Employee ownership: what are the choices?

Business ownership in the UK has gone through a period of rapid diversification. More businesses are deciding to give their employees a slice of the action in the form of ownership – and we wholeheartedly support that movement!

There are a few ways to offer ownership, including directly (via share schemes), indirectly (via trusts like Employee Ownership Trusts) and through co-operative ownership structures. 

While each method shares a similar purpose of granting employees some degree of ownership and control over the business, there are substantial differences. 

It’s time to delineate these ownership methods and end the confusion surrounding them once and for all.

What is an employee-owned business?

Employee-owned businesses are owned either entirely or significantly by employees. 

Though there’s no strict legal definition for when a business counts as “employee-owned”, there are two broad criteria:

Employees must have a financial stake in the business (usually by owning shares) and a say in how it’s run, typically known as ‘employee engagement’.

Ownership can either be direct (e.g. by granting employees shares) or indirect (e.g. by selling the business to a trust).

A third method is establishing a co-operative, a unique type of collaborative ownership structure consisting of multiple members. 

Let’s delve into each option. 

Direct employee ownership

Direct ownership uses one or more share plans to grant employees shares in the business. 

Businesses can offer direct ownership through tax-advantageous share schemes, including the Enterprise Management Incentive (EMI), which is tax-efficient for both the company and its employees. 

One of the primary benefits of direct ownership is that shareholders can participate in dividends (options must have been exercised first).

Employees can also sell their shares following a change in control or liquidity event like an IPO, or the company might offer to buy the shares back off them (buybacks). 

But a big exit is not the only way employees can benefit from share schemes.  

The benefits of direct employee ownership include the following:

• Offering direct ownership is an attractive proposition for new employees and helps retain them long-term, as they’ll benefit from any uptick in share value.
  
  
• Direct ownership provides a solid platform for collaboration and working towards collective goals.
  
  
• Share schemes, like the EMI scheme, are highly tax-efficient and cost-effective for qualifying businesses. 
  
  
• Direct ownership is relatively simple to implement, especially for startups looking to establish collective ownership from the start.

Indirect employee ownership

If a business decides to offer employee ownership through the indirect route, shares are held on behalf of employees, usually through a trust.

Employee Ownership Trusts (EOTs) are the most common form of trust for indirect ownership. 

Trust ownership via EOTs is relatively new (the scheme started in 2014). EOTs are sometimes called the “John Lewis model”, as the John Lewis Partnership is the most well-known EOT.

The trust will hold a percentage of the company, and that same percentage of company profits will be passed to the trust.

Trust models typically guarantee the business the full value of shares, and the sale of shares can be exempt from capital gains tax.

They’re popular for mature businesses progressing towards ‘legacy’ status, i.e. owners and shareholders are happy for a trust to steer the business as they relinquish control.

More and more businesses are going down the EOT route. HMRC received more than 430 applications for EOTs in 2022. Five years ago, they received just 19. 

Depending on how the business decides to reward employees, the benefits are typically small but consistent. Employee benefits might consist of an annual bonus proportional to profits, for example.

Direct ownership is nearly always a more lucrative proposition for employees, while indirect ownership favours the benefits to the business. 

The benefits of indirect employee ownership include the following:

• Employee benefits are flexible, ranging from a bonus proportional to profits to healthcare, extended holidays, etc.
• Bonuses are exempt from tax up to £3,600 per year.
• Businesses can use the Trust Deed to help guarantee the business’s future.
• The business can offer incentives without making employees direct shareholders.

About Employee Ownership Trusts (EOTs)

Establishing an EOT involves transferring a majority (51% or more) of the company’s shares to a trust.

The trust is formed by a number of Trustees, typically consisting of employees, directors and sometimes an independent Trustee external to the business.

EOTs are typically governed by a constitution outlined in a Trust Deed, which can help guarantee the interests of both the business and its employees.

