On this episode Josh speaks with Daniel Goldstein, President and CEO of Folience. They discuss employee stock ownership plans (ESOPS), the advantages of having one, and the best ways of getting to that.
Daniel Goldstein is President and CEO of Folience. He has 25 years of executive leadership experience that spans five continents and an irresistible wanderlust that’s carried him to more than 50 countries. It’s a spirit for exploration that’s essential as Daniel shares Folience with the world in his role as chief ambassador and educator.
In today’s episode you will learn about:
- Employee Ownership – Why it bene ts employees, their families, their communities, and the country.
- Silver Tsunami – The largest transfer of wealth in history as Baby Boomers age and what might happen to companies/jobs.
- Folience’s Model – Uniquely derisking the complication and capital inherent in transitions to EO.
- Resources – National organizations working with the employee ownership community.
Narrator: Welcome to Cracking the Cash Flow Code where you’ll learn what it takes to create enough cash to fill the four buckets of profit. You’ll learn what it takes to have enough cash for a great lifestyle, have enough cash for when emergency strikes, fully fund the growth program, and fund your retirement program. When you do this, you will have a sale‑ready company that will allow you to keep or sell your business. This allows you to do what you want with your business, when you want, in the way you want.
In Cracking the Cash Flow Code, we focus on the four areas of business that let you take your successful business and make it economically and personally sustainable. Your host, Josh Patrick, is going to help us through finding great thought leaders as well as providing insights he’s learned through his 40 years of owning, running, planning, and thinking about what it takes to make a successful business sustainable and allow you to be free of cash flow worries.
Josh: Hey, how are you today? This is Josh Patrick. You’re at Cracking the Cash Flow Code. My guest is Daniel Goldstein. He is with a company called Folience. We are going to talk about something which I am really excited to talk about, which is using Aesop’s in an unusual way.
Now, ESOP stands for Employee Stock Ownership Plan. Here’s the challenge with ESOPs, there’s a ton and a ton of jargon that goes around it. We’re going to do our best to explain the jargon as we go along. For those who don’t know, ESOP stands for Employee Stock Ownership Plan. We’re going to bring Daniel on. The first thing he can do is explain to us what an ESOP is. Let’s bring him on.
Hey, Daniel, how are you today?
Daniel: I’m great. Good to be here. Thanks, Josh.
Josh: Thanks so much.
Daniel: You want to know what an ESOP is?
Josh: Yeah, what’s an ESOP?
Daniel: Okay, in real simple terms, an ESOP is an Employee owned company, and employees don’t pay for the stock. They get it by investing their labor to earn equity. So just by working for the company, they get to earn equity in the company. It’s the great American dream of owning a stake in your company.
Josh: Why would they want to do that?
Daniel: Because this is the way that they will be able to fund their retirement. The wonderful things about ESOP’s is that they pay competitive wages and benefits, which addresses income inequality. The ESOP is a qualified retirement plan that accumulates wealth to fund their retirement which addresses wealth inequality. The difference between the two income inequality is getting through to the end of the month with your living expenses. Wealth inequality is funding your lifetime financial needs through retirement.
Josh: I’ve been a fan of ESOP’s for a zillion years and there are companies that are good for ESOP’s and company that are bad for ESOP’s. What were the differences between the two be?
Daniel: Well, I’m going to steal your thunder, Josh, because I know that you always say that ESOP is not a solution for a failing company. So the absolute first rule is that to be successful as an ESOP, the company itself has to be successful.
It has to be profitable. It has to be of a certain size, the rule of thumb, people say anywhere from a minimum of at least 25, if not 50 employees, and probably a couple million dollars in revenue, EBITDA, smaller than that there are some other forms like co-ops that might be available for employee ownership, but you need to be a successful company with a certain minimum size to really be feasible and sustainable in ESOP.
Josh: So [inaudible 00:03:39] is I don’t know if this is the right term, an ESOP holding company. Would that be the right term for that?
Daniel: Yes, we call it an ESOP own diversified holding company.
Josh: So what exactly is that?
