The One-Stop ESOP Blog

Recruiting Best Practices for Small Business

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Wed, 03 Dec 2008 18:28:00 +0000

While Recruiting for Small Firms is geared towards accounting firms, it shares some recruiting best practices that would benefit many small businesses:

Articulate your firm's unique differentiator.
Conduct a firm needs assessment.
Have a strong college and university presence.
Develop a formal internship program.
Create a prospecting list database.
Look for nontraditional ways to find experienced recruits.

Declining Valuation Multiples, ESOP Diversification Requirements, and Private Company Industry Averages

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Tue, 02 Dec 2008 13:05:00 +0000

The December 1, 2008 Employee Ownership Update is online and discusses the following:

Inc. Magazine Site Provides Useful Tool for Comparing Financial Numbers
British Retailer Woolworth's May Be Employee Ownership Candidate
ESOP Valuations and the Downturn
Political Prospects for Employee Ownership

The Update discusses how ESOP valuations could decline even if a company is having a good year, as valuation firms may be dropping their multiples to reflect the current economic conditions:

Closely held ESOP companies will face the probability of declining stock value even if their business is holding up. ESOP valuation specialists tell us that the multiples they use to value businesses will drop to reflect the declining multiples paid for companies in general. While each industry will face a different scenario, that could mean a reduction of 25% or more in the multiples. Helping employees understand why their stock value is going down even when the company is making money is a critical task for ESOP companies.

It explores the possibility that the incoming Congress and Administration will take the position that ESOPs are Too Concentrated in Employer Stock and require them to diversify their assets. The Update reiterates that ESOP companies are more likely to have diversified retirement plans:

The data on ESOPs make it very clear that companies with ESOPs actually are more likely to have diversified retirement plans than comparable companies are likely to have any kind of retirement plans. ESOP participants have about three times the account balances of comparable employees in comparable non-ESOP companies, and the diversified portion of this is about the same as the total retirement benefits of comparable employees. In other words, the ESOP is gravy. While that gravy is undiversified, 100% an undiversified holding is better than a 100% diversified holding of zero. ESOPs also are more egalitarian in their allocation patterns than 401(k) plans because they are not based on employee deferrals, which tend to skew company matches towards higher-paid people. Getting these arguments in front of Congress will be essential in 2009.

The Update also shares the Inc. Profitability Report, a web tool that shares compiled financial data on privately held companies and allows companies to find out what their numbers should be based on industry averages.

Today is the Safe Harbor Notice Deadline/Conditional Safe Harbor Notice

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Mon, 01 Dec 2008 12:34:00 +0000

Many ESOP companies make a safe harbor matching or discretionary contribution to their ESOP or 401(k) plan. In order to satisfy the safe harbor requirements an annual safe harbor notice must be provided to the participants. The notice must be provided between 30 and 90 days before the first day of the plan year, and employees who become eligible after the notice period must receive the notice by their date of eligibility. Since December 1 is 30 days prior the start of December 31, 2009 plan year, today is effectively the safe harbor notice deadline for many plans.

If you are still not sure if you will be providing a safe harbor contribution, 401k safe harbor for 2009? Maybe yes, maybe no discusses how you can provide a conditional notice and how the safe harbor match can be stopped during the plan year:

The notice would state that the employer may give a safe-harbor contribution for the following year. And then no later than 11 months later, the employer must provide another notice indicating that the Safe Harbor has been elected and the 3% contribution will be made for that year.

That's for the 3% Safe Harbor contribution across the board. But what about the Safe Harbor match: can it be stopped during the plan year? The answer is yes by providing a notice to the employees at least 30 days before the contributions are to be stopped.

And here's two important matters that are part of this discussion:

There must be the proper plan documentation.
The 401(k) discrimination tests must be provided for the entire plan year.

Actually, there's one more important consideration - your employee's expectations. Go beyond the formal notice requirements when communicating with your employees.

If your 401(k) plan has an automatic enrollment feature and/or uses a qualified default investment alternative (QDIA), separate notice(s) must also be provided by December 1.

2008 State of the ESOP Address

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Tue, 25 Nov 2008 20:42:00 +0000

Uncertainty Describes 2008 Election Results Impact on ESOPs -“The Election of 2008 and Its Impact on ESOPs” shares the remarks delivered by the ESOP Association president J. Michael Keeling at the 2008 Las Vegas Conference. He discussed how the 2008 election results are like the 1980s all over again:

In 1984, we, the ESOP community had to fight for our lives in the House tax committee, the House Ways and Means Committee; we had to fight for our lives in 1985; we had to fight for our lives in 1987; we had to fight for our lives in 1989. And while we had to fight for our lives, we won more often than we lost. We survived. The House Ways and Means Committee in the 80s was controlled by the Democrats—just like in 2009/2010.

