Bonus Episode: Not Sold on ESOPs? There’s a New Alternative
Introduction:
This week, two special guests who have built highly successful companies talk about what they ultimately plan to do with those companies. Ari Weinzweig is co-founder of Zingerman’s Community of Businesses, a collection of mostly food-related companies that are an iconic part of Ann Arbor, Michigan. Brad Herrmann is co-founder of Text-Em-All, a software firm based near Dallas that helps organizations deliver personalized, informational, and emergency messages by text and by phone. Both Zingerman’s and Text-Em-All consider themselves purpose-driven. Both practice open-book management. And so, not surprisingly, the founders of both companies took a hard look at selling to an employee stock ownership plan, or ESOP, in the hope that the cultures they’ve created might live on. But both companies, independently, soured on the notion of creating an ESOP, one after spending more than $200,000 and coming within a week of closing the deal. And now, both have settled on a little known alternative, what’s called a perpetual purpose trust. So far, only a handful of companies have tried to create a purpose trust for this purpose, but Zingerman’s and Text-Em-All are taking the leap. As both Ari and Brad acknowledge, they’re kind of figuring it out as they go.
— Loren Feldman
Show Notes:
In our conversation, Brad and Ari mention several places where businesses can learn more about perpetual purpose trusts, including Alternative Ownership Advisors, Common Trust, and an attorney, Christopher Michael.
Ari has written about the Zingerman’s perpetual trust in his own newsletter.
Guests:
Ari Weinzweig is co-founder of Zingerman’s Community of Businesses.
Brad Herrmann is co-founder of Text-Em-All.
Producer:
Jess Thoubboron is founder of Blank Word.
Full Episode Transcript:
Loren Feldman:
Welcome, Ari and Brad. It’s great to have you both here. Who wants to take a crack at explaining what a perpetual purpose trust is?
Brad Herrmann:
Go for it, Ari.
Ari Weinzweig:
Okay, Brad, I’m gonna do my best. As I’ve been explaining this within our own organization, I referenced a line from the Basque co-op Mondragon where they say, “We’re building the road as we walk.” So we are also building the road as we walk. Best I can understand, there’s only about 40 of these in the country. Maybe it’s up to 42 now with the two of us, so we’re all kind of figuring this out. But I guess maybe easier than explaining it would be to tell you how I found out about it, and through that, to explain it.
Loren Feldman:
Well, give us a hint of what it is so we have some sense where you’re going.
Ari Weinzweig:
It basically allows you to gift the company to itself, which sounds simple and obvious, but legal constructs don’t allow the company to own itself. It has to be owned by someone else. So this allows the company to own itself. And essentially, as Natalie Reitman White, who helped us do this from Alternative Ownership Advisors out West, says, “Purpose becomes more important than profit, because the purpose guides it.” So in essence, the core of it can be owned by a purpose, instead of a person.
Loren Feldman:
So to the extent anybody is familiar with this, I suspect they’re familiar with it, because of Patagonia and Yvon Chouinard, who did this, I think, last August. If I remember correctly, and understood it correctly, 2 percent of the stock went to a trust controlled by his family and by advisors, and the rest went to a nonprofit organization, which is going to receive all of the profits. That’s what people know about this, if they know anything about it. It sounds like yours is different, Ari. Is that correct?
Ari Weinzweig:
Well, I think they’re all probably different because there aren’t that many, and because maybe it will change, but nobody started a company with this in mind. It’s always been grafted onto a company, an organization, that already exists. And so, in a good way, Brad and his organization and Zingerman’s Community of Businesses share a lot of values, but we’re different organizations. So in order to make this work, we’re going to each adapt it as we do. Here in our world, the trust is only applicable on the intellectual property, because each of our businesses in the Zingerman’s Community is actually a separate legal entity with different managing partners, etc., etc.
So this is about the intellectual property, which Paul [Saginaw], my co-founding partner, and I own. And this will allow us to transfer more and more of the ownership and the intellectual property over the next 10 to 20 years, to what we call community shareowners, which are staff who own a share. And the trust itself is essentially a small piece of it, but what it does is, it protects the business from being sold. And it also protects the use of the intellectual property. And so it’s the entity that would approve any use of the intellectual property.
So that could be opening a new Zingerman’s business, which would be pretty straightforward. But it could be 30 years from now somebody comes and goes, “Hey, man”—pick your negative organization—”the Nazi Party wants to give us $20 million to co-brand a Zingerman’s T-shirt.” And then the trust would say, “Sorry, that’s not aligned with our values. No go.” Similarly, if a big company came and said, “We’re gonna give $50 million to you all to buy out the Zingerman’s name,” it would say no.
Brad Herrmann:
That’s one of the things—well, two points here: The best thing to happen for perpetual purpose trusts is Patagonia. Because now, when I mention what we’re trying to do, people go, “Oh, I saw that.” And they market it really well with, “Our only shareholder is the planet,” or something like that. So that’s wonderful.