Daniel: Our company started in 1884, around a newspaper that we started publishing the prior year in 1883. We still publish it to Cedar Rapids because that 100 years later, we had both print and broadcast media that ESOP was started in 1986, a partial ESOP.
In 2012, the company became 100% ESOP owned and in 2015, the television station was sold. I started shortly thereafter in early 2016 with the idea that we had to diversify our revenue base because at that point, we were again, just a newspaper company.
To be around for the next 130 years, we needed to diversify where our revenue came from. The diversified holding company is a platform where we acquire other companies making them employee owned having them join our portfolio of companies. Our first acquisition was an ambulance manufacturing company. We then acquired later, a very high end horse and livestock trailer company. Today, we have over 500 employees.
We do over $100 million in revenue. We’re two thirds in manufacturing, one third in media so the diversification of revenue helps us weather volatility both in industrial sectors and geography. You can’t get much more diversified than newspaper and manufacturing.
Josh: It’s pretty diversified. It kind of reminds me of Berkshire Hathaway.
Daniel: Many people point to that. I will humbly say that it is of the same kind, but we are infinitely smaller.
Josh: You don’t have insurance companies, which is what Warren Buffett’s main driver is. So, I assume you guys are an S corporation, a subchapter S corporation.
Daniel: Yes, we made the change in 2012 from a C corp to an S corp.
Josh: Could you explain why being a subchapter S corporation in an ESOP is so important?
Daniel: I can, but I’m probably not the right person, Josh. There are some very specific tax advantages and tax pass troughs. Honestly, I would need to get my much smarter Chief Financial Officer or some of my very smart partners to explain the intricacies of that or turn it back to you.
Josh: Okay, so I’m going to take it back there for a second just explain to anyone who’s listening, why we’re talking about ESOP’s and specifically S corporation ESOP’s? Why we need to have 50 employees at least an ESOP to makes sense. Subchapter S corporation is a pass through, which means at the end of the year, the owner gets a K-1 for the profits of the company and the owner pays taxes based on that K-1.
Now if I have an ESOP, which is a tax free entity, while it’s being run, own the company stock, the ESOP gets the K-1 because ESOP is a tax free entity, you are actually running your company, income tax free, both federal and state, income tax free.
Now, there’s a whole bunch of rules that have to go there. The interesting thing about Daniel’s company is, if you were to be acquired by his company, you wouldn’t have to worry about all those rules because they’re taking care of it. I will tell you, I’ve done a whole bunch of ESOP’s. I’ve talked to people about ESOP’s for 25 years.
Almost every week, I have an ESOP conversation with somebody and they’re darn complicated. Now, I can get into the weeds and confuse the heck out of you about that, but it’s not something that we need to do. But just realize that when you have an S corporation ESOP, it is tax free.
That’s one of the reasons we do there and another thing about the S corporation ESOP, which I really wanted to talk to Daniel about today. Because for years, I’ve been saying, “If you want to grow your business through acquisitions, an S corporation ESOP there is not a better way to do it.
So Daniel, why is that true?
Daniel: Now I can answer that question. Thank you for the technical explanation, the sort of higher level explanation of what you said about why it’s important to be tax free is that, it’s a little bit— I use the analogy of a 401k. When you put your money into your 401k you defer taxes until when you take money out and there’s income at retirement.
That’s why have accelerated growth within your investment account because you reinvest what would have leaked out as taxes. An ESOP is the same way when you have an S corp. When you put your company into an ESOP S corp structure, what you would have paid for taxes is reinvested into R&D, innovation, CaPEx, etc.
So you have accelerated growth over time. It’s not that you don’t pay taxes, those taxes are deferred until when the employee owners take their withdrawals from the ESOP account at retirement. But that’s part of the reason why there is a lot of evidence that documents the competitive advantage of ESOP’s structures over other structures, because that reinvestment over time.
Now, there are significant other factors such as the culture, the long term horizon, the risk aversion etcetera that ESOP’s have for why they’re also at a competitive advantage, but that tax piece is very important. It’s specifically for that S corp.
