Employee ownership: removing the barriers

The recent Nuttall report on employee ownership, published by the Government and written by Graeme Nuttall, tax partner at Field Fisher Waterhouse, presents an interesting opportunity for the legal profession, and also throws down a challenge.

The Nuttall report is the outcome of a six-month inquiry into how the Government can better support and promote the employee-owned model, and remove barriers to its wider adoption. It follows the Deputy Prime Minister’s stated intention in January 2012 to “drive employee ownership into the bloodstream of the British economy”. In addition, HM Treasury is conducting a separate inquiry into the regulatory environment for employee-owned businesses and will be reporting prior to the Autumn Statement. The signs are that the UK Government is serious in its support for the model.

Concept for our time

The opportunity for law firms is obvious. Employee ownership will become an increasingly prevalent model in our economy. The drivers are coming from two sources.

First, discontent with the status quo is growing. The banking crisis, insider dealing, and disproportionate executive pay and bonuses, have all led to an intensifying desire to find better, more transparent and accountable ways of doing business. Employee ownership, where the employees own a significant element of the shareholding, is seen as a preferred option to the traditional external shareholder corporations. It is upheld as an antidote to corporate greed and hailed as a model for “responsible capitalism”. Everyone loves John Lewis, we’re told, and with cross party support, employee ownership is a popular policy to push.

Secondly, apart from the political interest, demographic analysis suggests that as the “baby boom” generation reaches retirement age, we will see a growing number of business owners looking to sell their companies. Coupled with this, an increasing number of family businesses face crises of succession as the next generations choose not to take over the reins of the family firm. This succession issue is much wider than just one for businesses: SMEs account for 99% of Scottish private businesses and over 50% of total private sector employment. Poorly handled succession would have deep repercussions for our economy.

Employee ownership appears to be a good fit for owner-managed and family businesses. These businesses tend to develop a unique culture and way of working, building strong, loyal relationships with customers and employees. Family businesses usually play an important role in their community, which goes beyond a source of jobs. For owners of such businesses, a trade sale where strangers will take over and change what they have created and nurtured over the years, and may even bring about relocation out of the local area, is unlikely to be their first choice. The idea of having a competitor’s name over the door is often anathema to business owners, who have dedicated considerable effort to creating something they believe to be unique. A management led employee buy-out (MEBO) enables business owners to control the business transfer process and, to an extent, manage their exit as befits their requirements. In many cases, owners pursuing the MEBO route have considerable influence over the shape of the new business.

A smaller, but growing source of employee-owned businesses is as a startup model. This is happening more in the field of knowledge businesses, where ownership can attract and lock in talent.

The outlook for employee-owned firms is very good. The recent Cass Business School research found employee-owned businesses to be at least, if not more, profitable and productive, more innovative and have higher levels of employee and customer engagement than conventionally structured businesses. Further research carried out by the Employee Ownership Association found that employees in these firms are healthier and happier, taking fewer sick days and suffering less from stress. There are strong arguments on many levels for wider adoption of employee-owned structures.

Enhanced support

And after what has been a fallow period for many Scottish law firms, the increased business opportunities presented by this shift are to be welcomed. Therein lies the challenge. The Nuttall report identified the legal and accountancy professions as one of the obstacles to the growth of employee ownership. The suggestion is that the professional advisers are not sufficiently informed or experienced in alternative business structures (used in this sense) to provide the right advice. According to the report, unfamiliarity with the model gives rise to the perception that a move to employee ownership is “difficult”, with the consequence that business owners may be dissuaded from pursuing the option, and turn to the better known tracks of a trade sale or MBO.

To counter this, Nuttall proposes that a “task force” be set up consisting of legal, tax, accountancy and other relevant professional bodies. This task force will seek to identify how employee ownership can be a more integral part of advice provided by intermediaries, including supporting the intermediaries with training resources on employee ownership. The objective is that the employee-owned structure is given equal weight as a succession option to a trade sale or MBO, and also as a model for startup businesses.

