Once Again, Strong Process and Substance Matters
There is not much love lost by the Department of Labor for ESOP transactions. The skepticism, even antipathy, is somewhat justified. Some ESOP transactions don’t pass the smell test (see my prior post: ESOPs: Common Sense Required).
And yet, ESOP transactions continue. Notwithstanding the bad deals, there are economic benefits to ESOP structured transactions. Fortunately, however, ESOP fiduciaries now can operate with clearer direction from the Department of Labor.
At the beginning of the summer, the Department entered into a Settlement Agreement in Perez v. GreatBanc Trust Co with respect to an ESOP maintained by the Sierra Aluminum Company. This Settlement Agreement afforded the DOL the opportunity to issue guidance which has the look and feel of regulations, without having to go through the long process of issuing regulations.
In short, DOL requires that the fiduciary be an active participant in an ESOP transaction. The fiduciary must determine that financial projections are reasonable, take steps to assess the accuracy of financial data, review the selection and valuation process of the expert appraiser, and generally assure that a prudent process has been followed and documented. This is far from a passive role.
At Harrison Fiduciary Group we have drafted a set of fiduciary policies and procedures which closely adhere to the terms of the GreatBanc settlement. In general these procedures focus on the following:
- Valuation Advisor — review of qualifications, selection process, no conflicts of interest, analysis of valuation work-product;
- Financial Statements — reasonable reliance on financial statements;
- Fiduciary Process — written documentation of processes, and reliance upon valuation report; and
- Miscellaneous — Preservation of documents, purchase or sale of securities for fair market value (debt not to exceed fair market value of securities), consideration of a claw-back.
In light of the GreatBanc settlement and the general enforcement pressure being brought to bear by the DOL on these transactions, some institutional fiduciaries are exiting the ESOP marketplace. They are unwilling to assume the risks highlighted by the Department and the Courts. This market disruption might cause concern for some service providers, but at HFG we view this as a significant opportunity. Our competency and expertise as fiduciaries should give comfort to both plan sponsors and to the Department of Labor. As is true for each of its fiduciary engagements, HFG rigorously complies with its own policies and maintains contemporaneous written documentation of its process. ESOP engagements will fare no differently.