Five Questions about Employee Ownership and Valuation with Adrian Loud of Censeo Advisors

Adrian Loud is the managing director of Censeo Advisors, located northwest of Atlanta.  Censeo is a valuation firm, which means they provide third-party estimates of what a reasonable purchase price is for a company. Many of their clients are either considering or have an Employee Stock Ownership Plan (ESOP).

“What Censeo does,” says Adrian “is try to help all parties involved in ESOPs figure out what the fair-market value of the company is. ESOPs are retirement plans, like 401(k)s.  Creating an ESOP means selling part or all of the company to that plan. So, it’s very important to nail down just what the value of the company is. This helps make sure the sellers are adequately compensated, and the ESOP is paying a reasonable price for that company.”

We asked Adrian five questions about what it means for a company to become employee-owned through an ESOP, and what role valuation plays in the process.

When you think about a company considering becoming employee owned, when in the process should they go to a valuation company?

We don’t want to put the cart before the horse. Any business owner contemplating implementing an ESOP will want to know what the value of their company is. And most business owners are not valuation people, which is understandable. They’ve been busy throughout their careers focusing on growth, on building this incredible asset which is their firm. So, valuation is often a new topic for them.

Getting a valuation done is usually one of the early steps in the ESOP process. It’s not usually the first step, though. That might be talking to an attorney to better understand the whole process. Or talking to their accountant to get an early reality check on whether an ESOP is financially viable for them. After they talk to that attorney, or accountant, or maybe a banker, that’s when we might get a call. We’ll help ascertain the value of the company and see if it makes sense for the owner to move forward with an ESOP transaction.

What would you say are the primary pitfalls that a company needs to be aware of in going into a valuation?

A lot of companies tend to worry most about the financial aspects: revenue and profit and growth. I agree these are important, and we certainly take a hard look at a company’s financial history and prospective financial performance. But equally important and often overlooked is the culture of the business.

Does the existing culture of the company support an employee ownership structure? An ESOP, by its very nature, is dependent on how well the employee participants work together. Are they all rowing in the same direction? Are they driving revenues, are they driving profitability, or do they feel more passive about the business, is it just a job? Are the employees empowered, are they motivated by the company’s mission, or are they just there to earn a paycheck?

The financials matter a lot, but they’re not the only important item. In making our recommendations to a company, we’re equally interested in financial performance and culture. 

What are the things that a company should do to prepare for their first valuation as a potential ESOP?

An ESOP valuation has a lot in common with any other business valuation. There’s a great deal of due diligence to be performed. And there’s going to be a lot of time spent poking and prodding in the company to make sure this is a viable, good candidate for an ESOP.

We get started by putting together a data request list.  It’s filled with questions about the financials, company background, marketing processes, legal-related stuff, and economic and industry issues. It’s a kitchen sink, if you will, of questions, that we’re going to pose to the company to assist in ascribing value to the company?

To prepare for that, the owner will want to make sure that the company has its financial statements in good condition. Additionally, we want to see that the house is in order, that the management team is well-qualified and has some depth to it. That relationships with customers, and vendors, and employees are all strong. If the company can do an internal assessment of all those things first, and make sure that everything is well maintained – that’s a terrific start for a potential ESOP transaction.

Let’s say you have a company that goes through a valuation, and you find that they are not, right now, ready for an ESOP. What next steps would you recommend, if they still would like to someday be employee-owned?

The mere fact that they’re considering employee ownership is fantastic. Most sellers only think about a more traditional sale to a private equity group, a competitor, or a financial buyer. If they care enough about their people and community to consider employee ownership, we certainly want to keep it on their horizon.

Normally, if our valuation does not, in the end, land where the seller would hope, we’ll talk about next steps with them. We’ll sit down with that seller and say: here’s where we see some shortfalls, and here’s how to start improving on them.

So, perhaps profit margins aren’t where they need to be yet to garner the price the seller is hoping for. Let’s figure out how to increase margins. Perhaps the company isn’t big enough yet – which happens quite often. Let’s talk about what a healthy growth trajectory looks like, and how soon we can get to the point so an ESOP becomes viable. We’ll figure out a plan so that in two, three, or even five years the seller can come back and is primed to pursue an ESOP transaction.

Finally, what factors should a company take into consideration in selecting a valuation firm?

Valuation is broad practice area, there are many practitioners in the space, all with different specialties. For an ESOP transaction, you want to find a practitioner who has worked on at least a handful of transactions in the past. Preparing an ESOP valuation is not that different from performing a valuation for tax or financial reporting purposes. But there are a lot of nuances to an ESOP that valuation professionals with other backgrounds may not be aware of.

The key is finding a valuation firm that’s got great ESOP experience, has performed multiple ESOP transactions in the past, and helps existing ESOPs update their valuations on an annual basis. And beyond that, the practitioner should be part of the employee ownership community. He or she should attend ESOP functions, go to national and local meetings, and be recognized in the ESOP community as someone who knows the field. Experience and involvement in the ESOP community – those are the two primary factors I would look for in trying to select a valuation firm.