And our model is going to look a little different. We’re a more traditional business. You know, Ari’s got some complexities in there that are unique. Ours is 100 percent of the company is going to fall under the trust, and all of the employees will be the beneficiaries in the long run, not to mention community, and potentially charities, etc. But the primary beneficiaries are the employees. And we love the same thing Ari loved about it. And that is, it can never be sold. So I love the expression, “Run it or ruin it.”
Loren Feldman:
Ari, what Brad just described sounds complicated enough to me: just one organization. You’re talking about putting a whole bunch of Zingerman’s Community of Businesses under this umbrella, and you’re doing it through the intellectual property, as opposed to stock. Could you explain that a little bit? What happens to the actual ownership if it’s just the intellectual property that’s going to the trust?
Ari Weinzweig:
There’s actual ownership in the intellectual property. I’m gonna try to explain all this in a relatively manageable format. So, tell me if I’m going too off course, but we have Zingerman’s Community of Businesses. Paul and I started the deli, the first business, in 1982. In 1993 and ‘94, Paul and I wrote our first formal vision, the process that Brad is well familiar with, and so are you Loren, where we write the story of our organizational future at a particular point in time. And we picked, at that point, 2009. So we went 15 years into the future, and that’s where we created this community of Zingerman’s businesses, all located here in the Ann Arbor area, each with its own unique specialty.
So instead of replicating the deli, as most people would do, we created new Zingerman’s businesses, and each business with a managing partner or partners in it, so that there were owners on-site, all operating as one organization. So each of those businesses—whether it’s Zingtrain where I’m sitting right now, our training business; Zingerman’s Bakehouse; Zingerman’s mail order; Zingerman’s Coffee Company; etc.—each of those are separate legal entities, and they have a managing partner who owns very real shares.
Paul and I retained the ownership of the intellectual property, and we own shares in each business. We’ve operated as one organization. I just wrote a piece in my E News that I do every week, last week on governance. And I referenced in there that, although the story is not told a lot, we have been governing our organization by consensus of all the managing partners, our partners group, for 29 years. Next year, it’ll be 30 years. And I think that group is roughly 20 people right now.
So in our model, the governance of the organization, the running of the companies, stays within that partners group. The trust is only for the intellectual property. So it would deal, like I described earlier briefly, with brand issues. You know, Loren, if 21 Hats started to put Zingerman’s on its T-shirts or on its website without permission, somebody from the trust—
Loren Feldman:
I thought I had permission, Ari.
Ari Weinzweig:
Somebody from that entity would call you up or drop you an email and say, “Hey, dude, what’s up? You can’t do that.” And then it would approve the use. So if we were going to co-brand with 21 Hats or Patagonia or whatever, the trust would have to sign off on that. Beyond that, in our world, the trust doesn’t do much. It really has no governance say in the organization. But it creates an ownership for the intellectual property that, as I’ve been metaphorically saying, can allow Zingermans to become this old-growth forest, rather than clear-cutting.
Loren Feldman:
So if the ownership stays separate from the trust, could the businesses still be sold to another entity at some point?
Ari Weinzweig:
Well, in theory they can, but not with the Zingerman’s name.
Loren Feldman:
I see.
Brad Herrmann:
And that’s more about, I think, the Zingerman’s model itself, and that you’ve got that one company that ties all the others together. That’s unique, not so much of the trust model.
Ari Weinzweig:
Yeah, and it’s unique that we’ve been governing in the way that we have, by consensus of a pretty large group for all this time. So, yes, in theory they could depart, but they would have to stop being Zingerman’s Bakehouse or Zingerman’s Roadhouse or whatever, which clearly would not be great.
Loren Feldman:
So Ari, let’s go back to where you wanted to go initially, which is how you wound up here. I’m sure you considered every option. How did you land on this one?
Ari Weinzweig:
Well, like many people of my age group, when we started businesses—well, now for us, 41 years ago—we weren’t really worried about succession planning. We were happy if we stayed in business for a few years. So in a good way, not by accident, we have arrived at this point. And about 15 years ago, Paul, as he is good at doing, started asking these provocative questions about succession. So again, I’m going to attempt to explain this relatively coherently.
But we had early on arranged a buyout agreement between the two of us so that if one of us would pass away, we had life insurance that would fund the buyout of the heirs of the person who had passed. So if I had died, the life insurance would pay out to Paul. He would use that money to buy out my heirs so that they wouldn’t become owners in the business. And that was all good. And about 15 years ago, he started saying, “Well, what happens after the second one dies?” And I said, “Well, we have insurance. It’s no big deal.” And he goes, “Yeah, but where do the shares go?” I’m like, “I don’t know.”
Anyway, so that started a long, long series of conversations, and the obvious answers for what you do are the typical things: You sell the business to somebody else. I have a lot of friends who’ve done that. It’s a very good way to hit that post-cash event that people like. You can do an ESOP, which is an employee stock ownership plan, which our friends at Great Game of Business, Springfield Remanufacturing, are big fans of. I’m not a big fan of it, for a number of reasons. But one issue that we have is that because we have all these separate businesses, you can’t do it as one ESOP, even if we wanted to.
Loren Feldman:
You literally can’t do one holding company?
