EOT Trustee: Roles and Responsibilities Explained

The Role and Responsibilities of an EOT Trustee

Garry: Hello, my name is Garry Karch, and I'm the head of the Employee Ownership Trust, or EOT Services, group practice here at Doyle Clayton. We are a law and advisory firm based in London and Reading. And I'm here today with Andy Campbell, who is a partner and the head of our trust and pensions group at the firm. And our topic today is going to be the role and responsibilities of the Employee Ownership Trust trustee directors. So with that, Andy, do you want to give a brief introduction of yourself and the practice and then we'll jump right in.

Andy: Thanks, Garry. I work alongside Garry and the rest of our EOT team in helping clients here in the process of transitioning from a traditional privately owned business model to an employee owned model under the banner and structure of Employee Ownership Trusts. And as part of that, my role is to help clients with the practical and legal aspects of establishing the trust vehicle itself that will, in an EOT sale, acquire the shares in the selling company and who, going forward, is going to be the principal majority shareholder in the converted business. So what we're looking to achieve and provide today through today's mini podcast is really just a bit of helpful information and guidance around Employee Ownership Trust trustees. We'll be touching on things like why people would want to take the role on, how an EOT operates and what the roles and duties of the trustee are.

Garry: I think this is the question we actually get quite often from clients, who should serve as a trustee director, who can serve as a trustee director? And I think important to that is starting out saying, what is the EOT structure and what does that then lead to and what does it mean from a trustee director's perspective?

Andy: I think that's a good helpful place to start. Let's start with a bit of a quick recap and a few bits of black letter law. It's always good to remember that we are a law firm and an EOT is a business ownership model that's relatively new in the UK. It was introduced under the Finance Act 2014 which allows a trust vehicle to be set up for the purposes of holding a majority stake in the share capital of a private limited company.

What is different for a trust relating to an EOT from a normal trust, is that the establishment of an EOT confers particular tax advantages on the people who set it up, both for the selling shareholders who get capital gains relief on their share sales to the trust, and also for the employees who work within the business who can also benefit from tax advantages, particularly tax free bonuses up to £3,600 per year which are paid once the trust has acquired the shares. So the structure itself legally is quite a simple animal. It involves a straightforward transfer of the share ownership from the selling shareholders in the private limited company to the trust. And once the business is converted and the trust is operative, the trust holds the shares, as settled property over the trust and the trust acts as majority shareholder in the business, which means it's got to have a controlling stake, at least 51%.

Garry: Here's a question that we get quite often. You need to sell the controlling interest, but what happens in a situation where you don't sell 100%; the vendor remains involved. And I know you'll talk about some of this as we go into specific details, but just broadly conceptually, does management of the company really change from a day-to-day basis?

Andy: No, and I think we're going to come on to this and I think it's a really important point that you allude to there, Garry, in terms of the structure and legal duties of the trustee of an Employee Ownership Trust. Because there is a complete separation of powers and division of responsibilities between a trading arm of the company, the operating company where life and day-to-day business continues as normal, and the trust, which is effectively a private shareholder in the company, it's very much a passive investor. And to that extent it would not have any more direct legal rights in terms of the day to day running of the company than say you or I would if we bought shares in a private limited company. You’ve obviously got a voice, you've got a certain expectation to receive particular management information, to get a bit of an understanding of what's going on with the company and you can ask relevant questions of the directors in your capacity as shareholder. But it's very important, I think a very crucial point for anyone who’s looking to take the role of a trustee on, to understand up front that your role is the role of a trustee. It is not an operational executive role within the trading company.

Garry: I just thought that was a really important foundation to set, with respect to the rest of the comments you’re going to make today.

Andy: And I think it’s an important point because lots of people do get slightly worried about taking on the role of a “trustee” because people may associate it with more traditional models of trusteeship, for example, the trustee of a pension fund where you've got direct responsibility for things like investment duties over a pension fund, you're responsible for managing assets. That is not the case with the role of a trustee within an EOT. So I think it's quite helpful today if we can help people navigate through the particular structure of what an EOT trustee role actually entails because it's a little bit different to a traditional trustee model, albeit with some similarities.

Who should be your Trustees?

