as long as the employees end up owning at least 30 percent.

The two main routes

ESOP. An employee stock ownership plan is a retirement trust that buys the owner's shares, usually with a bank loan the company pays back over time. Employees accumulate shares in the trust the longer they work there and cash them out when they leave or retire. They do not vote on company decisions in most cases. A board and management run the company as before. This is the route most large conversions take, including King Arthur Baking Company and Bob's Red Mill.

Worker cooperative. The employees form a cooperative, take out loans, and buy the business outright. Each worker-member buys a share, gets one vote, and the members elect the board. This is more common for smaller companies and gives workers real control, not just equity. Island Employee Cooperative in Maine is the standard example: in 2014 sixty employees of three grocery and hardware stores bought them from a couple who had run them for over 40 years, with 45 of the 60 workers becoming owners.

A smaller number of companies use hybrids, like an ESOP where employees also elect the board, or a trust that holds the shares permanently so the company can never be sold.

How it actually gets paid for

Workers rarely have the money to buy a company outright, so conversions are financed. Typical pieces:

• A bank or community lender loan, often backed by the Small Business Administration. A 2018 law called the Main Street Employee Ownership Act made SBA loans available for cooperative and ESOP buyouts.
• Seller financing, where the owner is paid over several years out of the company's profits.
• Community investment. Real Pickles in Massachusetts sold half a million dollars of non-voting preferred stock to 77 local investors in two months to fund its 2013 conversion to a worker co-op.
• Worker buy-in, usually a few thousand dollars per person, often payable through payroll deductions.

Nonprofit groups like Project Equity, the ICA Group and the Cooperative Development Institute walk owners and workers through the process. The whole thing typically takes one to two years.

What changes for employees

Less than you might expect on day one. The same people show up, the same customers call, the manager is usually still the manager. Over time the differences show up in three places.

Money. ESOP participants build a retirement account they did not have before. Co-op members share profits, often paid as an annual patronage dividend. Studies of ESOP companies consistently find employees have more retirement savings than peers at conventional firms.

Voice. In a co-op, workers vote on the board and often on big decisions like expansion or pay scales. In an ESOP, voice depends on the company's culture. Some open the books and involve employees in planning. Others run exactly as they did before.

Stability. Employee-owned companies are less likely to be sold, moved or shut down, because the people who would decide that are the ones who work there. Research on ESOP companies shows lower layoff rates during downturns.

What to ask if you are interviewing at a converted company

• When did the conversion happen, and is the buyout loan paid off? Until it is, profits go to the bank first.
• What share of employees are owners or members? At some co-ops it is nearly everyone. At others, membership is a separate step with a waiting period.
• For an ESOP, how long until you are vested?
• For a co-op, what is the buy-in and how is it paid?
• Does the former owner still run the company? A long handover is normal. An owner who never leaves is a different situation.

Where this is heading

Conversions are still a small share of business sales in the US, but they are growing. Several states, including Colorado and Massachusetts, now fund employee ownership centers. Italy has had a law since 1985 that lets workers buy a failing company and run it as a cooperative, which is part of how firms like CPL Concordia got to 1,800 employees. If you want to see what a company looks like decades after a conversion, read our spotlights on King Arthur Baking and Equal Exchange.