Ari Weinzweig:
Well, our employees work for each business. So the Zingtrain employees work for Zingtrain. The employees at Cornman Farms work for Cornman Farms. You could do an ESOP within Zingtrain, but you can’t do an ESOP for all of Zingerman’s. There are other issues with ESOPs, in my unprofessional opinion, also.
Loren Feldman:
I think Brad’s gonna raise a few of those, too, when we get to his story.
Ari Weinzweig:
Okay. So you can leave it to your heirs, which we weren’t going to do. Or you could go public, which is another version of selling it. I didn’t really like any of those. You could also sell it to your partners, and they could inherit it. But the problem with that—and I’m not saying this would have happened—is it doesn’t eliminate the thing that you sell it to them, and then five years later, they sell it. So us giving them a deal to get it in the interest of keeping it local and in the community isn’t really that helpful if it just gets flipped to something multinational five or 10 years or 20 years later.
So, around the time we were struggling with this, I was reading E.F. Schumacher’s book, which is celebrating its anniversary. This was 1973, so whatever that adds up to: 50 years, this year. And in there, it’s not the main point of the book—which by the way, the book is fantastic—but he wrote about the Scott Bader Commonwealth in England.
Scott Bader was born in Switzerland, moved to the U.K., I think in 1923, and started his own business in the chemical business. And in 1951, having attained a fair bit of success, made the same sort of decision Brad has made and we’ve made now, which is essentially, rather than selling the company or leaving it to his kids, he wanted to preserve it to benefit the people who work there and keep it self-owned.
And so he created what he called the Commonwealth, and they are now celebrating their 100th anniversary. So it worked. I love this because it allowed the business to stay local. Because part of what happens when companies get sold is all of this great stuff—not like we’re the greatest thing in the world, but we’ve contributed a lot to the community, in terms of jobs, quality of life, contributions, etc., etc.
And all of a sudden, when headquarters shifts from Ann Arbor to Abu Dhabi or New York or San Francisco or wherever, over time, and no matter what the good intentions of the people who made the purchase were, they move on. And more and more decisions are made further afield. The power shifts away, the money shifts away, and you really lose that connection with the community. And this model I love because it allowed us to prevent all those things from happening.
Brad Herrmann:
Yeah, Ari, I think you hit on something there. Well, you said a lot of things that are really meaningful to us, but one is: How many people truly depend on a healthy company? I mean, it’s your employees, it’s their families, in some cases their relatives, their friends. But then you also have your vendors, all the different suppliers, and that kind of stuff. And I think that’s meaningful when you look at the total impact of an organization. And how frequently, and sadly, how accepted it is, that, “Well, it’s time. We’re going to sell to the big guys. And hey, a lot of you are probably going to be redundant.” And no matter what they say, look at what it looks like two years later, and it’s almost always drastically different.
Ari Weinzweig:
Yep, every time. And I have a lot of friends who are in that, who have worked for companies like that that were sold, and all end up leaving. And especially, Brad, in our context, because we literally, because of the restaurants, the cafes, etc., we have people who come in two, three four, five times a week. And so, in a good way, we’re so integrated into people’s family traditions now, after all these years. People come back to town. In a really wonderful way that I’m very humbled to be able to talk about, it’s a big part of the town.
And in a good way, people who work here, they learn visioning. They learn servant leadership. They learn self-management. And then they’re on the school board. They’re on a committee at their church or their synagogue or their mosque. They’re contributing to community effort. So there are all of these things that are happening that are kind of secondary to the actual work of the business. But the reality of the ecosystem is it’s spread far beyond what it means to have a “job.”
Loren Feldman:
So Ari, if I heard you correctly, you read a book, you heard about a company that did this 100 years ago in the UK. What made you think you could do it? How’d you take the next step?
Ari Weinzweig:
What made me think I could do it? I guess when I have a good feeling about something, I’m not always right, but often there’s something to it. And I just do what I have typically done with so many things: start talking to other people who I respect about it. And with this one, I actually got a lot of naysaying, because it really hadn’t been done much in the U.S., and there was a lot of: “That’ll never work.” “Why would you do that?” “You’re giving away the company.” “It doesn’t make sense.” “Why wouldn’t you sell it to the existing partners?”
Loren Feldman:
Who is this coming from, Ari, who’s the skepticism coming from?
Ari Weinzweig:
Many people.
Loren Feldman:
Business owners? Partners? Employees?
Ari Weinzweig:
Yeah. All of the above. Not from everybody. And I understand it. I mean, it was a different model. It goes against commonly-held values about maximizing your value and getting your money out after decades of hard work. And in a way, it goes against the entrepreneurial mindset that we’re gonna sell it to our existing partners, and in 30 years, they’re gonna flip it for a lot of money. And it goes against the common value of extraction that, to Brad’s point, we wouldn’t just turn around after 40 years of hard work and sell it and move to Florida or whatever, with all the new money that we got. So we’re basically gifting the organization to itself, but we feel good about it. And we’re able to get paid out and make a living over time. And everybody, hopefully, can come out ahead.