He discussed the push toward the reduction of the corporate tax rate. The Rangel tax proposal, the Treasury Department, and the Congressional Budget Office have recommended cutting ESOP "corporate tax loopholes" to fund the corporate tax rate cut. He also mentioned the war on 401(k) and defined contribution plans fueled by the recent decline in the stock market.

The drumbeat from the leaders of the two House committees with jurisdiction over ERISA plans is that all retirement savings plans should not have any risk, that all private sector plans should be like defined benefit plans. [The two committees are the House Ways and Means Committee, and the House Education and Labor Committee.]

These leaders are joined by prominent media pundits, such as Jane Bryant Quinn, a nice person who I spoke with just recently about ESOPs, but who says, "An employee who works for a company with an ESOP should find another job," and her remarks go along with what we have read in national newspapers recently, which is, "the stupidest thing a person can do is own stock in the company where they work."

He discussed the 2005 Letter from Barack Obama Regarding ESOPs and speculated on Obama's view of ESOPs:

What I now say is pure speculation on my part, but I do not believe I am too far off the mark. As an elected official representing Chicago in the Illinois State Legislature, and in the Congress representing the rest of Illinois as well, President-elect Obama has to have had many an employee of United Airlines complain about the United ESOP. He has to have heard complaints from the failed Peoria company, Foster and Gallagher, and as a former law professor at the University of Chicago, the many law suits arising there from.

He also noted that Lawrence Summers, an Obama economic advisor, vigorously opposed pro-S ESOP legislation. Unfortunately, Keeling noted, we do not have a friend in the White House like we had in the 80s in President Ronald Reagan.

He ended by stressing the importance of ESOP advocacy and moving more Democrats to be for ESOPs.

All of our ESOP governmental posts can be found by accessing the legislation label. More information about current ESOP legislation can be found on the left-hand sidebar of this Blog.

How Thriving ESOP-Owned Banks Keep Employee Turnover Low

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Mon, 24 Nov 2008 03:56:00 +0000

People Practices Help Local and Community Banks Thrive, Even in Tough Economic Times discusses two ESOP-owned banks that are thriving, even in today's financial environment. The banks use employee ownership and other techniques to keep employee turnover low.

Phelps County Bank, one of the only 100% employee-owned charter U.S. banks, keeps employee turnover low by having an extensive training and mentoring program and providing performance-based financial incentives:

They've done all this while keeping employee turnover at around 8 percent, far below the industry average of 13.3 percent for 2007, as measured by CompData Surveys. What do they do internally that makes all this possible? All new hires go through an intensive, eight-week training program that covers both compliance issues and on-the-job training with the help of a mentor. They are also big on industry training to spur professional development, working closely with employees to help them match their career objectives to available opportunities. Finally, there are performance-based financial incentives. Since implementing its ESOP, the bank has created at least nine millionaires.

Paducah Bank & Trust keeps 80 percent of their loans in their local county and manages employee turnover by using employee ownership, comprehensive on-site and off-site training, and daily meetings:

The bank has managed to grow revenues steadily, at roughly 12 percent from 2005-2007, keep employee turnover down to around 10 percent over the same period and increase its market share over the past decade by a whopping 200 percent by using a combination of employee ownership mechanisms, comprehensive on-site cross-training for new hires and supporting off-site development of longer-term employee-owners, and using daily meetings with all 140 of their associates to underscore the personal attention their customers have come to expect and appreciate.

Both banks are recent Top Small Workplaces winners.

New Offer to Purchase U.S. Sugar

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Sat, 22 Nov 2008 18:27:00 +0000

Florida's Everglades Deal With U.S. Sugar Faces Challenge From New Bid discusses how a Tennessee company is seeking to acquire U.S. Sugar Corp. We have discussed the U.S. Sugar ESOP Issues including the current plans by the state of Florida to Purchase 187,000 Acres of U.S. Sugar Land for $1.34 billion:

In letters to directors, executives and shareholders of U.S. Sugar, the largest grower of sugar cane in the U.S., closely held Lawrence Group disclosed plans to offer $300 a share for the company. However, because U.S. Sugar is also closely held, primarily by descendents of its founder and an employee ownership plan, it wasn't clear exactly how much the Lawrence offer would represent.