Garry: So I think let's just get into the first major question and that is, who should be your trustees? And then within that context, who can, who should, differentiate if you could, the difference between trustee and trustee director, I think that's an important point.

Andy: I think the first thing to say here, my first observation is that often when you establish an EOT, trustees are not, strictly speaking, trustees at all, but rather they are directors of a trustee company. And now it's a slightly subtle difference, but legally it's an important one, because when an EOT is established, the governance and legal structure which we recommend the clients use is to put in place a newly incorporated company, a Trust Company, a trust co which acts as trustee but who takes decisions and actions through its appointed officers, i.e. the trustee directors. And so when somebody is appointed as a trustee of an EOT, in fact what they will do is they will agree to act as a trustee director of the actual trustee company itself. And this is relevant in terms of the legal protections and the level of comfort which somebody assumes when they take on the role of trustee. Because ultimately that direct and final responsibility for the role of trustee actually sits with the company in the same way that it would do with a private limited company where directors have the protection of the corporate shell and the corporate veil under the UK Companies Act.

It then begs the question, if it's all established, who should be your trustees? Now there's no hard and fast rules as to who should be a trustee in an EOT. The legislation around EOT's is not prescriptive in any way in that regard. But what we do when we advise clients on this is we recommend putting in place a couple of sensible guidelines as to the constitution of the trustee board. Now, an obvious starting point for this is that we should always look to have an odd number of trustees which avoids deadlock. So start with an odd number of trustees, maybe three, perhaps five depending on how big your company is and within that make sure that you've got an appropriate spread of experience and expertise on the board of the trustee company. One approach that we found works quite well is to have different trustees with different responsibilities for the trust, so you may have somebody for example, who is particularly responsible for staff communication, someone else is responsible for governance issues within the trust and so on.

The other thing to be aware of is to get the right people on board at the start of the process. Now, when somebody agrees to act as a trustee director, they assume a trustee duty of independence, but within that there's also practical real world elements that you have to be sensible as to who you appoint. When a business has just gone through a conversion process to an EOT, it's important to make sure that the initial trustee board is staffed by sensible, commercially minded people who understand what the role is and the particular duties which they agree to take on, when they are going to start to act as a trustee.

In terms of the constitution, as well as making sure that you've got good citizens on there, it's also sensible to install provisions whereby people are not appointed on a permanent basis. We might recommend, for example, appointing trustees on perhaps a rolling cycle of maybe three to four years, so you have a certain amount of turnover and freshness within the trustee board, but you also keep a basic level of continuity and knowledge as to how the trust is run and the particular corporate history within the EOT as well.

Practical lessons: first, good spread of experience and skillsets, second make sure that you appoint good citizens to start off with and then once perhaps an EOT has learnt to walk a little bit it can then start to run, and maybe you can look at appointing something like a staff nominated trustee director perhaps a year or two after you've converted and then make sure that you include provisions to keep that trustee body.

Should vendors participate on the Trustee Director Board?

Garry: What's your view on vendors participating on the Trustee Director Board as part of the transaction?

Andy: There's absolutely no problem with that from a legal perspective, there's two issues which I’ll identify in terms of pros and cons. The obvious pro is that having someone from the management board vendor team sitting on the Trustee Board means that somebody is going to bring a particular level of seniority and corporate knowledge, which is actually really important to have within a body of trustees. It also shows that the vendors are being quite supportive and that they’re buying in to the new Trust Board that’s been set up. I think the flip side of that is that there is perhaps a perception risk among staff that the same people are still going to be running the trustee board as previously run the company, and the way to address that is just make sure that you have an appropriate spread of trustees representing different parts of the business and different constituencies of your staff.

Garry: So to summarise it's okay for the vendor to participate and we see that fairly often?

Andy: Overall we see it as a positive. Senior individuals have always got a lot to bear and a lot to bring to the table in terms of their own experience and knowledge of the business. Ultimately, it's these guys who've run and built the business to the stage where it's been able to convert to an EOT. Alongside that just make sure that there's also other people within the room as well, so it's not just effectively a rollover of existing management team into the new trustee body.

Garry: Thank you, that makes perfect sense.

