Amid Crackdown, Some Firms Rethink ESOP Sale Practices

[mahatmakanejeeves]

Last edited Thu Dec 4, 2014, 02:46 PM - Edit history (3)

Amid Crackdown, Some Firms Rethink ESOP Sale Practices

Small Business
Labor Department Scrutiny Leads Business Owners to Reconsider Approach

By Ruth Simon
Updated Nov. 19, 2014 6:52 p.m. ET

Some business owners are rethinking how—and on what terms—they will sell their firms to employee-stock-ownership plans in the wake of a Labor Department crackdown on inflated valuations that could jeopardize worker savings.

The plans, known as ESOPs, often serve as a source of retirement savings for the nearly 13.8 million workers who participate in them.

But in some instances, owners selling shares of private businesses to ESOPs have inflated the business’s value or pressured appraisers to meet a target sales price, triggering Labor Department scrutiny. Trustees, who are responsible for protecting worker interests, sometimes failed to scrutinize these valuations, Labor Department officials say.

In June the Labor Department reached a landmark $5.3 million settlement with GreatBanc Trust Co., a Lisle, Ill.-based trustee for more than 200 such plans, including many for small businesses. In court filings, the Labor Department alleged that GreatBanc “failed to investigate the credibility” of assumptions used to set the price for a 2006 sale of shares of Sierra Aluminum Co., a maker of extruded aluminum products with roughly 600 employees, to an employee stock plan, thus shortchanging the company’s workers.

ETA, on 12-04-2014: Here's another example:

$10M settlement reached with People Care and US Labor Department

Agreement includes more than $9M to employee stock ownership plan

WASHINGTON — The U.S. Department of Labor today announced a $10 million settlement agreement with People Care Holdings Inc. and former owners Bruce Jacobson and Jerry Lewkowitz, who sold the company to their employees through creation of an employee stock ownership plan. The department contended that they violated the Employee Retirement Income Security Act by permitting the ESOP to purchase People Care stock from them for more than its fair market value.

An investigation by the Employee Benefits Security Administration's New York Regional Office found Jacobson, Lewkowitz and People Care breached their fiduciary duties by failing to correct unrealistically optimistic projections of People Care's future earnings and profitability, even after People Care lost a key municipal contract. The investigation also found that the stock purchase agreement's indemnification provision was invalid because it would require People Care, which is entirely owned by the ESOP, to pay any costs incurred by Jacobson and Lewkowitz in connection with an investigation or litigation.

"Owners who sell their companies to their employees and benefit from ESOP tax treatments are responsible for ensuring that the terms are fair to the plan and its participants," said Assistant Secretary of Labor for Employee Benefits Security Phyllis C. Borzi. "They have a duty to monitor the independent trustees that they appoint to oversee the transaction."

Under the terms of the settlement agreement, Jacobson and Lewkowitz will pay $9,090,910 to the ESOP and a civil penalty of $909,090.