The report recommends also the setting up of an independent institute which would serve as a centre for knowledge and learning. This institute would work with the relevant professional bodies and consider providing accreditation for those working in the field of employee ownership and serve as a reference point for businesses considering transition.

Developing a straightforward “off the shelf” model is proposed as a solution to the complexity reported by many. This would comprise template and toolkits covering legal and tax considerations. The report calls for a removal of the 125 year limit on employee benefit trusts (no such limit exists in Scottish law), and also calls for improvements on the operation of internal share markets.

The recommendation proposing that employees have a right to request employee ownership of their firms has been more controversial. Bodies representing businesses have expressed concern that this will result in an increasing management and legislative burden on already hard pressed SMEs. Beyond this, there is widespread cynicism as to how workable such an initiative could be. There is currently a call for evidence from BIS, and responses can be made at www.bis.gov.uk/policies/business-law/employee-ownership/Call for Evidence

Scottish angle

With the overwhelming evidence supporting employee ownership, there does seem to be an obligation on the legal profession to rise to these challenges.

Scotland is already blazing a trail here. Only a very small number of lawyers have expertise in this area UK wide, and many of these are Scottish based. This can possibly be attributed to two factors. First, we have some stellar success stories of Scottish employee-owned firms: Clansman Dynamics, Woollard & Henry, Aquascot, Highland Home Carers and Tullis Russell, to name a few. The second factor is that we have an organisation dedicated to promoting and supporting employee ownership in Scotland. Co-operative Development Scotland (CDS) is a subsidiary of Scottish Enterprise, working in partnership with Highlands & Islands Enterprise, tasked with developing employee ownership and collaborative working in Scotland.

Employee ownership is recognised as a model for sustainable economic development. High levels of employee engagement drive productivity, innovation and growth. It therefore fits well with CDS’s aims as an economic development agency. Importantly, employee ownership can anchor the business in the community, thus sustaining quality jobs and skills in the local area.

I don’t agree with Nuttall’s comment that lawyers have been blocking the growth of employee owned models. Generally, we have found law firms to be very supportive in our efforts to promote employee ownership. However, we would like to see the employee ownership option presented as a norm, alongside other succession and startup models.

Case study: West Highland Publishing, Broadford

West Highland Free Press is an iconic Scottish newspaper based in Skye. The five founding shareholders were looking to exit the business and this posed a worrying issue for the employees. The paper had been previously targeted by some of the major publishers looking to snap up the popular local title. Such a sale would have led almost certainly to relocation to the central belt of Scotland, or further.

One of the shareholders, former Government minister Brian Wilson, introduced the employees to Co-operative Development Scotland, and the employee buy-out was the result. Anderson McArthur & Co advised the employees, and Wright Johnston & Mackenzie advised Baxi Partnership Ltd, who provided most of the funding. Now that the employees own the business, the future is more secure. The paper maintains its independence and stays in Skye. The company is looking to diversify revenue streams, and is seeking out ways to ensure sustainability.

“Employee ownership was the best answer for us,” says managing director Paul Wood. “The succession problem has been removed and we can focus on producing a high quality paper and growing our business.”

Case study: Accord Energy, Aberdeen

Disenchanted with the restrictions of corporate life, oil and gas consultant Alan Spence and his two colleagues wanted to break out and create an innovative business that was different. Their vision was to attract the best talent in the field and establish a culture where everyone would feel part of it and be recognised and rewarded for their contribution. In 2010, Accord Energy was born.

“We see the employee owned model as the ideal platform for growth”, says Spence. “We have an ambitious strategy to expand into new markets and we need the best people on board to do that. Our advisers, Raeburn Christie Clark & Wallace, were rather bemused when we first described our plans. However, they understood our objectives and provided useful advice and guidance that helped us on our way towards employee ownership.”

An employee benefits trust will gradually buy the shares from the founders on behalf of the employees, and a share incentive plan will enable employees to buy shares in the company. The business is already outperforming initial forecasts and is on target to reach £5,000,000 turnover within the next few years.