If the offer succeeds, it would prevent a landmark transaction by the South Florida Water Management District, which reached a final agreement last week to buy nearly all of U.S. Sugar's property and convert much of it back into a natural waterway as part of an environmental restoration of the Florida Everglades.

The 285 square miles of land sit along parts of the "River of Grass," the course of water that naturally flows between Lake Okeechobee, through the Everglades wetlands, and to the ocean. The deal is still pending final approval by the boards of U.S. Sugar and the water management district.

Lawrence Group says the deal is "far superior" to the state deal and would attempt to negotiate a new arrangement with the state to achieve the same environmental goals.

Antioch Company Bankruptcy Filing

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Fri, 21 Nov 2008 13:13:00 +0000

Earlier this week we discussed how a bankruptcy filing may have been prevented with proper Repurchase Obligation and Distribution Planning. Antioch Company files for bankruptcy protection provides additional details on the bankruptcy filing:

The Antioch Company filed a prepackaged reorganization plan with the U.S. Bankruptcy Court for the Southern District of Ohio and on Friday was granted a first-day motion, which assures that employees' pay is secure, customer needs will be met, suppliers will be paid and business can continue much as it was before, Moran stated in a letter to company vendors last week. And the company expects to complete the transition with its suppliers, lenders and employees by the end of this year, she said.

"It was not an easy decision that we reached, but the whole purpose was to allow us to take the good business and shed the bad balance sheet," Moran said during an interview on Monday.

The article also discusses how the debt that the company took on in 2003, when the company gave its employees a one-time opportunity to resign and sell their shares back to the company, combined with a five-year decline in sales revenue contributed to the filing:

Moran also declined to say specifically how The Antioch Company had accrued its debt. Part of it may have been due to the company's decision to become an S corporation in 2003, which allowed its employees a one-time opportunity to resign and sell their ESOPs back to the company. The number of employees who exercised the option was much higher than the company had expected, Morgan told the News in an interview in August. According to an industry Web site called "Scrapbook Update," The Antioch Company's chapter 11 documents claim that between 2004 and 2007, the company made share repurchases of $190 million for the approximately 800 employees who either left or were laid off.

Over the same five-year period, Creative Memories, the company's most profitable subsidiary, has seen a decline in sales revenue. In 2003, the direct sales company was set to reach $340 million in sales revenues, according to a News article that year. But this year, according to "Scrapbook Update," the company is on track to make $200 million in sales.

The restructuring allows the company to exchange its debt for equity and stock:

The terms of the restructuring allow the company to exchange its debt for equity and stock, Moran said. According to a letter that employee-owners and stock holders received on Monday, the deal allows the company's senior lenders (its banks) the option to participate in 80 percent of the company's preferred stock, while employee-owners can choose to participate in 20 percent of the common stock. While the former ESOP value no longer exists, Moran said that it was difficult to know the value of shares in the new structure because their worth will be based on the performance of the business….To exercise the option of buying into the new stock structure, employees were asked to sign a release form in favor of the company and its lenders, according to the letter to employee-owners, which to Hardman means basically agreeing not to sue them.

Repurchase Obligation and Distribution Planning, Public ESOPs Increase Total Compensation, Repricing Options

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Wed, 19 Nov 2008 23:33:00 +0000

November 17, 2008 Employee Ownership Update is online and discusses the following:

New Study Shows ESOPs Increase Total Worker Compensation in Public Companies Significantly, But Not at Shareholder Expense
Repricing Options Gaining Momentum
New Resource on Employee Ownership Cases
A Cautionary Tale About Planning for the Repurchase Obligation

The Update discusses how the Antioch Company ESOP (Yellow Springs, OH) has filed for Chapter 11 bankruptcy, and notes that the problems may have been prevented if the repurchase liability were properly reflected in the stock price and with proper repurchase obligation and distribution planning:

Antioch is one of the more remarkable ESOP stories. A small printing company with a long history of pro-employee policies, it set up an ESOP in 1979. In the late 1980s, it bought an album company (Creative Memories) and sales took off. In the next 25 years, employment grew from about 150 to over 1,100, and the share price went up over 2,000%. But then the album market peaked. Employees started to leave, taking advantage of the company's high price and immediate cash-out provisions. Over the next few years, about 800 employees resigned. The resulting cash drain led the company to seek a buyer, but when that fell through, Chapter 11 became the only course. The company will continue to operate, but its ESOP will be terminated. Employees, however, will receive a membership interest in a trust linked to a successor limited liability company (LLC). Antioch might have been able to deal with the problems more effectively had the repurchase obligation been more accurately reflected in stock value and if it had more flexibility in its ESOP payout schedule.

