Wunnerful, Wunnerful! The Lawrence Welk ESOP
By Martin Staubus
In 1964, the famous television bandleader Lawrence Welk went for a drive in the country north of San Diego, Calif. planning to invest in a grove of orange trees. Instead he bought a motel and a nine-hole golf course. When he staged his TV show there, it gained instant celebrity as a tourist hotspot, eventually growing to include a theatre, more golf and vacation homes.
In the years since then, the Welk legacy has grown into an international hospitality business, featuring four-star quality resorts in the original San Diego location as well as Palm Springs, Tahoe Northstar, Branson, Mo., and Cabo San Lucas, Mexico, with plans under way for future resorts to be built in Breckenridge, Colo., and Kauai, Hawaii. These facilities have earned Gold Crown status by Resort Condominiums International, and Interval International Premier Resort designation as well as top tier Trip Advisor and Expedia rankings in each market. The company has more than 44,000 vacation owners, 1,000 villas, and 1,200 dedicated associates, with annual revenues in excess of $130 million.
Welk Resorts, Escondido, Calif.
Throughout this period of growth, ownership of the business has remained primarily with the Welk family. Current CEO Jon Fredricks – grandson of the founder – is in charge of keeping the resorts humming and the Welk family traditions thriving.
One of the keys to their business success has been their philosophy of treating their employees like family. Employees are shown appreciation and respect, paid well and offered generous benefits. The employees have returned the love with loyalty to the Welk family and their business, taking excellent care of each guest who comes to a Welk resort.
It was only natural, then, that the Welk family would respond with enthusiasm when they learned that they could address some pressing issues of shareholder liquidity through an arrangement that would allow family owners to sell stock to a retirement plan for the company’s employees – an arrangement known as an employee stock ownership plan (ESOP).
The ESOP in Action
So, what’s an ESOP? Very simply it is a “qualified” employee retirement plan, meaning that is qualifies for certain attractive tax advantages. It is a very distinctive kind of retirement plan because: a) it is expressly intended to accumulate and hold retirement assets in the form of the sponsoring company’s stock; and b) it is permitted to incur debt as a means of acquiring the employer stock that it will hold for the employees. The upshot of it all is that an ESOP is a terrific mechanism for enabling shareholders of privately held firms to liquidate stock.
By 2012, the Welk company (formally, the Welk Hospitality Group) had grown into a dynamic and successful international resort business. As an asset, the company represented a substantial amount of wealth for the family, whose members continued to be the primary owners. The challenge was that family owners had no good way of accessing that wealth in any liquid form. And some in the family were indeed interested in liquidating stock.
That’s why, when CEO Jon Fredricks learned about the ESOP idea at a local seminar, he felt immediately that this could be the solution to the liquidity challenge. The advantages offered by an ESOP, he learned, were many.
A big part of the equation was the tax treatment available through an ESOP. Conventionally, if a company agrees to redeem stock from a shareholder, the cost of the redemption is not deductible for company tax purposes. In contrast, when a redemption is structured using an ESOP, the cost becomes a deductible operating expense. That’s because, with an ESOP, the funding for the redemption takes the form of a cash contribution to the ESOP, which then buys the shares being offered by the shareholder. And a contribution to fund a qualified retirement plan is a deductible expense. The result? The federal and state governments are effectively covering a substantial portion of the cost of the stock redemption. Happy shareholder; happy company.
For Jon Fredricks and the rest of the company management, there was more. They saw a great fit between the idea of employees holding Welk company stock via their retirement accounts and the company’s traditional employee relations philosophy. This would be one more way that employees would be treated like family. And giving them a stake in the company stock value meant that they would develop a heightened appreciation for the importance of watching expenses – from keeping bed linens intact to making sure that gardening tools are kept out of the rain.
By December of 2012, the ESOP was in place at the company. The family’s largest shareholder then sold a 12-percent interest in the company to the ESOP. As with all ESOP purchases, the pricing of the stock was set based on the opinion of value rendered by a professional business appraiser. In exchange for the stock, the selling shareholder received an initial cash payment along with a note from the ESOP, to be paid off over the next few years. Now, as a 12-percent shareholder, the ESOP will receive 12 percent of the periodic earnings distributions made by the company. This flow of cash will enable the ESOP to make its payments to the selling shareholder, meaning that, through the magic of the ESOP, the redemption of the seller’s stock costs the company nothing.
As the original Lawrence Welk loved to say,“Wunnerful, wunnerful!”