But anyway, over time, I just kept asking—like, that’s what I do. I don’t force it, but I don’t give up on it, either. And Maggie from ZingTrain—Mag Bayless, one of the partners at ZingTrain—was one of the people who thought it was a good idea. And one day, I don’t know, three years ago, she called me, and she said, “Hey, I found this guy, and I think he knows something about this program who you could talk to.” So he was a guy who had worked for Organic Valley, and I called him, and he said, “Well, I’m not really the expert, but there’s this place in Oregon. Organically Grown is a large organic produce wholesaler. And they have done this, and they know about it.”
And so I called the woman who was the CEO at the time, who has since moved on, and we had a good talk, partly about why ESOPs don’t work, and then about why this can work. And then they had basically spun out a small subset of a couple of folks who were very passionate about this type of program who, essentially, I describe it as: They were like ZingTrain, but for perpetual purpose trusts. And so we worked with them, Alternative Ownership Advisors, over about two years. So they guided us on doing this work.
Loren Feldman:
Before I ask Brad to explain how he landed on this as well, Ari, I understand there are a lot of concepts involved here and a lot of goals. But any owner thinking about this is also naturally going to think, “What do I get from my many years of work?” And I just want to make sure we’re clear. It sounds like you’re not getting a payday at all. This is a gift. Am I understanding this?
Ari Weinzweig:
Well, it can be done in any way you design it within the legal construct of it. Paul, and I will get paid our salaries for a while. I don’t know what we agreed on, 20 years or whatever, so that we can keep living. I mean, I think that the idea of this is that it can be done in a way that allows the founders or owners to exit with grace and do perfectly fine. Yes, it is giving up the chance to turn around and sell 40 years of Zingerman’s for a lot more money than we’re going to get the way that we’re going to get it.
Brad Herrmann:
And that’s where ours is gonna look different. It is going to use the profits, so I mean, essentially it is giving away, at the end of the day, but they are going to use future profits to pay off a loan to founders. So there is an evaluation, there is a loan, and it is going to get paid off. But we do get a lot of flexibility as to how that happens as well. And I suppose you could involve a bank, if you want, as well. There certainly is a lot of flexibility in how this is executed. You also could just write it in your will that when you die, it goes into a trust as well. And you get paid nothing, and here it is. So lots of different ways that it can be done.
Loren Feldman:
All right, Brad. How did you wind up discovering perpetual purpose trusts and deciding that that was the right option for you guys?
Brad Herrmann:
Well, I think that the genesis of it is that my business partner—Ari and I, both, by the way, are incredibly fortunate to have business partners who have become a part of our person. And I think that’s a key part, too. This whole conversation has to happen with aligned business partners. Otherwise, it’s going to be really difficult for anybody. But it started when my business partner Hai [Nguyen] and I were at a company that was acquired, and we stayed four years after it was acquired. And we didn’t like it four years later. It’s really that simple.
At the time, we mistakenly thought that we can’t work for big companies. What we’ve learned since then is that we actually just don’t do, I’ll just say, “shitty culture.” And so when we started the company, we didn’t know a whole lot. And we were certainly aligned at that level. Like, we want to build the kind of place that we want to work [at]. And right or wrong, that was one experience, but it shaped us and it solidified us on what we wanted to do. So we continue with that today. Like, when we get done with this thing, I don’t want other people to have the experience that I had. I mean, it wasn’t terrible. I mean, come on. I just didn’t like it. I wanted to do something else.
And we feel like we’ve built something that people really enjoy coming to, a place that people really enjoy working [at]. And it has a positive impact on them and their families and everybody else who we work with. And we think that’s worth preserving. So we have the big, hairy, audacious goal of being a 100-year-old software company. Now, most software-as-a-service companies, the goal is to have the giant payday. I don’t know, like Ari, we are more than comfortable on the path less traveled. And we want to see if this thing can outlive us and last 100 years. So that inevitably starts you on the, “All right, well, how do we do this?”
Employees owning it, to us, feels like capitalism at its best, right? People getting to think, act, and feel like entrepreneurs and keeping that entrepreneurial spirit because they get to participate more than they might normally in the fruits of their labor. And I think that’s awesome. And I think it’s maybe a remedy or an alternative to capitalism as the bad guy that I had probably programmed in my brain as a young lad in business school.
Loren Feldman:
They taught you that in business school?
Brad Herrmann:
Well, you know, “Maximize shareholder return.” I think that was programmed into our brains. And I think that there’s something to be said for, “You know what? Maybe that’s off. And maybe a business does have responsibilities beyond just maximizing return for their shareholders.” But as I alluded to, I’m not getting paid nothing. We have a profitable company. I live a wonderful, spoiled-rotten life already. And we’re not going to get nothing as we transition to this trust. We’ve put a value on it and set a formula and roll.
But the way we got the trust, though, is we looked at ESOPs. You know, it feels like it’s been 10 years; it’s probably been four. We’ve gotten to know a ton of ESOPs and asked a lot of questions about those very good friends and values-driven companies. We also explored what I call do-it-yourself employee ownership.
Loren Feldman:
Explain that.