As mentioned, employees benefit from a say in the business and bonus payments and any bonus payments are exempt from income tax up to £3,600.

While the employee engagement aspect is liable to get swallowed up when an EOT is as large as John Lewis, it's an effective strategy for smaller businesses, with EOTs reporting double the productivity of equivalent-sized businesses on average. 

Hybrid ownership

Indirect ownership via trusts such as EOTs, and direct share ownership via shares schemes, like EMI schemes, are not mutually exclusive.

A business can become an EOT while providing direct ownership, i.e. a “hybrid” setup. For instance, many companies transitioning to an EOT will also set up a share option scheme like EMI.

Co-operatives 

The UK is home to some 7,000 co-operatives contributing around £40bn to the economy yearly. 

Co-ops can take many forms and operate in virtually every sector, though they’re most common in education, farming, manufacturing, industry and retail. 

Businesses belonging to the Co-operative Group Limited, such as Co-op supermarkets and Co-op Funeralcare, are probably the most widely known co-ops in the UK.

What are co-operatives?

In general terms, co-ops are owned and controlled by members, which can be anyone from customers to suppliers. The main principles of a co-op are:

• Co-ops are owned and controlled by members. Owners can be just about anyone, from customers and employees to suppliers.
• Co-ops are democratic. Members have an equal say in all activities.
• Members should all contribute financially, including purchasing stock, contributing labour, etc.
• Members should collaborate to provide education and collaboration to promote and develop the co-op.
• Co-ops support other co-ops and the communities/localities they work with and operate in.

Most co-ops are relatively small-scale and localised, but there are some excellent examples of large and international co-ops too. Here are three examples of real-life co-ops:

1. Beanies

Beanies in Sheffield is a co-op with 11 members. By working co-operatively, Beanies have complete control over their suppliers, enabling them to support local suppliers through the co-operative.

For example, one former member was a brewer that joined the Beanies co-op to offer his products as part of a team with harmonious interests.

2. Yalla

An international co-op, Yalla, is formed by members in the UK, Palestine, Turkey and Germany. Co-operative organisation and ownership enable Yalla to distribute work in the best interests of its 9 members.

3. Lambeth Community Solar (LCS)

LCS is part of Repowering London, a not-for-profit organisation focused on green energy. This co-op installs solar arrays on schools and commercial buildings, raising funds by offering community shares in those panels and the energy they generate. 

In terms of legal forms and structures, co-ops can take on two specialised legal forms as per the Co-operative and Community Benefit Societies Act 2014. These are (1) co-operative or community benefit societies, and (2) community interest companies. 

Co-ops can also act as private companies limited by guarantee or shares or as limited liability partnerships.

Comparison

The table below compares all three avenues. Open it in a new tab for a closer look. Deciding to offer employee ownership

Business founders and owners can decide to offer ownership at any point in the business’s lifetime. Here are some of the most common scenarios.

1. Business succession

Older businesses often decide to pass part or all of the business to a trust. This helps owners wind back their involvement without allowing the business to be sold or taken over.

2. Growth

As businesses grow, attracting and retaining key employees become a top priority. Offering ownership can fuel growth and incentivise employees, particularly in the case of EMI schemes. 

3. Startups

More startups are offering ownership than ever. Incentivising employees from the get-go is a proven formula for fuelling growth and retaining key team members for the long term.

EMI options schemes are ideal here, and they’re generally worth setting up sooner rather than later. 

For startups and new businesses, direct ownership can be the secret ingredient required to fuel growth and attract dedicated team members. 

Direct ownership through share schemes is what Vestd is all about. We'll do the groundwork for you so you can focus on growing your business.

If you’re a new business or startup, then that’s even better, as you’ll probably be able to take advantage of the EMI scheme. Find out if you're eligible in as little as two minutes.

Contact us today to discover more about share schemes and how they might benefit you. 

And while we're on the subject, why not download our free guide to share schemes? It'll tell you everything you need to know.