Bass, Berry & Sims attorney Doug Dahl outlined the key considerations, important steps and issues of concern when buying a company that is employee-owned, or at least partially employee-owned, by an Employee Stock Ownership Plan (ESOP), including:

  1. The nature of an ESOP: In an ESOP, employees have retirement accounts invested primarily in their employer’s stock, rather than having accounts invested in an array of securities and mutual funds. The trustee of the ESOP – who represents ESOP participants as the beneficial owners of the company stock – is entitled to participate in the sale or transaction like other shareholders would. Most importantly, anytime an ESOP is involved in the acquisition or sale of company stock, the transaction must be for “adequate consideration,” and the trustee’s decision to buy or sell must be in the financial best interest of the ESOP participants.
  2. Stock or asset purchase: The first issue to consider in a transaction involving an ESOP is whether the transaction will be in the form of a stock or asset sale, which informs what type of liability the buyer may be taking on as a result of the transaction. If the transaction is structured as an asset purchase, then the selling company’s ESOP is required to pass through the voting rights of the ESOP’s individual participants. If the transaction is structured as a stock sale and the seller is a private company, the ESOP trustee retains the right to decide whether the ESOP will agree to participate in the sale.
  3. Independent trustee and appraiser involvement: The next step after determining the form of transaction is deciding on whether an independent trustee will be appointed to represent the ESOP’s best interest in the transaction, which applies to situations where the current ESOP trustee is not truly independent of the selling company, such as an employee, officer or owner. Proving that the independent trustee acted only in the interest of ESOP participants during the transaction is critical if the transaction is ever questioned by the Department of Labor. The independent trustee should hire a qualified independent appraiser to determine that the transaction proceeds constitute “adequate consideration” and the transaction is fair to the participants financially.
  4. Redemption or participation: Prior to the transaction, decide whether the shares of company stock held by the ESOP will be “redeemed” by the selling company or if the ESOP will participate in the actual sale. In a redemption, ESOP participants and the ESOP trustee negotiate the redemption of the stock with the sponsor-company separately. This type of sale would occur immediately prior to closing of the main transaction. However, if the ESOP will not be redeemed before the main transaction, the ESOP will participate in the main transaction and the ESOP trustee will be directly involved with negotiating and approving the terms of the purchase agreement.
  5. Exposure for prior ESOP transactions: Because of the prohibited transaction rules and increased DOL scrutiny of ESOPs, any prior transactions involving the ESOP should be examined carefully, especially transactions where the ESOP purchased stock from the selling company or a company shareholder. If any aspects of the ESOP’s previous transactions reveal a lack of compliance with trustee independence or “adequate consideration,” then the buyer should contemplate asking the seller for specific indemnity to cover any potential exposure.

The full article, “5 Things to Know About Buying a Company with an ESOP,” was published by BenefitsPro on May 1, 2018, and is available online.