Brad Herrmann:
There are a few folks—one who’s been super helpful is Carl Erickson at Atomic Objects in Grand Rapids, Michigan. We went up there to sit down with him and his team and say, “Tell us about this.” And essentially, he’s slowly selling the company to his employees and bringing them into the fold as partners in the S-Corp.
Okay, great. But there are a couple of things that didn’t quite work for us on that. Number one, it’s gonna cap you at 200 participants. We had some H1B non-citizens who wouldn’t have been able to participate. And it really lends itself to a more sophisticated employee. It’s going to complicate your taxes. You’re gonna be getting K-1s. You know, there’s no more 1040EZ once you go down this road.
So those are the reasons that we didn’t go for do-it-yourself employee ownership, despite it being our preferred option at the time. We ended up going down the ESOP route in the absence of better options, believe it or not. But we ended up pulling the rip cord on it about a week before we signed all the papers. It wasn’t going to work the way we wanted, and I probably, honestly, should have pulled the rip cord a lot sooner, but that’s my fault. And we spent a lot of time and money.
Loren Feldman:
Explain what happened. It must have been pretty intense to make a decision like that at the last minute.
Brad Herrmann:
Well, it starts with incompetent advisers. Being honest, they probably could have nipped this in the bud sooner for us, or said, “It doesn’t work the way you think it does.” But that kind of opens it up, and I’m sure there’s plenty written about what folks don’t care for with ESOPs.
For starters, they are complicated as all get out. I mean, I was laughing earlier. “Learner” is on my top five on StrengthsFinder, so I’m not afraid to dig into complicated things. I think I’m a pretty sharp guy, and five months into an ESOP, I was perpetually overwhelmed with complexities and having to have things explained to me over and over again. Not because I couldn’t get it, but because there’s 57 million different ways to do it.
And I think there certainly is a contingent of folks who think ESOPs are almost intentionally complicated. You’re not going to put an ESOP in without an army of advisers on the financial side, the trustee side, etc. I mean, it’s certainly an industry, in and of itself. The other thing we didn’t like is they’re inflexible. Like, if you make a mistake when you do it, it is incredibly difficult to unwind. Because the Department of Labor is your boss. And they’re going to think you’re trying to take advantage of employees. Or the trustee’s going to fight for the employees. So anyways, I feel like I’m rambling on a little bit over there.
Loren Feldman:
No, no, no, not at all. I would hasten to add, I’m sure all three of us know lots of owners who chose the ESOP route and are glad they did. I know a lot of people who are… They promote it with religious fervor.
Brad Herrmann:
Okay, yeah, many good friends of mine, too. Some are going to call me after this. [Laughter] But one of them is what Ari and I hit on earlier, that we love about the trust model, is risk of sale. We were only going to go to 20 percent ESOP. It was going to take us 10 years to get there. But we were absolutely not going to go above 50 percent ESOP. And the reason why is, our company is recurring revenue, Software-as-a-Service, high margin. It’s all the sexy things that private equity firms want to acquire.
And at the same time, with all ESOPs, you’re not getting a great valuation when you sell to your employees. I mean, if you’re trying to maximize your absolute, every dollar you can get out of your company, no employee ownership model is going to be for you. That’s not really going to work well for you or be the best option.
So we were fearful that if we got to 51 percent ESOP, that some private equity, well-funded firm is going to come in and tempt our trustee with, “I’m gonna give your employees a 50 percent return today”—and have to do it out of their fiduciary responsibility. And then at the same time, the ESOP folks tell you, “Oh, we’re gonna put poison pills, we’re gonna do this, we’re gonna do that.” And what is it? It’s just more complicated stuff that you’ve got to figure out now to prevent something happening later. And you just don’t have any of that with the trust model. And that is like, straight away, checkbox number one that we love. And it sounds like Ari does as well. It’s in a trust. There’s nothing you can do about it.
Loren Feldman:
Before we go there, what finally did it? Why did you pull the rip cord when you finally pulled it?
Brad Herrmann:
So what happened for us—and I had to go back and thank the person on the trustee side—when we were kind of summarizing what was going on, I said, “Just to be clear, this is how we’re envisioning it working.” And the person asked the question, and then said, “It’s not gonna work the way you think it is. Do you realize that?” And I’m like, “What do you mean?”
The gist of it is this: Our company generates cash and uses that cash to pay dividends out to the founders, and that is the source of my income. As soon as we take 20 percent of the company and put it in an ESOP, dividends like that—cash dividends—we were hoping would work like a loan. The ESOP takes that, let’s say, 100 grand, and uses that 100 grand to pay off a loan or buy shares or however it works behind the scenes, but to pay it off. And then those shares would go to the employees who worked that year.
What I learned was: no, no. Dividends, like cash distributions, belong to whoever owns shares already in your company. And so if our company was to continue distributing a lot of cash, it was going to put that cash very, very rapidly into the hands of the few people, the lucky few, who happened to be working at our company in the next, let’s say, three to five years. And it would create this tremendous haves and have-nots situation. And that is not at all what we intended or how we thought that it worked. And then, “Oh, there’s another kind of ESOP you could do called a contributory ESOP,” etc. But I think at this point, we had seen enough. And it was just not going to be for us.