Josh: So, when you’re buying companies, you’re basically buying through stock sales, using pre tax dollars to do that. Let me just explain why and how powerful that is. If I pay you a million dollars for your business, and you’re in the 40% tax bracket, the cost of buying that business really isn’t a million dollars.
It’s really $1.8 million because you have to earn $1.8 million, pay your taxes which at 40% will be $800,000 to leave you with a million dollars to pay for the business. But if an S corporation ESOP buys your business, they only have to pay you a million dollars. They don’t have the tax cost.
So they have a huge advantage in the marketplace when it comes to buying your business, whether it’s a stock sale, or you’re talking to somebody about an asset sale.
Now, the thing that I’ve really liked for years I said, “You know something, if you really want to grow your business, and you understand there is lots of ways to gain value out of your business becoming a wholly grown ESOP and going down the acquisition strategy by matching culture in finance and operations is an incredibly credibly strong and powerful way of going.”
I remember I wrote this article for [inaudible 00:10:11]. I was blogging for them about an M&A story of a company who bought an electrical distribution company in Utah, large company. It was a billion dollar ESOP. It was $2 billion buyers.
The billion dollars ESOP bought it because they immediately made everybody 100% invested. They could afford to pay more money because it used after tax dollars. It was a better cultural fit for the selling owner than the publicly traded companies.
So, when you think about what an ESOP is, and Daniel, I want to talk about this a little bit, which is the culture of an ESOP and why an ESOP culture generally is way, way more preferable than a private equity deal for example.
Daniel: Yeah, so statistically, a private equity deal means that the company is going to be up for sale within three to five years of the transaction. Of course, that means that management employees don’t have much confidence. In the long term, they’re going to start looking elsewhere.
Competitors are starting to take advantage of that turmoil and noise. ESOP’s are long term. They’re patient capital. They’re going to be looking at not only the culture. They’re investing in the employees and the communities. They’re looking at that long term. When we go in, and we invest in the company, two of my best days in my career with Folience were when we acquired Lifeline emergency vehicles and Cimarron Trailers.
I got up in front of their employees who had no idea why they were being gathered together for an all employee meeting and told them, “I have some news for you. Your company has been sold. Folience has bought it. There’s a big gasp. Then I say, “And now I’m going to explain to you how you’re going to become the owners of the company.”
That’s very powerful, that’s a completely different than trying to spin a private equity group has bought you and within three to five years, you’re going to be sold again. Through our integration, through the transaction integration in both these acquisitions, not only was not one job lost, but we’ve had growth in both those companies. That’s the real power of that long term focus.
The culture is very important. This is where ESOP’s tends towards greater transparency and greater inclusion of the decision makers at all levels. That can run from the spectrum of just sharing some high level financial data to some ESOP’s implement what’s called Open Book Management.
Along that spectrum, my style is something that I call Distributed Leadership. What that means is that there’s much greater transparency and pushing the work to the appropriate level.
So for example, I never need to be and never should be that spurred on HR issues in any of our companies. I’ve got really strong colleagues that are the experts in that field. I will always be informed at an executive level of what’s going on throughout the organization, but I don’t need to be a part of every decision. I’m not a part of the decisions for even some major things.
Like, when one of our companies went from a five day eight hour workweek to four nines and a four, which has been a great thing for attracting and retaining employees because they have essentially a two and a half day weekend every week. It’s lowered overtime.
Again, I didn’t need to be a part of that. That was done by the appropriate people, the appropriate level. Then also, it’s engaging employees at all levels.
Well, ESOP stands for Employee Stock Ownership Plan. I really say it stands for Engaged Employee Stock Ownership Plan, because that engagement is key to unlocking the competitive advantage around the culture.
For anyone who’s watching this video, you’re going to see that I whenever I talk about ESOP’s I reach for my wallet, and I pull out something which I’m holding up to the camera. It’s our license to act. Every employee owner has this card. It’s not about the card. It’s about the message. It’s the rights and responsibilities of ownership that every employee needs to participate in their ownership because that’s going to be the engagement that really unlocks the innovation, the productivity.
