Employee trusts, an investment mechanism that places capital in the hands of a company’s employees, results in far more benefits for both company owners and employees, according to a whitepaper released by Perpetuate Capital, a private credit fund specializing in employee trusts and various creative investment solutions.
The whitepaper, which includes a case study on Regent Surgical Health, an ambulatory surgery company that underwent an employee trust takeover in 2016. Perpetuate Capital General Partner Thomas Mallon was co-founder and chairman of Regent Surgical Health at the time, and he oversaw the transaction.
According to Mallon, in 2016, Regent Surgical’s leadership was faced with a choice between accepting private equity investment, selling to strategic partners, or selling to an employee trust. Because Regent Surgical placed high value on maintaining the culture of care for its employees, advisors and patients, it dismissed the possibility of selling to private equity investors. This was because it knew that being 100% owned by a PE fund would lead to the loss of the culture and purpose it had cultivated in its 16 years in business.
The board was leaning to sell to a strategic buyer, a multinational healthcare company that it had a long-standing business relationship with. However, before the deal was finalized, Regent Surgical’s leadership instead chose the employee trust, after seeing that going down this road resulted in a better tax situation, and that its employees would receive a larger amount of money.
To help the employees become more familiar with the nature of employee trusts, the management team engaged in various communication efforts including quarterly meetings and inviting investment advisors to educate employees and their families on how to best handle a possible financial windfall and avoid putting it to waste.
However, the main challenge was the middle part of the financial structure. The company would become 100% owned by the employee trust from day one. This meant it needed to raise 100% of the value of the sale in financing. Regent Surgical, which used to be completely debt-free, would become 100% indebted overnight, albeit with 25% in seller notes. Mallon says that Regent's leadership felt that the 100% tax shield on profits would allow the company to meet and exceed the debt payment schedule. With a senior lender willing to lend 25% and the sellers willing to reinvest 25%, the company needed 50% more in order to close the transaction.
Within 60 days of the decision, Regent Surgical was able to fully close the employee trust deal after 42 of its 400 doctor partners agreed to invest in the transaction.
Mallon says the first year as an employee trust was challenging for two reasons, firstly the management team had to be rebuilt to replace retired partners, and secondly, it had investment needs due to the new centers it was building. However these issues exist in the majority of companies going through succession, and the employee trust transition is no different but has the benefit of not paying taxes which maximizes cash flow during the period.
While Regent Health was eventually acquired from the employee trust by a joint venture between a private equity fund and a major Catholic health system in 2021, the four years it spent under an employee trust resulted in rapid growth, allowing it to build four new surgical centers and significantly increasing its valuation.
Upon being acquired in 2021, nine of Regent Surgical’s management team members received proceeds in excess of $1 million. Meanwhile, the staff in the $40,000-$50,000 salary range received proceeds of $400,000 to $600,000, if they had been employees for more than five years. Had Regent Surgical agreed to the initial sale in 2016, the employees would not have received these life-changing financial benefits that can help them fund their retirement, especially with a looming social security crisis in the US.
According to Perpetuate Capital, Regent Surgical’s story shows that, through an employee trust, both investors and employee trusts can receive valuations equal or better to private equity, while maintaining the culture and mission of the business, thanks to the tax shield Congress allows.
“Owners selling to employee trusts can save taxes while retaining the character of the business. Sellers can exit a business without conceding lower valuations while making a big, redemptive impact. Furthermore, the company’s employees are much more highly engaged and they tend to outperform those from non-employee trust companies,” Mallon says.
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