Stay Bonus Agreements
A stay bonus agreement is a contract between the business and a key employee providing that the employee will not leave the company for a specified period of time after a particular triggering event, such as death of the business owner or a sale. At the end of that period, the key employee will receive a bonus which may increase the longer the employee stays with the company, depending on the terms of the agreement.
The Benefits of a Stay Bonus Agreement
- Smooth Transition: The retention of key employees during a transitional time provides continuity in critical company functions and secures cash flow for the business. In addition, without the key employees who understand the business’s operations, the company’s management may not have the know-how and skills to continue its operations.
- Retention of Key People: Keeping key employees on board through a transition is critical so that they can continue to add value to the company after the transition is completed.
- Preservation and Continuity of Client Relationships: Key employees tend to have strong relationships with a business’s customers, and those customers are more likely to remain loyal when their key employee relationships remain intact with the company. Stay bonus agreements also help to prevent key people from leaving for a competitor.
- Improved Morale: A stay bonus agreement makes key employees feel appreciated which improves overall productivity and long-term retention.
Stay Bonus Agreements for a Business Sale
The business owner wants to make the key person’s next best job the one they currently have. Often, this stay bonus plan is not only for the owner’s untimely death, but may also include staying with the company for a certain period after the business is sold to a third party. This can be to the benefit of not only the buyer, but also to the seller for key employees to stay put after the sale. In some scenarios, a portion of the purchase price is contingent upon post-sale company performance and in other situations, the actual sale may be dependent upon one or more key employees remaining after the business is sold.
Keeping key employees is not only desirable – it’s necessary if the business is to be sold at the highest possible price.
Plans designed for short timeframes must provide a substantial benefit in a short period of time, provided the business is sold. The short period of time must be long enough to keep the key employee productive during and beyond the sale. While the benefit should be rich if the business is sold, it must be affordable to the company if the business is not sold—and is usually contingent upon the business being sold.
Not only are the key employees’ efforts to maintain cash flow critical to maximizing the business’s eventual sale price, but these key employees may also need to shoulder extra duties as the owner’s attention wanes or is diverted by the sale process.
Given that few sales to third parties are all—cash sales, owners are usually exposed to post—sale financial risk.
Objectives for the Business Owner
By using a sound and thoughtful incentive—based plan for key employees, business owners can achieve the previous mentioned objectives, as well as address the following Stay Bonus Plan elements.
- Cash: The key employee’s economic reward is divorced from the rise or fall in the value of the acquiring company’s stock. Rather, it is based upon the value of the company at the date of sale. Payments are in cash, not in stock of the new company.
- Accelerated Vesting and Pay Out: Payment will be made from an escrow account controlled by the former owner as the key employee vests in that portion of this account. Unlike most incentive plans that vest over an extended period and pay only after vesting is completed, this program provides a rapid reward for the key employees — provided they remain with the new organization.
- Minimal Risk: Because the money is in escrow for the exclusive benefit of the management team and is not controlled or owned by the acquiring company, the chance that key employees will leave the new organization is minimized. The key employees must simply remain employed for a period of one to three years. As they stay, they receive their entire benefit amount, in cash.
- Outside of New Employer Control: Because the stay bonus plan is separate from the acquiring company, it is easier to negotiate the management team’s participation in the acquiring company’s stock option program, or other program, provided for its key employees. The selling company’s existing stock option and deferred compensation plans for its key employees are replaced with a stay bonus program, thus making it easier for the key employees to participate in a new plan. The stay bonus program meets the business owner’s exit objective of selling his/her company for top dollar. Having the plan in place makes the company more “saleable” and makes the existing company more valuable in the eyes of a prospective buyer due to management continuity and simplification of key benefit programs.
Overcoming the Confidentiality Hurdle
One of the biggest concerns of the selling owner is confidentiality. Loose lips sink ships. Using the stay bonus concept gives them the ability to talk to key employees about the sale. At some point, the key people will need to know about the sale because the buyer will want to talk to these key employees. The stay bonus agreement allows key employees to be brought into the negotiation process.
Who pays the additional income to keep these key employees can be negotiated between the buyer and the seller. The Stay Bonus may be contingent on the key employee signing an employment agreement, including covenants not to compete, proposed by the owner. Typically, it’s best to suggest that the investment banker should have this conversation with the key employees.
Considerations for a Stay Bonus Agreement
The stay bonus agreement should consider the amount of the bonus, length of time required for an employee to earn the bonus, and which employees should be offered the bonus. Bonuses are frequently correlated with base pay, employee performance, or tenure with the company.
While stay bonuses are often used by large companies, smaller family businesses may also use stay bonus agreements when the business owner plans to pass the business down to the next generation and wants to retain key employees with crucial customer relationships and experience.
How We Can Help
We work with attorneys – who are fully responsible for ultimately drafting the stay bonus agreement – to help complement our client’s overall goals and business succession plan. A stay bonus agreement can be an integral component to a strong succession plan. We design and implement life insurance solutions when the stay bonus agreement involves death of the business owner.