That’s the simple example. You can walk by the trash, or you can pick it up. But much more importantly, is that people that are doing the frontline work that really made the difference. One example is, in our commercial printing plant, we’ve passed a three year mark of no lost time incidents. Recently, I was talking with an employee from the plant and she said, “You know, this is an [inaudible 00:14:29] management.” It’s on me and my coworkers. We’re the ones that are being safe every day and how we work. That’s just the real power of employee ownership.
Josh: One of the things that I really like about employee ownership– there are two types of ESOP’s in the world. There are the types of ESOP’s, you just described and then there’s the type of ESOP’s where it’s done purely as a financial transaction.
I’ve been involved in both when an ESOP is purely a financial transaction which is very, very, very powerful. They don’t last an ESOP very long because the commitment for the selling owner and the commitment to the next generation of owners is not around transparency and only ownership. It’s about how can I get the most money out of this business. If that’s why you want to do an ESOP don’t do it.
Josh: It’s not going to be a successful activity. There’s a good chance he’s going to crash and burn. There’s a good chance that Department of Labor is going to put you right in the crosshairs. You don’t want any of those things to happen. But, if you think that transparency, employee involvement, your employees are the experts at their job, and you want a great financial transaction, an ESOP just might be the right way to go. The reason I like what you do is you taken all the complexity out.
Daniel: I’ll get to that in a second, Josh. There’s something that you said, which is really important, which is also differentiation in ESOP’s is succession planning, because it’s always about the next generation. We care about long term sustainability and profitability. You have to have both profitability and culture to be sustainable, but what makes the difference is succession. ESOP’s invest in their employees so we have longer tenure.
We really make sure that there’s going to be succession, which means that you’re going to continue that success. People are going to be brought up to be the next generation of managers. Some of our companies, we have people that have over 40 years of tenure with that one company. That’s just been a really phenomenal part of the success of ESOP’s and why if you’re not going to be involved in the culture. Absolutely, you need to do something else.
As far as what you’re saying, Folience does take a different approach to ESOP’s in the sense that we are an ESOP non diversified holding company. What that means is that we’re taking other companies, we’re converting them from a different ownership to employee ownership and we’re adding them to our platform. But what’s different about that is that, if you sell your company to your employees, and you do stand alone ESOP.
You have a great company, you have a next generation of management that can take over the company, and they’re going to be very skilled at running the business. But now they also have to figure out what does it mean to be an ESOP. As you started out, saying, ESOP’s can be quite complex. So, you have management which is skilled at running their business, they have to take their eyes off their business which introduces operational risk to then take on something which they’ve never done before, which is understand and run an ESOP, all the audit, compliance administration because they don’t know that, that introduces compliance risks.
That’s where a standalone ESOP might have some difficulty in transitioning through that ownership change. When a company comes and joins Folience, we want an underlying business that has the next generation of management that can successfully run that business.
That’s what they’re going to focus on. So, when we brought some Cimarron Trailers into our portfolio in 2018, Ben and Tony took over from Michael [inaudible 00:17:52] as President, Director of Operations. They just had to focus on running the business, building and selling very high quality trailers. We took care of all the administration, the legal, and the compliance. We brought them the culture leadership development programs. We converted their payroll systems to automated payroll.
We brought them all sorts of other programs. They didn’t have to worry about that. When we came into this year with all the COVID and other things, they didn’t have to worry about PPP funding. We took care of that through our shared services. They just focused on first and foremost, keeping their employees safe and healthy. Secondly, navigating and surviving the global pandemic and the financial turmoil that came with it. That’s where there’s a difference between how Folience bringing companies through that employee ownership transition.
Josh: There’s something else at Folience that brings to the party, which I’m sure you’re aware of, is that to do an ESOP right, it cost about a quarter of a million dollars to form and ESOP from scratch. I’m going to bet that your cost of acquiring somebody moving into your ESOP is less than $50,000. Now, that you’ve done all this stuff, and the annual compliance, the extra for a new company isn’t all that much. But if you’re a standalone, it’s a good 30 to $50,000 to do it right because you needed an independent board. You need to pay for evaluations. You need all sorts of stuff that needs to be done, which are part of the rules from the Department of Labor or running the ESOP properly.