While Antioch's problems are deeply distressing to its employees and leadership, who have an unusually strong commitment to ownership ideals, it's worth remembering that it paid out tens of millions to dollars to employees over time, with account balances into six figures and even seven figures common for employees with significant tenure.

It also discusses how a new study found that ESOPs have a positive effect on total compensation in public companies:

In an new study, E. Han Kim of the University of Michigan and Page Ouiment of the University of North Carolina ("Employee Capitalism or Corporate Socialism: Broad-Based Employee Stock Ownership," October 28, 2008) find that ESOPs owning less than 5% of company shares have a small (0.8%), but positive effect on total compensation, while in companies where the ESOP owns more than 5%, total compensation is 5.2% higher. The more leverage associated with the ESOP, the lower the increase in employee compensation, perhaps because companies exercise restraint on total compensation in the face of greater debt. By contrast, the sub-sample of companies where the ESOP was established in conjunction with declining sales resulted in lower total compensation (2.8% for small ESOPs and 6.3% for large ESOPs).

The effect on value (measured by a standard measurement, Tobin's Q, a ratio of the company's stock value to its book equity value) followed a similar pattern. Overall, ESOPs led to an 8.12% increase in company valuation relative to the industry median. Companies with ESOPs with less than 5% ownership showed a valuation increase of 16% relative to the industry median; companies with larger ESOPs showed neither an increase nor a decrease.

Here is the abstract for the Employee Capitalism or Corporate Socialism? Broad-Based Employee Stock Ownership study:

Adopting employee share ownership (ESO) plans leads to a higher firm value when the plan is small, i.e., less than 5% of outstanding shares. When the plan is larger, however, we observe no changes in firm value. This inverse U-shaped relation between shareholder value and ESO size is robust to firm fixed effects and controls for possible endogenous selection biases in the timing of plan implementations. The value relation appears driven by changes in employee compensation: Large ESOP adoptions are followed by substantial increases in employee compensation, whereas small ESOPs show no such increases. These results imply that most of productivity gains generated by ESOPs accrue to employees (shareholders) when employees have substantial (small) control rights. In addition, compensation increases following large ESOPs are smaller when financial leverage is higher. This leverage effect on compensation, in turn, seems to have a favorable impact on firm valuation. The value negating impact of large ESOPs becomes weaker with higher leverage.

The Update also discusses the issues involved in repricing underwater stock options and references Technology Options Sink - Silicon Valley Considers Repricing but Risks Riling Investors:

Corporate governance specialists are leery of repricing plans. Kent Hughes, a managing director at Egan-Jones Proxy Services, said he generally recommends shareholders reject such repricing proposals because of dilution and concern they may be seen as rewarding poor management.

Some companies are trying to pre-empt shareholder opposition, designing "value-neutral" plans that allow employees to exchange existing options for a smaller number of new ones at lower exercise prices. That will help protect part of an employee's grant but avoid large-scale dilution or additional accounting charges, said compensation specialists.

"[Executives have] earned advanced degrees in compensation governance," said Brett Harsen, an analyst at compensation advisory firm Radford Surveys + Consulting, who added that half of the valley's companies are considering such plans. "Shareholders have been demanding greater balance between their interests and those of the management on all compensation-related matters."

RiskMetrics' Mr. McGurn said investors will be much more sympathetic to plans that don't include executives and directors, many of whom are seen as overpaid. Shareholders also may want to see vesting schedules, the length of time employees have to work at a company before getting their grants, extended in order to entice employees to stay longer.

"I would probably lean toward [repricing] if it would help keep employees," said Ryan Jacob, chief investment officer at Jacob Asset Management, which holds shares in many major technology companies, including Google, Apple and Yahoo.

It also discusses the Curriculum Library on Employee Ownership (CLEO)

DOL Sues the Board of Directors for Alleged ERISA Violations

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Tue, 18 Nov 2008 17:30:00 +0000

Last week we discussed Johnson v. Couturier, 2007 WL 3151802 (E.D. Cal. October 26, 2007) in Corporate Indemnification Limited to Amount Covered by Fiduciary Insurance? In a related case, the DOL announced that they have sued the board of directors for alleged ERISA violations:

SAN FRANCISCO – The U.S. Department of Labor has sued the board of directors of The Employee Ownership Holding Co. of Stockton, Calif., and Fife, Wash.; trustees of the company's employee stock ownership plan (ESOP); its attorney; certified public accountant and valuation advisor for alleged violations of the Employee Retirement Income Security Act (ERISA). The lawsuit alleges that the defendants imprudently used ESOP assets to purchase company stock from President and Chief Executive Officer Clair R. Couturier Jr. at an inflated price, and engaged in transactions that caused millions of dollars of harm to the ESOP and its participants while enriching the defendants.

