ESOPs Explained: A Practical Option for Business Owners Planning an Exit

Insights

If you are thinking about selling your business, you are likely balancing a few competing goals. You want fair value. You want to reduce taxes where possible. And in many cases, you want to protect the people and culture you built.

An Employee Stock Ownership Plan, or ESOP, offers a different path that can help address all three.

This article draws on insights shared during a recent advisor discussion on ESOPs, including perspectives from Ashley Sarokhan and the team at Lazear Capital Partners, who specialize in structuring these transactions and guiding owners through the process.

What an ESOP actually is

At its core, an ESOP is a structure that allows a business owner to sell shares to a trust set up for employees.

From the employee’s perspective, it functions similarly to a retirement plan. They receive shares over time, without having to invest their own money. As the company grows and is valued each year, those shares reflect that value. When employees retire or leave, they receive the value of their account.

For the owner, it creates a built-in buyer without needing to run a broad sale process or negotiate with outside firms.

Why owners start exploring ESOPs

Most owners begin by considering a traditional sale. That usually means private equity or a strategic buyer. Those paths can work well, but they often come with trade-offs that are not obvious at the start.

ESOPs tend to enter the conversation when owners want liquidity but are not ready to hand over control or disrupt the business.

One of the most important differences is how taxes are handled. In a typical third-party sale, a meaningful portion of the proceeds is lost to capital gains taxes. With an ESOP, if structured correctly, those taxes can be deferred or potentially eliminated. That changes the comparison quickly. In many cases, an owner would need a significantly higher offer from a third party just to match the after-tax outcome.

Another key difference is deal certainty. Traditional transactions often include earn-outs, where part of the purchase price depends on future performance. These can become points of tension and, in some cases, lead to disputes. ESOP transactions are structured differently, with a defined purchase price and a clearer path to full payment.

Control, continuity, and legacy

A common concern is whether selling to an ESOP means stepping away from the business. In most cases, it does not.

Even after selling 100 percent of the company, owners can remain in leadership roles and continue to guide strategy. Employees receive economic ownership, but not voting control over operations. This allows the business to continue running as it did before the transaction, unless the owner chooses to make changes.

That continuity extends to culture. Unlike a third-party buyer, an ESOP does not introduce a new outside influence that may push for restructuring or cost-cutting. For owners who care deeply about their team and reputation, this is often a deciding factor.

How the payout works

The structure of the deal is one of the main trade-offs to understand.

In a traditional sale, a large portion of the purchase price is typically paid at closing. In an ESOP, the upfront cash is usually lower, often in the range of 30 to 40 percent. The remaining value is paid over time through a seller note, funded by the company’s future performance.

In practice, many transactions are structured with a target repayment window of three to five years. That said, the timing can vary. In industries like construction, where revenue and cash flow can fluctuate, repayment may take longer in certain periods and accelerate in others.

For owners who believe in the long-term strength of their business, this structure can still lead to a strong overall outcome, even if the timing is not perfectly linear.

The “second bite” opportunity

One concept that stood out in the discussion is what many advisors call a “second bite of the apple.”

Even after the initial sale, owners may retain a form of upside through warrants or similar structures. These allow them to participate in the future growth of the business.

For example, an owner might sell a company valued at $100 million today. If the business grows to $200 million over the next several years, the retained interest can capture a portion of that increase. If a future buyer comes in at an even higher valuation, that upside grows further.

This helps address a common hesitation. Many owners delay selling because they believe the business will be worth more later. An ESOP allows them to take some liquidity today while still participating in future growth.

The impact on employees

One of the most meaningful aspects of an ESOP is its effect on employees.

Instead of relying solely on traditional retirement savings, employees receive an additional benefit tied directly to the company’s performance. Over time, these accounts can grow significantly. In some cases, balances are meaningfully higher than what employees accumulate in a standard retirement plan.

This tends to change behavior in subtle but important ways. When employees understand that their efforts directly impact their own financial outcomes, engagement often increases. Retention improves. Productivity follows.

It is not just a financial structure. It is a cultural shift.

Who tends to be a good fit

ESOPs are not one-size-fits-all, but there are some common characteristics among companies that pursue them.

Businesses typically have a strong underlying business model, a capable management team, and enough scale to support the structure. Owners are often looking for a transition plan rather than an immediate exit, and in many cases, they are not planning to pass the business down to family members.

The best way to evaluate fit is not through assumptions, but through analysis. Firms like Lazear Capital Partners often provide a complimentary feasibility analysis so owners can compare outcomes side by side before making a decision.

Common objections, addressed

Many owners assume that running a competitive sale process will always produce a better outcome. That can be true on a headline price basis, but it is not always true after taxes and deal terms are considered.

A more useful approach is to compare net proceeds under each scenario. A feasibility analysis can show what an ESOP would deliver and what a third-party offer would need to look like to match it. That clarity often reframes the decision.

Another concern is complexity. ESOP transactions do involve multiple parties, including a trustee who represents employees, valuation firms, lenders, and legal advisors. However, with the right team coordinating the process, the experience for the owner can remain focused and manageable.

Finally, some wonder whether becoming an ESOP limits future options. In practice, it can make a company more attractive. Well-run ESOP companies often build strong balance sheets and engaged workforces, which can appeal to future buyers, including private equity.

A practical way to start

If you are considering a sale in the next several years, it helps to approach this methodically.

Start by understanding what your business is worth today. From there, compare different exit paths based on after-tax outcomes, not just headline valuations. Then step back and clarify your personal goals. How involved do you want to remain? How important is employee impact? How much liquidity do you need upfront?

Those answers will guide the right structure.

One next step

If you want to explore whether an ESOP fits your situation, we can walk through a simple comparison based on your numbers.

Book a 20-minute call to see what makes sense for you.

Disclosure
This material is for informational purposes. It is not individualized investment, tax, or legal advice. All investing involves risk. Strategies depend on each client’s goals, timeline, and risk tolerance. Consult with a qualified professional before making decisions.