ESOP Association Blog
Elephant Sausage
Washington, DC is a town with a lot of sayings borne from the hard-earned political wisdom one acquires working here. Recently, with the release and withdrawal of the Biden Administration’s ideas of what constitutes Adequate Consideration for ESOPs, two of those sayings come to the top of my mind.
First, if you like laws or sausages, don’t watch either being made.
And, another favorite: How do you eat an elephant? One bite at a time.
Over the next year or more, the membership of The ESOP Association will be introduced to the buried wisdom beneath both these sayings. Let me tell you, we have in front of us a very large serving of elephant sausage. And we are going to get after it, one bite at a time.
As President Biden was preparing to leave office, the U.S. Department of Labor issued what is known as a Notice of Proposed Rule Making, or NPRM. Within this notice was their draft proposed regulation on the meaning of Adequate Consideration as it relates to the valuation of company shares by an ESOP trustee. However, in a quirk of timing, that proposal was immediately withdrawn by the new Trump Administration via executive order before formal publication in the Federal Register, which is an important step in the process.
So, poof! In an instant it was gone. The result is that our membership of ESOP companies and professionals now have the benefit of what amounts to a very high-level leak of what the career lawyers at the Employee Benefits Security Administration (EBSA) have in mind. And it wasn’t very positive.
For decades, one of the worst-kept secrets in Washington has been that the unelected career staff at EBSA view ESOPs as contrary to the idea of retirement security envisioned within ERISA. Rather, despite thousands of life-changing successes and boundless examples of the good that flows from ESOPs, career bureaucrats (President Trump would call them the “deep state” of the ESOP world) would like to use their power to continue to choke off ESOP formations to a trickle, if not eliminate them altogether. This sad bias against ESOPs by our primary regulators comes through loudly in what they produced. In fact, one could argue the regulation was written to make it easier for plaintiffs’ attorneys to challenge ESOP valuations through lawsuits rather than establish a level regulatory playing field as Congress intended.
Political appointees had for months made hopeful signals that the agency would produce a draft regulation that would not be perfect but could be made to work. With great disappointment to ESOPs and employee ownership advocates everywhere, EBSA failed to deliver anything close to that, which is a stark illustration of just how much power DOL bureaucrats can wield if left unchecked. Instead, a draft was produced that would have the opposite effect of Congress’ longstanding, bipartisan intent – if it were to become law, it would deter and make ESOP formation less likely, more costly, and drive even more trustees and insurers away. Without trustees and insurance, there are no ESOPs. And maybe that was EBSA’s goal?
EBSA broke from over 50 years of precedent in the requirements they proposed for ESOP trustees by effectively eliminating the main role of a trustee – a good faith effort when determining a fair market value for ESOP shares. Instead, the Biden proposal functionally requires the trustee to become an expert appraiser of companies. In the eyes of EBSA attorneys the bottom line, final measurement of whether or not the trustee exercised good faith is if the valuation was “correct”.
Anyone who has ever had an appraisal – for a business, a house, even a car – understands that any two appraisals will almost certainly come back with somewhat different results. That is because appraising value inescapably produces a range. How many times have you received an email from Redfin or Zillow that describes the range of fair market value for your home, based on current conditions? It is the same for a business appraisal, yet much more complex when valuing companies worth tens or hundreds of millions of dollars. A trustee, operating in good faith, must rely upon the professional judgement of the independent appraiser hired to do the job.
A fully independent trustee, who exercises good faith judgement, should not be expected to change this fundamental and long-accepted fact about business appraisals. Yet to nobody’s surprise, EBSA apparently would like to hold ESOP trustees – and only ESOP trustees – to this ridiculous standard.
Now that we know what EBSA’s lawyers want to do to ESOP trustees, we can take even stronger action. There has never been a more favorable environment than now to finally secure meaningful, and appropriate, guidance that an ESOP trustee can rely upon. The ESOP Association is already mobilizing every resource at our disposal to ensure this opportunity is not lost. We are engaging the best and the brightest in Washington to make our case. We will pursue all available options – legislative, executive, legal and regulatory – to secure this fundamental clarity necessary to form and operate ESOPs.
So, pull up a chair, get out your forks and knives, and let’s get to work.
Adequate Consideration Resource Center
On Thursday, January 16, the Biden Administration’s Department of Labor revealed a draft of a long-awaited adequate consideration regulation for ESOPs. However, while the DOL made the draft regulation public, it was not set to be officially published in the Federal Register until January 22, two days after President Donald Trump’s inauguration on January 20.
One of President Trump’s first actions on January 20 was an Executive Order withdrawing any rules sent to, but not yet published by, the Federal Register. This action meant that the Biden DOL’s draft adequate consideration rule, and the accompanying draft of a safe harbor exemption, are withdrawn and will be revisited by the new Secretary of Labor, the new head of EBSA, and other appointed White House staff.
The ESOP Association has developed a series of analyses, overviews, policy papers and other communications to help our members stay informed about the adequate consideration issue. Some of our most helpful resources are listed below. Please note that comments and statements do not represent final conclusion or analysis and does not constitute legal advice.
If you would like to be kept informed of the latest developments on this and other issues related to legislation, regulation, and ESOP advocacy, please join the Employee Ownership Action Network (EOAN). It’s free to join and you will receive real-time alerts on policy issues impacting ESOPs.
Adequate Consideration Resources
For an overview of the draft adequate consideration rule, including information on the rulemaking process, highlights of the rule, current state of play, and The ESOP Association’s next steps, please click here to view and download.
To view and download the model regulation on adequate consideration developed by The ESOP Association and shared with the Biden and Trump Administrations and Congress, please click here.
For The ESOP Association’s side-by-side comparison of the Biden DOL draft regulation with our model regulation, please click here to view and download.
To view and download The ESOP Association’s policy paper on adequate consideration, please click here.
To view the full draft of the Biden Department of Labor’s proposed adequate consideration rule that was made public on January 16 but withdrawn on January 20 by Executive Order, click here.
To view the full draft of the Biden Department of Labor’s proposed safe harbor exemption that was made public on January 16 but withdrawn on January 20 by Executive Order, click here.