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Succession Planning with Employee Participation - an Early Instrument for Your Succession

Dr. Christopher Hahn
This article was last updated: 01.06.2023

Entrepreneurs do not simply retire: they hand over their company to a successor. However, the search for a suitable successor is becoming increasingly complicated for a variety of reasons. The greatest challenge lies in demographic change: There are too few potential successors. This is why today's entrepreneurs have to plan their company succession at an early stage. One possibility is to rely on the instrument of employee participation well in advance of the transfer of the company.

Background: Advantages of employee participation in relation to the transfer of a company

Among the major challenges in the search for business succession are the following aspects in particular:

  • Number of prospective buyers is lower than number of companies for sale
  • Financing the sale of a company is becoming increasingly complicated
  • Economic conditions are becoming increasingly difficult due to energy crisis, war and shortage of skilled workers

Depending on the form of employee participation, employee share ownership can cushion some of these aspects and thus contribute to a better success of the business transition. Since there are different forms of employee participation, the suitability of this instrument varies depending on the variant chosen, or the appropriate form of employee participation must be found for each specific company situation.

Overview: Forms of employee participation

Employee participation models offer benefits to both the company and the employees. Basically, it is always a matter of retaining employees in the company. Just as a company needs to retain customers to ensure long-term success, it also needs to retain skilled employees. This can be done in a variety of ways: Through a good working atmosphere, an appropriate salary, and the opportunity to directly or indirectly influence the success of the company and then also benefit from this success.

A basic distinction is made between tangible and intangible employee participation models. In the case of tangible employee participation models, employees are rewarded materially for good performance, long service to the company or other criteria. Intangible models of employee share ownership are primarily concerned with the entrepreneurial participation of employees. This can relate, for example, to the planning of new projects. However, there are also participation models that combine both aspects.

In addition, employee participation models can be designed in such a way that only individual employees, a specific group of people or all employees participate. Depending on which model is chosen, employee participation has different advantages for the company: These range from employee loyalty and identification with the company to a pre-selection instrument for a potential successor from among the company's own managers.

Corporate investments: The different models

The following is an overview of the most common models for tangible and intangible employee participation. Advantages and disadvantages are outlined. However, individual advice is always required on the basis of a precise examination of which model is particularly interesting for a specific company with a view to business succession.

‍Employee shares
This model of employee participation is only suitable for stock corporations. In this model, employees receive share packages as a reward or compensation element. Alternatively, employees can purchase shares at preferential conditions with their Christmas bonus, for example. Depending on the structure and performance of the shares, this form of employee participation involves a not inconsiderable tax risk for employees.

(Real) GmbH shares
In the case of a GmbH, it is possible to make employees shareholders with voting rights by giving them a stake in the company's share capital. This can take the form of an ESOP (Employee Stock Option Plan), for example. This gives the employees involved participation and control rights. This means that the employees become shareholders with all rights and obligations and, in the event of insolvency, generally face a total loss. Since the transfer of shares in the company must be notarized, this model of employee participation is very costly. However, it is well suited for making a preliminary selection among potential company successors.

Silent partnership
By means of a silent partnership, employees become shareholders in a company who have no co-determination rights. In principle, employees participate in both the profit and the loss of the company. However, the loss can be excluded.

Virtual employee stock ownership as a promising alternative (VSOP)
Due to the need for notarized contracts, genuine employee stock ownership often entails considerable cost and administrative effort. In addition, there is the tax risk for the employee. The benefits are often disproportionate for both sides, employee and employer. Virtual employee participation , also known as a VSOP agreement between employer and employee, can serve as an optimal alternative. The difference to "real" participation is that the employee does not become a shareholder in the company, but is placed in a monetary position through contractual agreements as if he were directly involved. He therefore has no shareholder rights, in particular no voting rights. However, he receives "profit distributions" and any exit proceeds as if he were a shareholder under company law.‍

Indirect genuine participation via investment company
In this employee participation model, employees become genuine shareholders - but "only" in an additionally established investment company. The investment company then has normal participation rights within the company. However, the employees as a whole are a shareholder. If the employees were to become shareholders in the company itself, there would be as many (additional) shareholders as there are participating employees. In the case of indirect genuine participation via an investment company, the administrative effort is therefore significantly minimized. In addition, potential company buyers are not deterred by a large number of shareholders. This instrument of employee participation therefore serves to bind employees to the company, but not primarily to (pre)select a potential successor.

Conclusion

The different models of employee participation pursue different goals. Employee share ownership can be used to support business succession at different levels or even to promote the search for business successors. It is also possible to combine different models of employee share ownership or to use different models for different hierarchical and personal groups. In this way, employee share ownership can support or even solve the following aspects of corporate succession:

  • Search for a suitable company successor from within the company's own ranks
  • Retention of skilled employees in the company so that the company successor(s):in knows the company is well positioned in this respect.
  • Direct or indirect participation of selected employees or the entire workforce, so that they can participate to a certain extent in the continuation of the entrepreneurial line even after a company transfer or can at least help shape a realignment.
  • Increase in employees' sense of responsibility (ownership)
  • Additional positive side effects such as increasing employee motivation and better opportunities for employee recruitment

Disclaimer: The contents of the information offered at esop-direkt.de do not constitute legal advice. If you require a legal review of your individual case, please contact our specialized team: beratung@esop-direkt.de

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Dr. Christopher Hahn
Lawyer & Author
Your expert for employee benefits
Questions? Talk to our expert!
FREE CONSULTATION
Dr. Christopher Hahn
Lawyer & Author
Your expert for employee benefits
Questions? Talk to our expert!
FREE CONSULTATION
Dr. Christopher Hahn
Lawyer & Author
Your expert for employee benefits
Questions? Talk to our expert!
Dr. Christopher Hahn
Lawyer & author, your expert on employee benefits
FREE CONSULTATION
ESOP & VSOP
As an employer, you may not form tax provisions in accordance with section 249 (1) sentence 1 HGB and section 6 (1) no. 3a letters a) and e). This is because, according to a landmark decision of the BFH dated March 15, 2017, file no. I R 11/15, classic VSOP agreements are obligations subject to a condition precedent.
Questions? Talk to our expert!
Dr. Christopher Hahn
Lawyer & author, your expert on employee benefits
FREE CONSULTATION
ESOP & VSOP
As an employer, you may not form tax provisions in accordance with section 249 (1) sentence 1 HGB and section 6 (1) no. 3a letters a) and e). This is because, according to a landmark decision of the BFH dated March 15, 2017, file no. I R 11/15, classic VSOP agreements are obligations subject to a condition precedent.
Questions? Talk to our expert!
Dr. Christopher Hahn
Lawyer & author, your expert on employee benefits
FREE CONSULTATION
ESOP & VSOP
As an employer, you may not form tax provisions in accordance with section 249 (1) sentence 1 HGB and section 6 (1) no. 3a letters a) and e). This is because, according to a landmark decision of the BFH dated March 15, 2017, file no. I R 11/15, classic VSOP agreements are obligations subject to a condition precedent.

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