by Edward O. Sweeney and Justin St. Louis

Chobani, LLC, recently announced that it would be giving most of its employees stock shares pursuant to what is commonly referred to as an employee stock ownership plan (ESOP). As a result of the move, Chobani’s employees will collectively own roughly 10 percent of the company. How does an ESOP work? Is such a plan right for your company?

Background
On April 26, 2016, Chobani, a leading Greek yogurt producer based in Central New York, announced that its employees would be receiving stock shares through an ESOP equating to 10 percent of the company. Chobani is valued at $5 billion. The company’s founder and CEO, Hamdi Ulukaya, announced that employees who have been with the company the longest will receive the largest share of the ESOP to reward their commitment to Chobani.

The company’s decision means that a number of Chobani employees became millionaires overnight. Some analysts have speculated that Chobani’s move is not entirely altruistic, however. Because Ulukaya may be in a power struggle over control of the company with a private equity firm, those analysts say that the use of an ESOP is a way to weaken the firm’s position over Chobani.

How an ESOP works

Employees have long been able to own stock in the company for which they work. Employees can buy stock directly, receive stock options or shares as a bonus, or obtain stock through a profit-sharing plan. However, ESOPs are the most common form of employee stock ownership.

To create an ESOP, an employer must first establish a trust account for employees’ use. The employer will then purchase its own stock and place it in the trust account. While employers are generally free to devise their own formulas for allocating stock shares to employees, most companies use a formula based on seniority, job performance, and work history. The stock is then normally held in trust until the employee dies, becomes disabled, or leaves the company. The company may buy back the shares of departing employees.

As Chobani’s recent move demonstrates, there are attractive benefits to establishing an ESOP. As stock holders, Chobani employees are simultaneous owners who have an increased incentive to see that the company performs well. Employees are more likely to take on the characteristics of ownership by working toward increased productivity and efficiency as well as maintaining a better relationship with management.

ESOPs also provide an incentive for employees to reject overtures by organized labor. Finally, there may be financial benefits in setting up an ESOP. Some companies have seen more economic growth and increased tax benefits due to the tax-deductible nature of many ESOP transactions.

Is an ESOP right for you?

There are also costs to setting up an ESOP, and such plans are not inexpensive. Initially, the company must devote its own capital to establish the ESOP or borrow money to buy back shares. An ESOP may also result in stock dilution (i.e., the value of stock shares held by current owners may decrease). Moreover, managing an ESOP may be expensive.

Naturally, nonemployee shareholders may not be pleased about their diluted shares and the increased number of shareholders, potentially leading to shareholder lawsuits. There are also regulatory compliance issues to consider, especially under the Employee Retirement Income Security Act (ERISA), the Internal Revenue Code, and the Pension Protection Act (PPA) as well as applicable state laws. Finally, partnerships and professional corporations are not normally eligible to set up an ESOP.

Bottom line

While an ESOP may not make sense for every employer, it’s a great option for companies that have carefully thought out the advantages and disadvantages. If you’re interested in establishing an ESOP, you should first consider performing an economic feasibility study. It would also be wise to speak to ESOP and ERISA counsel as well as your tax consultants before moving forward with an ESOP. Once the decision is made, it’s important to have effective communications with employees.

Ed Sweeney is an attorney with Coughlin & Gerhart, LLP, practicing in the firm’s Binghamton, New York, office. He may be contacted at esweeney@cglawoffices.com. Justin St. Louis is a summer associate with Coughlin & Gerhart, LLP, and attends Syracuse University College of Law. About: New York Employment Law Letter: Excerpted from New York Employment Law Letter. New York Employment Law Letter does not attempt to offer solutions to individual problems but rather to provide information about current developments in New York employment law. Questions about individual problems should be addressed to the employment law attorney of your choice. Contact New York Employment Law Letter editors at Coughlin & Gerhart, LLP.