Employee stock ownership plans, or ESOPs, are becoming increasingly popular among architecture, engineering, planning and environmental consulting firms. The percentage of ESOP firms participating in ZweigWhite's annual "Valuation Survey of A/E/P & Environmental Consulting Firms" has increased from 17% in 2002 to 22% in 2003 and 26% in 2004.
"ESOPs have been around for more than 30 years, but seem to be gaining in popularity in the industry in recent years. One reason may be the legislative changes effective in 1998, which made S-corporations eligible to sponsor ESOPs," said Ian Rusk, ASA, a principal who specializes in financial advisory consulting for ZweigWhite.
Another reason may be simple demographic forces. The A/E/P industry is highly fragmented and made up of tens of thousands of companies, many of which are relatively small (under 100 employees) and still owned and operated by their founders. "With many of these first generation owners being of the baby-boom generation and nearing retirement, and given the tax efficiencies of ESOPs, it's not surprising to see more firms employing them as a tool to manage major stock redemptions," explained Rusk.
Rusk also noted, "The tax advantages of the ESOP include the ability of the company to deduct the principal portion of ESOP debt and redemption of shares through contributions to the ESOP plan. From the sellers' point of view, selling their shares to the ESOP may allow them to defer the capital gains tax on the sale under certain circumstances, although this deferment is not applicable for S-corporations."
ESOPs are not for everyone, however. Factors such as firm size, cash flow, debt service capacity and corporate culture need to be carefully considered.