Loren Feldman:
Was it a clean break? Or were there ramifications that lived on?
Brad Herrmann:
Well, what I appreciated is that most of the advisors involved in the deal called to ask if they could help, out of compassion. What’s very interesting to me is that the so-called quarterback of our deal, a law firm, has never actually spoken or sent an email to us since that phone call, shockingly, to me. It was an experiment in the beginning, and I’m like, “Surely, they’ll call and apologize.” You know, whatever. But no, that didn’t happen. But it’s all fine. It’s just a bunch of money and time.
Loren Feldman:
You lost a lot of money on it?
Brad Herrmann:
We probably spent over $200,000.
Loren Feldman:
Wow.
Brad Herrman
But that’s okay. We’re beyond it. We’ve got something we’re excited about now.
Loren Feldman:
Well, how did you get on to the trust idea?
Brad Herrmann:
There are two groups that are helping facilitate these right now in the States. One is Alternative Ownership Advisors, who we actually had a call with a couple years ago. And I mean, maybe we just weren’t ready for it, or whatever. And then another one that we got turned onto called Common Trust. And I think those are your two organizations that are doing a really good job at trying to facilitate these things. And then there’s one other attorney, Christopher Michael, who is spending a lot of time on these.
So those are kind of the resources, as I see it, in the United States today. But one of our dear friends told me they were exploring this and asked me if I’d heard anything about it. And I said, “Well, I’m familiar with the trust model, but haven’t explored it directly.” And I think the time was right for us to take a closer look.
And the fact is that these two organizations helping facilitate it really make a big difference. I know Ari mentioned he worked with them for a couple of years. We’ve been working with Common Trust since January or December of ‘22. And here we are in April of ‘23, and we are embarking on the final stage, which should take about three months. So that helps some folks understand that timeframe for us, I would say, a more typical company than Ari’s. It’s gonna end up taking us under a year to dot all the i’s, cross the t’s, and really model this thing.
Loren Feldman:
Is it an expensive process?
Brad Herrmann:
No, much less expensive than the—
Loren Feldman:
Ari’s laughing.
Brad Herrmann:
With far fewer ongoing fees as well. From that standpoint, it’s great. A lot less than $200k.
Loren Feldman:
Is that the case for you as well, Ari?
Ari Weinzweig:
Well, we didn’t price an ESOP. So I don’t know. I found Alternative Ownership Advisors to be wonderful to work with. In the context of Brad’s description, we’ve all worked with experts in fields that seemed like they would work out well that didn’t. This is one that did. And I don’t recommend people who I don’t really want to recommend, and I found it to be quite helpful. And I don’t have a lot of experience with this kind of work, but it seemed fairly reasonable, in terms of cost.
Brad Herrmann:
Yeah, and I think I can explain why it’s significantly less. And that is that they’re so much simpler. Like, yeah, we’re gonna have attorneys and some tax advisers on here, but we’re not dealing with ERISA laws, and the Department of Labor is not going to be the boss of Ari, Ari’s company, me, or my company. And so when you have less government involvement, I think everybody understands that things get a lot simpler and easier.
Loren Feldman:
Is there the equivalent of the trustee in an ESOP, somebody who suddenly gets involved in the operations of the company?
Brad Herrmann:
Yeah. Ari, you’re further along on that than I am.
Ari Weinzweig:
Yeah, so again, Loren, ours is a little bit different, as you said early on. So for us, the running of the organization happens at the macro scale at our partners group. We’ll be meeting this Thursday. It’s where we make decisions like opening a new business or changing the benefits plan that impacts everybody, etc.
Then each business, of course, is operating within its own—in quotes—local constructs. So the price of a cappuccino across the way at the coffee company is going to get decided over there. For us, the intellectual property is only running the intellectual property, and yes, there will be a couple of boards set up. We’re actually in the process of putting them together. But again, just to be clear, I mean, really, all it’s deciding is on intellectual property issues—in our world. So literally, it could go through the whole year, and other than approving the budget, it could really do almost nothing for the whole year. I think at Patagonia, it’s different because they’re going to still be running the company from the trust. So it’s a different situation.
Loren Feldman:
What is the status, Ari? Are you officially there? Is this a done deal?
Ari Weinzweig:
Yeah, we signed the papers in December in the way that we work here, using what we call our bottom-line change process, which is an organizational change recipe where we’re involving as many people as possible before the change is finalized, rather than the old model of just announcing it and having everybody freak out. This it’s not new news to the organization. I mean, people in ever larger circles have been brought up to speed on this as we were working on it so we could gather their input and weave that into what we were creating.
We did the formal rollout in January. Again, not a surprise, really, to anybody who was paying attention here. But that was when the E News piece came out to the public to acknowledge that this had happened. And I think, like I said, the papers Paul and I signed in a very unceremonious, one-minute action over at one of the offices. And that was it.
Loren Feldman:
Did anything come up with employees? I gather that the overall goal of keeping Zingerman’s in the community and not selling to private equity, all that would resonate very positively. But were there any issues that did come from employees?
