Employee Ownership Legal Digest (9) Archive

Stay informed on the latest legal developments impacting employee ownership. This page provides timely and concise summaries of key cases and rulings, contributed by experienced attorneys, to help the entire employee ownership community understand their implications, and also offers access to NCEO's archive of prior content.

Corey Rosen

Case Concerning Change to Account Segregation and Valuation Rules Can Proceed

In Nguyen v. Westlake Services Holding Company, No. 8:23-cv-00854 (C.D. Cal., Feb. 5, 2024), a district court allowed a case to proceed in which the plaintiff alleges that Westlake Holding Company changed its ESOP rules in 2020 to allow the company to segregate accounts of former employees prior to their receiving a distribution as well as to allow a special interim valuation to reflect economic challenges arising from the pandemic. Westlake provides financing for vehicle purchases and is part of the Hankey Group, which includes a number of dealerships. Until the changes in 2013, participants received a distribution in the second quarter of the year following termination based on the most recent appraisal. That was changed in 2013 to allow for account segregation at termination. At the same time, the company conducted a special interim valuation in 2020 that reduced the  price by 30%. The prior higher price was the one that otherwise would have been used for distribution for people terminating in 2020. Nguyen sued, alleging that she was not informed of the change and that the change violated ERISA. The court stated that Westlake could do an interim valuation but that there were sufficient grounds on the timing and accuracy of the valuation at this stage not to dismiss the case. It agreed with the defendants that the timing of the distribution was permitted. The court allowed the plaintiff to amend the complaint.

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Corey Rosen

Inequality Inc.: Rich Get Richer as Poor Get Poorer

In a report that received significant media attention, Oxfam, a nonprofit focusing on hunger and other poverty-related issues, found that “the combined fortunes of the world’s five richest men have more than doubled to $869 billion since 2020 while five billion people have been made poorer.” Other data points in the same direction of increasing concentration of wealth.

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Corey Rosen

Ninth Circuit Again Denies Rehearing Motion for DOL to Repay Attorneys’ Fees in Bowers & Kubota Case

In Su v. Bowers, D.C. No. 1:18-cv-00155SOMWRP (9th Cir. Jan. 7, 2024), the Ninth Circuit again said that the Department of Labor did not have to pay attorneys’ fees to the defendant attorneys in a valuation case the DOL decisively lost. In that earlier case, Walsh v. Bowers, et al., a court definitively ruled for the defendants against the DOL because the trustee had sufficient (albeit a short) time to vet the ESOP transaction, had unfettered discretion to hire its own independent appraiser, and had negotiated the deal and even saved the ESOP money. The court found that the ESOP trustee fulfilled its duty to the ESOP and its participants even though the trustee had worked for the seller before and knew the price the seller wanted in advance. The judge rejected the DOL’s valuation expert as unreliable. Nevertheless, in Su v. Bowers, the Ninth Circuit reaffirmed its earlier ruling that “the district court did not abuse its discretion in denying attorneys’ fees. In hindsight, the Department of Labor’s case had many flaws. But the district court did not err in concluding that the government was ‘substantially justified’ in its litigation position when it went to trial. The government’s expert, despite his errors, arguably had a reasonable basis—at least at the time of trial—in questioning whether the company’s profits could surge by millions of dollars in just months.”

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Corey Rosen

Inland Seafood ESOP Valuation Lawsuit Dismissed; Court Rules Plaintiffs Must Exhaust Plan Remedies Before Suing

In Bolton v. Inland Fresh Seafood Employee Stock Ownership Plan, No. 1:22-cv-04602-AT (N.D. Ga. Dec. 5, 2023) a district court dismissed a lawsuit at Inland Fresh Seafood over the valuation of the company when it was sold to the ESOP in 2016 for $92 million. The plaintiffs alleged that the defendants (including the independent trustee and sellers to the ESOP (all of whom were executives of the company), and the executives each were acting as fiduciaries. The suit alleged the executives had already received multiple bids for the company at lower prices. They provided the appraiser with allegedly highly unrealistic projections about significant increases in revenues and profits, which they allege were accepted to provide a higher than fair value. The plaintiffs said the defendants sought multiple valuations for the stock and accepted the highest one.