What if I have an issue with a Trustee director?

Tying into that, to the appointment, and there were a couple points where I could have brought this question up, so if you do have an issue with a trustee director, there are some ways to either educate them as to what their role is, potentially you'll structure something where if they cease to serve in a certain role than they have to step down from the trustee board, is that correct? 

Andy: Yeah it's possible to incorporate those kinds of provisions into the governing articles or some kind of management agreement, as it may relate to the trustees. I wouldn't go as far as to say that it's a common problem but it is fair to say that sometimes newly appointed trustees are not fully up to speed immediately with the scope and extent of their duties and in particular that very important distinction which we talked about a little bit earlier on regarding the separation of functions between trading company and the areas of involvement that the trustees should actually have within the business. Although I said earlier on that an EOT is effectively a passive investor within the business from a legal perspective and that is the case, it doesn't mean that the EOT is completely powerless. The EOT has a very important legal role to play within the operation of the business, particularly within the first couple of years after the EOT is set up. The trustee directors should concern themselves with having a supervisory role around the EOT and by that I mean making sure that the particular conditions around tax relief, which is set out in the Finance Act, are met as regards to how the EOT operates itself, how bonuses are paid, how shares are sold to the EOT and so on. More generally, the trustees can actually act as a really important helpful interface and point of contact between the employee population who are the beneficiaries of the shares that are held by the trust and the management of the trading company as well. So it's a fine balance, isn't it? What companies and trustee boards don't want is they don't want to find themselves with trustee directors who follow the model of a trade union shop steward who wants to challenge management at every single point down the line, because that's not their role. But at the same time, there is a real and tangible legal role that trustee directors need to fulfil and they need to be up to speed with what that role entails. As part of that you need to get familiar with the constitutional documents of the trust, so the trust deed and rules, the memorandum and articles of the trading company and actually, in fact the specific legal duty on trustees to be familiar with the terms of their own trust documentation so that they can act in line with their fiduciary duties to staff. It's an interesting role, it's a challenging role, but our experience is that when people take it on it's something that people have seen as positive, worthwhile and also often a really interesting new string to the bow of their own career.

Communication within the Trustee board

Garry: This is a question that really comes based upon your experience and serving as a trustee director not only for our transaction (Doyle Clayton is owned by an Employee Ownership Trust) but for other clients. So on a day to day basis I always think of the two major decisions as do we buy the shares upfront and justifying that, and then if we get an offer, ultimately, you as a trustee director would have to sign off on accepting that. But between those two bookends, can you talk a little bit more about communication, a little bit about the day to day operation, how do you interface with the trading company management team, those types of things?

Andy: So a very obvious activity for the newly established board of trustees to get involved with is helping communicate the message and sell the message around the benefits of what life in an employee owned business looks like, because EOTs rationally are a actually a really good business ownership model for companies to make sure that companies are sustainable. It means they’re not susceptible to being sold to a third party without the trustees’ say so. And they generally feel like quite secure, well capitalised environments in our experience.

There's a really positive message around employee ownership that can be sold to staff, the “John Lewis” model of a company if you like. Trustees should get involved very early on in communicating some of that message to staff. We’ve seen instances, Garry you and I, where sometimes the message around the EOT conversion perhaps hasn't landed as cogently and as neatly as one might hope that it would be because people hear the words share sale and inevitably that gets people excited and up in arms, people get the wrong end of the stick and immediately begs the question, well what does it mean for me, my job and my career, rather than actually helping position the message and clearly communicating what an EOT is and what the benefits to staff are and helping that land very clearly from day one.

Generally as well the point that you touch on there, as well as at front end and back end, you're involved in acquiring the shares, you may or may not be involved in selling the shares in the future, what should you have to do in between?

When somebody acts as a trustee in any role, they take on a fiduciary responsibility to act in the best interests of the beneficiaries under that trust. Now in this context, let's just skip forward a bit to a stage where an EOT is converted to an EOT and it's 10 years down the line and they get a very attractive offer for the share capital from a third party buyer. In those circumstances, the trustees would have the ultimate responsibility and the ultimate veto or approval of a sale of shares, and what they would have to do when considering whether to approve that share sale is whether or not the offer for the shares could be seen to be in staff's best interests.