Ari Weinzweig:
There are just a lot of conversations. I mean, we don’t have an ESOP, but I agree with Brad, it’s probably simpler. But you know, all change creates challenges. I mean, there’s no change that doesn’t evoke some emotional response from somebody or intellectual curiosity.
But in general, for us, there’s really not a lot, if anything, that’s altered in the day-to-day, because the governance continues on a pace the way it’s been for 29 years. There’s really no impact to the day-to-day at all. It’s just a chance for the—I didn’t get into this earlier, but about 250 of the staff here own a share that we call a community share. And they buy that. It’s like a co-op, so you can only have one share. So I own one, and 249 other people own one, and they get a payout every year if there’s a good year, based on the profitability of the entire organization.
So that’s where the additional ownership and intellectual property will be moving, gradually over time, to the people who own the community shares. So not to them as individuals, but to the LLC in which their share resides. So yeah, they’re not going to complain. They’re just going to start getting more money. I mean, somebody could complain. But in general, there’s no major day-to-day impact. The major change is they get a little bit more money each year. There’s always the confusion and complexity that go with any kind of change like this. But in a good way, I think very few people here, in truth, have actually worried about us selling the business, which as Brad knows, is probably not the norm out in the business world, but it’s just the way we’ve run the business that it’s never really been an issue.
Loren Feldman:
Brad, how about your employees? Did they know how close they came to becoming employee-owners? And do they know what you’re up to now?
Brad Herrmann:
Yeah, they do, because I’m not good at keeping my mouth shut. Truth be told, that weighed on me a lot. I don’t like being the person who says something really big and exciting and meaningful is going to happen, and then pulls the rug out at the last minute. So that certainly weighed on me. And so now I’m being much more tight-lipped about the current plans. But we get questions. All of the employees will be participants in this. And so I mean, naturally, the first question everybody asks is, “How’s this gonna affect me financially?”
That’s fair, but as business owners, we have to think about governance as well and transitioning: Who makes the call in this business when we’re dead and six feet under? And so going into the trust is going to be a very informal business, but it’s going to force us to put some more formality in, like Ari’s operated under for a long time already. We’re going to end up having a formal board. And then the trust will have, I believe it’s called, a stewardship committee that is there to make sure that the trust’s purpose is being executed by the board. And so you end up with some checks and balances in there, but really, that’s about it.
In our case, the way that it’s going to operate is that the trust will be compensating the founders and balancing the cash. We have a model built out, but what’s great is we can change that model over time based on the situation on the ground three, five, and 15 years from now. But cash gets generated, and the board will figure out, “All right, we’re going to allocate this much to redeeming the founders’ shares and this much to employees.” And as we perform better, the employees are going to get rewarded more and more with some really, really nice, high-end potential for employees to have to generate really significant wealth.
And that’s one big difference between the trust that we haven’t talked about and that we should mention. With ESOPs, all of the money that goes to employees is in a retirement account, which is great. Like, if you want to give me 100 grand, and you tell me you can only give it to me in a retirement account, cool, I’ll take it. But with the trust model, we still have the 401k, we can allocate money to the 401k for retirement, but we all know that younger employees really don’t value retirement dollars as much as they value dollars here and now.
And as a business owner, I’ve gotten to enjoy the benefits of dollars here and now. And the trust is going to allow us flexibility to do that. In fact, most of their compensation through this is going to come out as just income. So is it taxed a little more? Yeah. Do they have access to it right now? Certainly. I don’t know. Hopefully, that gives a little bit of insight into how it will look on our end.
Loren Feldman:
How many employees do you have?
Brad Herrmann:
We have 45.
Loren Feldman:
Have you broached the subject at all with them? You said you’re being careful.
Brad Herrmann:
Yeah, I’m just not getting into details. The alternative we settled on to the ESOP is this trust. Man, we’re really excited about it. First off, I could explain it all to them in under five minutes, which is lovely. And it will be very simple and easy to understand the whole thing and how they receive financial benefits. And it’s keeping this company healthy and generating profits. It’s a really simple answer. So they understand the concepts. What they don’t have is exactly how it will work out for them financially. And we’re waiting to get some of the finalization so we can explain tax concepts to them, etc.
Loren Feldman:
So I guess I just have one last question for both of you. And it’s something you referred to, Ari, in the beginning, when you said you’re kind of paving the road as you go. I think you also said there are only like 40 of these in existence. And that means you’re a little bit jumping into the unknown. You can’t possibly know how this all plays out. Has anything happened yet that has given you pause, that you weren’t expecting? And how much of a concern is it for you that there might be something down the road?
Ari Weinzweig:
Knock on wood, nothing has happened. I mean, you know, Loren, anything could happen to anybody.
Loren Feldman:
Sure, but you’ve spent your career building this thing. And I know that you didn’t take this lightly. I know you. I know you thought it through.
Ari Weinzweig:
Absolutely. To all of Brad’s points, too—I mean, the other way is where I’d be worried. Like, you spend three years trying to find the company that’s gonna buy you. They promise you a thousand things. Then you sell it. Then you start getting the calls from the people who’ve been there: “It’s not the same. This isn’t working.”
