Frequently Asked Questions

Employee Ownership FAQs

Common questions about employee stock ownership plans (ESOPs), employee ownership trusts (EOTs), and other forms of employee ownership, from the basics to technical topics.

This FAQ is written primarily for business owners, managers, and advisors involved in setting up or running an employee ownership plan. If you're an employee at an ESOP company looking to understand your own benefits and rights, see our articles on Working at an ESOP Company and The Rights of ESOP Participants.

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What are the DOL GreatBanc Agreement and other process agreements and how do they apply to ESOP valuations?

On June 2, 2014, the Department of Labor and GreatBanc Trust Company signed an agreement describing the process that will govern all ESOP transactions in which GreatBanc participates. Subsequently, the DOL entered into five more process agreements with other trustees. The agreements apply only to the trustees, but most ESOP professionals see them as guidelines that, if followed, will provide a degree of comfort that decisions are less likely to be challenged in court. Some of the elements in the agreements are controversial, however, and may not have wide applicability.

The GreatBanc agreement states that the trustee must “prudently investigate the valuation advisor’s qualifications” and take “reasonable steps to determine that the valuation advisor receives complete, accurate, and current information necessary to value the employer securities.” It also must determine “that its reliance on the valuation advisor’s advice is reasonable before entering into any transaction in reliance on the advice.” The appraiser should not have valued the stock that is to be the subject of the transaction with the ESOP for a party to the transaction other than the trustee. The First Bank and Trust Services (FBTS) agreement added that trustees need to document why they chose the appraiser and how they vetted the appraiser’s qualifications. The Joyner agreement says this vetting must be repeated every 24 months, not the 15 in the GreatBanc agreement. This need not be done every time, however, for appraisers used regularly by the firm. The trustee should know the qualifications of the person actually doing the work, not just the firm.

One of the more important parts of the GreatBanc agreement concerns the specific documentation a trustee should ask for from the appraiser. These include looking at a number of specific metrics on projected financial performance and how they compare over the prior five-year prior period as well as to comparable public company data, if any. The measurements described are fairly standard in good ESOP appraisals; the agreement specifies what to look for and document.

The GreatBanc agreement also provides that the appraiser’s report or trustee’s documentation should demonstrate consideration of how “plan document provisions regarding stock distributions, the duration of the ESOP loan, and the age and tenure of the ESOP participants may affect the ESOP sponsor’s prospective repurchase obligation, the prudence of the stock purchase, or the fair market value of the stock.”

The GreatBanc agreement requires that the trustee evaluate the debt for the transaction and the company’s ability to repay it. It also requires that the trustee consider the fairness of the transaction with respect to such issues as whether the cost of the debt is reasonable. The FTBS agreement lays out additional guidelines for when an ESOP can pay a control price, requiring that the ESOP pay for actual control, not control that may be constrained by other agreements.

The GreatBanc agreement states a clear preference for audited company financial statements in connection with the appraisal. If the company’s financial statements are not audited, the trustee needs to document why it is reasonable to rely on unaudited financial information.

In the First National Bank agreement, the DOL and FNB agreed on a sweeping definition of what elements of control the ESOP must have in order to pay for control. This goes well beyond what case law and standard practices have used, and it is unclear whether the DOL will use this as a standard elsewhere. The “right to control” is defined as including “all of the unencumbered rights that a shareholder would have that acquired the shares to be purchased by the ESOP,

The Alpha Investment agreement provides that where seller financing is used (as it was there), but outside financing was available, the fiduciary should evaluate whether the outside financing provided better terms, and, if so, why seller financing was used.

The GreatBanc agreement provides that the trustee should document that any information, including financial projections, that are provided to the appraiser is reasonable. The trustee should also document that it has considered a list of 16 different items in the valuation report on financial issues.

The FBTS agreement added that trustees must ensure that the valuation advisor obtains information about any prior defaults within the past five years by the ESOP under any lending or financing agreement, plus any management letters provided to the ESOP sponsor by its accountants within the past five years. The trustee must document the identities of trustee employees who participate in decisions about the transaction, and those employees must document their work. If any of the trustee’s employees who are primarily responsible for the transaction believe the valuation report’s conclusions are not indicative of the company’s true value, the trustee shall not proceed with the transaction.

The FNB agreement states that FNB must “[e]xplain any material differences between the present valuation and the most recent prior valuation of the plan sponsor performed within the past 24 months by any valuation firm for any purpose (if any exist). For valuations obtained exclusively by the sellers in connection with the transaction within the past 12 months, Farmers Bank “should at a minimum obtain information on when the valuation was performed and who prepared the valuation.” The valuation advisor must obtain from the sellers: (1) all prior attempts by the purchasing or selling shareholder(s) to purchase or sell their stock in the plan sponsor within the proceeding two years; (2) all prior defaults within the past five years by the plan sponsor under any lending or financing agreement; (3) all management letters provided to the plan sponsor by its accountants within the past five years; and (4) all information related to a valuation of the plan sponsor provided to the Internal Revenue Service within the past five years.

The GreatBanc agreement also provides that “the trustee will consider whether it is appropriate to request a claw-back arrangement or other purchase price adjustment(s) to protect the ESOP against the possibility of adverse consequences in the event of significant corporate events or changed circumstances.” A “claw-back” generally requires that the seller returns some of the price it received for stock it sold in the event the value of the stock goes down significantly during a specific period of time after the transaction. It is difficult to get a seller to agree to such a provision, but the agreement states that the trustee should document in writing its consideration of the appropriateness of a “claw-back or other purchase price adjustment(s).”

For a detailed discussion of the agreements, see The DOL Process Agreements for ESOP Fiduciaries.

Link to this FAQ Topic: Governance, Fiduciaries & Compliance