Now, in this context, what does best interests mean? Does it mean financial best interests?

Well yes, to quote Don Corleone “None of us are communists”, and we're not doing this for charity, are we? We all want to do well out of our working lives financially, of course we do. But best interest goes slightly beyond that, so what the trustees would have to do when it came to an offer for the shares, is they would have to look at things like the particular terms of the offer, think about what the long-term ramifications for the business might be, what life in the workforce might look like. They also need to consider things like Companies Act duties, was a sale of shares here able to fairly promote the overall long term success of the company. It's a really helpful habit for the trustees to get into, to think that at every stage of the company's life cycle after it’s converted to EOT, they should be asking management is what's happening at this point in time in staff's best interests? You may have things, for example issuing of new shares, EMI options being issued to senior members of staff and trustees may look at that and ask a question around is this in best interests? You could take the view that it is, if on the one hand you encourage staff retention and longevity for senior individuals, it's very important to the business. But you should be asking questions around that, is granting the EMI options to one person for example, meaning that someone else is either missing out or company resources could be focused in a different way. It doesn't mean that they get the final say so, but these are the kind of questions that trustees should be asking just to show that they are holding the trading company to account and that they are making every effort to act in the best interests of staff.

Garry: In effect you want to facilitate a thoughtful process on the part of the trading company management for anything that could potentially impact the beneficiaries.

Andy: Correct, if I had to pick one phrase to describe the role of the EOT trustees, I would use the maybe slightly overused phrase “Critical Friend” is probably the neatest way of describing it in my mind.

Garry: In terms of that future event, there is nothing that would prohibit (assuming that it's in the best interest of the beneficiaries as determined by the trustees, based on a management recommendation), nothing would prohibit the company from doing something with a sale down the road, if it's in everybody's best interest, correct?

Andy: Yes absolutely. Just circling back to that best interests point, it's very important to underline that the trustees hold the share capital and they therefore have final say on whether or not to sell the shares. And that's a very important message internally for the staff because the staff know that their position is secure and protected and they have a board of trustees there whose role is dedicated to acting in their best interests.

Garry: How often in your experience and your recommendation would the trustee directors meet with trading company management and would they meet with the beneficiaries on a periodic basis or is that sort of left more up to the trading company management?

Andy: Yeah, it's a good question, Garry, in a sense, how long is a piece of string? In terms of regular trustee meetings in the first one to two years, we’d recommend perhaps meeting twice a year as a trustee board, to discuss specific trustee business. We’ve seen instances where trustee directors do attend management meetings purely in an observational capacity and just so that management can show that they are being visible to the trustee board. Another approach which trustee directors could use is they could publish their own annual updates to members as well on what the activities of the trust have been and who the current trustees are and so on.

It's a fine balance isn't it, because sometimes, we’ve all been in situations in our careers where you can have meetings for meetings sake and you can almost over communicate slightly. So for trustee directors it’s about getting involved at the right level, so I would say two meetings a year, whatever direct meetings with management is felt appropriate and then maybe if it’s suitable to the nature and dynamic of the workforce, an annual trustee update to staff might be in order. It all depends, because we’ve seen there’s many, many different entities which have converted to EOTs and what might work for someone like a Doyle Clayton where you’ve got staff who are of a particular type in the professional services space is not something that may work with a much newer company that’s staffed by people perhaps who are generally 20 years younger than us.

What protections can I build into the EOT?

Garry: One of the questions that comes up fairly regularly with the non-vendor directors or people being considered for a non-vendor director on the trustee board is am I exposing myself to any liability? They view the director role under companies law as something where there are bad things that can happen to them personally, if something goes wrong, what’s your perspective on that? What are the protections that you can build in?