Now, there are lots of promoters out there who are going to say, “Oh, you can do it for $75,000 and you can be your own Board of Trustees. You don’t need to tell your employees anything.” I’ve listened to those guys talk and I say, “Okay, yeah, you can probably do that, but don’t ever get audited.”
Daniel: Yeah, no, absolutely. So, once you’ve gone through the due diligence, and whether you’re doing an ESOP, not doing an ESOP of course, there’s costs of due diligence, but once you’ve gone through that there literally is no cost to us for bringing somebody on the platform. For example, when we acquired Lifeline emergency vehicles in 2017, 180 employees— we added one employee to our shared services.
In 2018, when we acquired Cimarron Trailers 125 employees, we added one person to shared services. There really is no cost us. We already have the trustee. We already have the plan. We already have the audit partners, the legal documents. We can bring them through all the notifications. We don’t need to pay for another trustee. There’s an incremental cost to evaluation, but it’s not a full cost of standalone. The complexity and cost really is minimal to the almost be nonexistent.
Josh: Daniel, this is a really interesting conversation. I’m sure we could go on and a lot longer. Here’s the unfortunate thing, we’re out of time.
Daniel: Already. Wow, that was fast.
Josh: Yeah. Well, you know, 20 to 23 minutes is not a long thing. I will say that if you go to nceo.org?
Daniel: I believe so. Yes.
Josh: Yeah, NCEO (National Centre for Employee Ownership). They have a ton and I mean a ton of information about ESOP’s. If you’re interested in this concept, I highly recommend you go there. If you’re interested in learning what Daniels doing at Folience, I’m going to bet he’d be willing to have a conversation with you. How would they find you?
Daniel: Absolutely. If you go to https://www.folience.com/ then also can I add, Josh, that I am a very strong advocate at a national level for advancing employee ownership and increasing the opportunity for employee ownership.
Let me give three other organizations that you can look up The ESOP Association. That’s https://esopassociation.org/, The Employee Ownership Foundation, that’s https://employeeownershipfoundation.org/, and then employee ownership expansion network and that’s https://eoxnetwork.org/.
Many states, Vermont is one of the best have state centers that you can go to, to get more information, really good information. Again, you can find all those state senators through that https://eoxnetwork.org/. There are some wonderful national organizations that will point you to the service providers that are really skilled in understanding ESOP’s because you really can get through this transition without inordinate costs or complexity, of course, with Folience you can do it with very little cost or complexity, but not every company is going to be a good match for us and vice versa.
Josh: That’s true. We didn’t talk about which is another thing, and we’re not going to have time so I’m just going to mention it, is that if you have millennials working in your company, they will love in an ESOP structure as a love benefit corporations. So, if that’s part of your strategy for going forward, you’re going to need millennials and Generation Z to work for you. ESOP’s are pretty darn good thing to have.
I have two things I want to ask you to do. One is please, please, please, after listening to this show, go to wherever you’re listening to this podcast and give us an honest rating and review. If you hate it, let us know you hate it. If you love it, let us know you love it, but please do that. The second thing is really one of the good things about an ESOP is what I call Financial Freedom from your business.
I’ve had this project for business owners for years, which I call the Financial Freedom Project, which is one of the things you need to be doing in your business to help you become financially free and how to get yourself unstuck when I call Perma Five, which is where everything always seems like it’s five years away. Again, it’s really easy.
It’s free, just go to https://sustainablebusiness.co/freedom. That’s https://sustainablebusiness.co/freedom. This is Josh Patrick. We’re with Daniel Goldstein. You’re at Cracking the Cash Flow Code. Thanks a lot for stopping by. I hope to see you back here really soon.
Narrator: You’ve been listening to Cracking the Cash Flow Code where we ask the question, “What would it take for your business to still be around 100 years from now?”
If you’ve liked what you’ve heard and want more information, please contact Josh Patrick at 802-846-1264 extension 102, or visit us on our website at www.sustainablebusiness.co, or you can send Josh an email at firstname.lastname@example.org.
Thanks for listening and we hope to see you at Cracking the Cash Flow Code in the near future.