Loren Feldman:
We’ve all heard those stories.
Ari Weinzweig:
Yeah, of course, over and over and over again. I just heard one the other day. And so as you know, I wrote a piece in part one of the Guide to Good Leading books that’s called 12 Natural Laws of Business. Number nine on that list is that success means you get better problems. So, essentially, when you write a vision, it’s describing the problems that you want, right? Because there are always problems.
And so are there guarantees? Of course not. But I prefer the problem of, I guess, banking or betting on the organization to do what it’s supposed to do and can do and has done, rather than praying that some mega-million-billion-dollar company is going to actually honor the values, because time and time again, they don’t. And there’s no guarantee. I mean, the company still has to run well. I mean, Brad, what did you say? Run it well or ruin it?
Brad Herrmann:
Run it or ruin it.
Ari Weinzweig:
Yeah. So I mean, we have to maintain-slash-improve the quality of our food. We have to maintain-slash-improve the quality of our service. We need to keep the workplace getting better all the time. We need to run our financials well, and those have never been easy. I mean, it’s super hard every day from the day we open. But if we can keep doing that as an organization, then it’s my belief that this gives the best possible shot that I know of to have a Zingerman’s Community of Businesses healthy in Ann Arbor 100 years from now, or in 2082, celebrating the 100th anniversary long after all three of us have probably left the planet.
Brad Herrmann:
Yeah, Loren, do you worry about this thing that you’ve created when you’re stepping into the unknown? Actually, that’s what’s so appealing about this. Ari and I and our teams are writing down: What is it that we love about our business? It’s a great place to work. It’s a positive impact on the community. It’s all of these things. And we are putting that into the purpose of the trust, and then throwing the company in there to protect it. So in essence, that’s really all we’re doing, is putting it in a protected place, and then letting it get on with it.
Loren Feldman:
I hear you, but you have already had the experience of making a choice and heading down a path and thinking you were making the right choice—even though it may have been more complicated at the time, and there were things that concerned you. But you made the choice, and then decided that it wasn’t going the way you thought it would.
Brad Herrmann:
Yeah, but also recognize that that ESOP was only going to be 20 percent of our company. So we knew there were going to have to be other stages behind there at some point. It was sort of: “Let’s get the ball rolling to get some wealth into the hands of employees,” whereas this one’s 100 percent, and then we’re getting on. So that was another checkbox for us on the trust model that I hadn’t really thought about. But I mean, I see unexpected things. This is not going to be particularly tax-efficient, Loren. So that is one thing that could come up for me in the next few months.
Loren Feldman:
Are you referring to that as an issue for the owners, the partners, or for the company, the employees?
Brad Herrmann:
Well, for the employees, they’re not going to have the opportunity to get capital-gains tax rates, so it’s going to be at their income tax rates. And we’re probably gonna have to convert to a C Corp. So somebody’s going to do that math here in the next month, and we’ll take a look at it and go, “Eh. Okay, it’s probably gonna be just fine.” That’s one thing I could see changing for the better in the future.
As I understand it, in the U.K., where Ari’s example originated, and some others have, I’m under the impression that if you put more than 30 percent of your company into a trust to benefit labor, to benefit your employees, that you cease to pay taxes beyond that, or something like that. I think there might be an opportunity for that. Of course, that might bring government intervention, which has, you know, frequently proven to be not worth the headache.
Loren Feldman:
You’re moving closer to an ESOP model, at that point.
Brad Herrmann:
That’s right. That’s right. Maybe I don’t want that to happen! Maybe we get something for paying more in taxes in this model, Ari. [Laughter]
Ari Weinzweig:
Well, I feel good about it. It’s playing out positively. There’s no safe path forward. There are always risks. And like I said, these are the problems that I prefer. And really, to me, it’s about, I work a lot with the idea of organizational ecosystem as a metaphor. So this is really about returning to the ecosystem, instead of what I’m gonna suggest, without trying to frustrate anybody—I mean, it’s a colonial model where you extract the profit and ship it back to headquarters. And it creates wealth at headquarters, but over time, it depletes the place and this is about keeping it in the place in a way that doesn’t send it to headquarters in Seattle or headquarters in London, or whatever.
And even if people’s intentions are good when they start those processes, as we all three agreed, it almost never plays out positively. And with this one, as you said, Loren, we don’t know. There’s not 6,000 of these. But I guess I would say that we—Brad alluded to it earlier—I mean, we’ve made our work work by continually taking roads less traveled. So we have, I guess, a lot of precedent with doing it in our own weird way and trying to figure out how to make it be functional and healthy.
Brad Herrmann:
I love everything Ari just said. And I imagine we’re both the same, in that, on our gravestone, you know, “Here lies Brad. He had a great life, and he screwed up trying to share it with the people that got him there.” You know, really? Okay, fine. I’ll take that one.
Loren Feldman:
All right, my thanks to Ari Weinzweig of Zingerman’s and Brad Herrmann of Text-Em-All—and of course, to our sponsor, the Great Game of Business, which helps businesses implement open-book management. You can learn more at Greatgame.com. Thanks, guys.