Andy: I think it’s an important point and to the extent the trustee directors are understandably concerned about attracting personal liability through any decisions which they take, they should understand that they’re not the ultimate trustee, it’s a trustee company who acts as the corporate trustee. It’s not them personally, and they therefore have the protection of that corporate shell around them in the same way as a director of a limited company. As well as that, it’s also quite normal and standard, and it’s certainly the case in the documentation which we use, for the trust deed for the Employee Ownership Trust itself to contain standard exoneration and hold harmless provisions, so that trustee directors are personally fully indemnified by the trustee company in respect of any decisions or liabilities which arise in relation to their term of office as trustee and that they're also fully discharged from the terms of the EOT itself as trustees when their appointment ends. So the word trustee does get people excited, but I think if anyone is thinking about taking on this role, the potential to attract personal liability is not something which should overly concern you either, because there are legal protections that are baked into this structure to mean that you can sleep easy at night.

Garry: Since I'm not a solicitor, it really would come down to almost something where it would be wilful misconduct or malfeasance on their part before they could even remotely be faced with any personal liability?

Andy: Yes absolutely the exoneration and hold harmless provisions which you’d see in a trust deed, as they would do in any trust documents, generally wouldn't apply in the event that a trustee director has, how can I say this diplomatically, really gone off the range and done something really radically, wilfully wrong which I should add is not something we have ever seen happening in our own EOT client base. And failing that, you know in the normal run of events, trustee directors are properly protected and they have the comfort of different corporate protections that goes into the constitutional documents.

Should I invest in training for my Trustees?

Garry: In your experience, when you're at the beginning phase of implementing the trust, and you've got the trust directors who are going to be appointed, do you find it helpful and do you recommend some kind of trustee training as they enter into the process?

Andy: Yeah, I'm always happy to talk to people about trustee training, I could talk about this stuff all day and I often do. But just being serious for a second, we found that when clients convert to an EOT, it's really useful to have a bit of a teaching exercise with either the management team of the vending company and/or the newly appointed trustee directors just to help everyone properly get up to speed on what the scope and extensive duties are. And in that kind of session we cover some of the points that we've discussed today and a few practical points, a few war stories of things that trustees we've seen have done well and other instances where lessons can be learned.

Garry: Talk a little bit, if you would, about the role we can play and how we interact with the transaction and the role that you take on with respect to a trustee position.

Andy: Yeah, so I, as well as my day job, and as part of our EOT services, I sit as the independent trustee on a number of external client EOTs. Effectively this involves my appointment as an independent trustee director on a newly established board. What clients have found really helpful is that it's just useful to have an independent and experienced third party in the room, certainly in the first 12 to 24 months when they've converted to an EOT, who's fully conversant and up to speed with the legal rules around the EOT, who can offer a level of support and guidance to the trustee body on their responsibilities, which maybe they wouldn't naturally have within their own skill set amongst their own employee base.

I should add as well that when we take on this kind of appointment, we are absolutely not involved in the initial setup of the EOT. Our appointment as an independent trustee director only comes immediately after completion when the EOT itself is established because as we at Doyle Clayton advise on the conversion exercise itself, there's an obvious conflict of interest in also us approving the terms of the transaction as an EOT, that's a matter for the internal trustees in the business, and then following completion we would then look to come on board and sit as a fellow trustee director for either a fixed period or on an ongoing basis, whatever suits that particular client.

Garry: Yeah, a point that makes a lot of sense, you don't want anything to look at all off on how you get from point A to point B in your conversion to the to the EOT structure, so that's very valuable point.

Andy: Being a trustee of an EOT entity, is something which I personally found really, very interesting and worthwhile, it's an exciting space to be involved in. Converting to an EOT there's obviously elements of a, well I would say this wouldn't I, but it does genuinely give a different feel to an organisation and it makes it happier place and the experience across the industry is just certainly as you know with the number of these deals which you've done now Garry, it's close to 100 EOT conversions you've done?

Garry: Yeah and not quite that high but I think we've probably done, you know in our career since it started probably 80 plus, so quite a few. So we've seen I'd say the good, the bad and the ugly. The reception and the outcomes have generally been very positive.

Andy: Employee ownership in this slightly unstable uncertain world can never be a bad thing and people acting as an employee EOT trustee is a really important function within that.

Garry: Yeah, totally agree. So for those of you who have joined us today, if you do want to learn more about the EOT structure, please reach out to us, we're more than happy to schedule some time to talk with you and answer any questions you may have. And with that, we thank you for your time and encourage you to look for our next podcast which will be coming up shortly. Thank you very much.

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