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Corey Rosen

ESOP Participants at TPI Hospitality Can Continue Lawsuit

In Kloss v. Argent Trust Co., No. 23-cv-0301 (D. Minn. Dec. 12, 2023), a federal court allowed a case over the purchase of shares in TPI by an ESOP to continue. TPI operates dozens of hotels and other facilities in Minnesota and Florida. It was sold to an ESOP in 2015. In 2018, the ESOP acquired 100% of the company for $10 million. That year, the company announced plans to develop a Margaritaville Resort on property the company owned in Fort Myers Beach, Florida. In April 2020, TPI Hospitality received over $600,000 in Paycheck Protection loans. In early 2021, TPI Hospitality owned a portfolio of 34 hotels and generated $130 million in annual revenue. Plaintiffs argue the sale was not in the interest of plan participants. The ESOP was terminated in 2021. Argent sold the ESOP’s stock to John Dammermann, a friend of TPI’s CEO Thomas Torgerson and a coinvestor with him in several properties, including the Fort Myers Beach Margaritaville Resort. Argent sold the ESOP’s stock to Dammermann for $500,000, which the complaint alleges was below the fair market value.

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Corey Rosen

ESOP Lawsuit Over Sale of ESOP Company Reaches Settlement

In Moore v. Va. Cmty. Bankshares, No. 3:19-cv00045 (W.D. Va. Nov. 28, 2023), a settlement has been reached in a lawsuit alleging fiduciary improprieties in the sale of ESOP shares at Virginia Community Bank (VCB) prior to a merger. VCB set up an ESOP in 2006 and terminated it in 2016. Plaintiffs alleged that directors and officers of the company unduly benefitted from the sale of the company to Blue Ridge Bank. VCB originally planned to sell to another bank in 2017, but that fell through. Participants were told that the bank would focus on staying independent. VCB offered employees the chance to cash out at $34 per share (the prior year’s value) or continue to hold the shares. Many employees did cash out. Officers were notified that they could purchase the shares that had been sold. Soon after that, VCB entered negotiations with Blue Ridge Bank and ultimately sold for $58 per share. Plaintiffs allege that the valuation used in the 2017 offer was dated, that funds in the plan were used to pay ESOP legal fees inappropriately, and that the defendants used their inside knowledge of the pending deal to buy shares at a lower price and sell them at a higher one.

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Corey Rosen

IRS Rules That ESOP Shares Should Have Basis Adjusted for Net Unrealized Appreciation Calculations

In Rev. Rul. 2003-27; 2003-1 C.B. 597, EB. 20, 2003, the IRS ruled that the basis of shares on an S corporation ESOP trust must be adjusted in the same way as any other S corporation shares are adjusted for the purpose of calculating net unrealized appreciation. Distributions, for instance, decrease the basis for tax purposes, while certain income items increase the basis. The IRS ruled that “an employee stock ownership plan (ESOP) is required to adjust its basis in S corporation stock under § 1367(a) for the ESOP's pro rata share of the corporation's items. Upon the distribution of S corporation stock by an ESOP to a participant, the stock's net unrealized appreciation under § 402(e)(4) is determined using the ESOP's adjusted basis in the stock.”

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Corey Rosen

Ninth Circuit Says Labor Department Not Responsible for Fees in Failed ESOP Lawsuit

In Su v. Bowers, D.C. No. 1:18-cv-00155SOM-WRP (9th Cir. Oct. 23, 2023), the Ninth Circuit said that the Department of Labor did not have to pay attorneys’ fees to the defendants’ attorneys in a valuation case the DOL decisively lost. In Walsh v. Bowers, et al., a court definitively ruled for the defendants against the DOL because the trustee had sufficient (albeit a short) time to vet the ESOP transaction, had unfettered discretion to hire its own independent appraiser, and the trustee negotiated the deal and even saved the ESOP money. The court found that the ESOP trustee fulfilled its duty to the ESOP and its participants even though the trustee had worked for the seller before and knew the price the seller wanted in advance. The judge rejected the DOL’s valuation expert as unreliable. The defendants sued for attorneys’ fees, charging that the DOL should never have brought the case.

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Corey Rosen

District Court Upholds Arbitration Clause in ESOP Dispute

Courts have generally not favored arbitration clauses in ESOPs. As we reported in November 2023, the Supreme Court recently declined to hear two appeals of cases in which an arbitration clause was denied as a defense. Generally, courts have ruled that participants cannot be made to give up the right to sue on issues that can affect the entire plan. In Merrow v. Horizon Bank, No. 22-cv-123, (E.D. Ky. Oct. 24, 2023), the case revolved around allegations that the ESOP overpaid for the shares. The arbitration clause stated that "[e]ach Participant and Beneficiary, or any party claiming for or through them, agrees that any Claims will be arbitrated individually and shall not be brought, heard, or arbitrated on a class or collective action basis—unless both parties agree, in writing, to the contrary." The decision followed precedent in the Sixth Circuit in Masco Corp. v. Zurich Am. Ins. Co., 382 F.3d 624, 627 (2004), concluding that the arbitration clause did not equate to a waiver of rights under ERISA but merely a different way of resolving disputes over them.

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