"This legal action seeks to recover millions of dollars on behalf of the workers and retirees who are counting on the pension plan for their retirement security," said Secretary of Labor Elaine L. Chao.

According to the suit filed in federal district court in Sacramento, Calif., Couturier; David R. Johanson and his firm Johanson Berenson LLP; Robert E. Eddy; James Roorda; Matthew Donnelly and his firm Business Appraisal Institute; and David L. Heald and his firm Consulting Fiduciaries Inc. violated ERISA in connection with transactions in 2004 and in 2007.

The suit alleges that in 2004, ESOP trustee Eddy approved the stock purchase from Couturier without a financial valuation supporting the amount paid to Couturier. As part of that transaction, Couturier received approximately $34.4 million in cash and property from the ESOP in exchange for stock he owned in the ESOP (valued by the ESOP at less than $500,000 at the time) and other non-ESOP compensation worth millions of dollars less than the amount Couturier received. Couturier received $26 million in cash, a $5.5 million property in Palm Desert, Calif., $2.7 million in cash to pay taxes on that property, a $200,000 car and a country club membership.

Eddy and Johanson hired convicted felon Donnelly and his firm to justify the overpayment to Couturier. The defendants also engineered a way to funnel the $26 million in cash into Couturier's individual retirement account as a rollover of his ESOP account. Eddy and Roorda, with the assistance of Johanson, convinced Couturier to hire them to manage a portion of the millions in ill-gotten gains paid to Couturier.

In 2007, Heald and his firm (the independent fiduciaries of the ESOP), along with Eddy, allegedly approved the sale of the company under an arrangement in which the ESOP and its participants would receive distributions only after millions in improper indemnification claims were paid to defendants Johanson, Eddy and Couturier. As part of this arrangement, Eddy also received a personal bonus of more than $1.3 million as a result of his fiduciary acts.

The suit seeks a court order requiring the defendants to restore to the plan all losses with interest, as well as return all fees and amounts illegally received by them. The suit also asks the court to require Eddy to return $1,382,724 in kickbacks, remove Heald and Eddy as plan fiduciaries, and permanently bar all the defendants from serving in a fiduciary or service provider capacity to any plan governed by ERISA in the future.

The suit resulted from an investigation conducted by EBSA's San Francisco Regional Office. In fiscal year 2007, the Labor Department achieved monetary results of $1.5 billion in pension, 401(k), health and other benefits for millions of American workers and their families. Employers and workers can contact EBSA's San Francisco office at 415-625-2481 or toll-free at 866-444-3272 for help with problems relating to private sector pension and health plans.

CA Firm Charged with Misusing ESOP Assets also discusses the suit.

Top Small Workplaces: ESOPs and Employee Ownership

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Mon, 17 Nov 2008 15:10:00 +0000

I would like to thank Mark Harbeke at Winning Workplaces for the link in Friday Nugget: 15 More Blogs for Small Business and Entrepreneurship. Winning Workplaces and The Wall Street Journal recently collaborated to determine the 2008 Top Small Workplaces. Here are some of the ESOP and employee ownership comments about the 2008 Top Small Workplaces:

ATA Engineering Inc.

In 2004, the 28 employees from the former firm agreed to make the company 100% employee-owned by starting an employee stock-ownership plan. What's more, every ATA engineer, manager and executive is paid on the same engineering pay scale -- there's not a separate scale for managers. So there aren't big differences in pay between managers and the people they supervise….Part of ATA's flat, ownership culture also means allowing employees to make important decisions without needing massive amounts of approval, as well as allowing all engineers to lead projects at various points. So, even senior managers could end up working under one of the people who report to them.

Jackson's Hardware Inc.

In the late 1980s, founder H.C. Jackson decided to sell the business to his employees, who now own 100% of the company through an employee stock-ownership plan. As part of creating an ownership culture, Jackson's spends ample time teaching employees about the benefits of ownership, says President and Chief Executive Bill Loskutoff.

The company has a committee whose role is to educate employees about stock ownership and how their work is directly related to the success of the business -- and thus their own financial well-being. Jackson's also puts out an annual ownership-plan newsletter and selects an "Employee Owner for the Month" who receives a gas card and $600 toward a weekend getaway and dinner or store purchase.

Each year, the company makes a contribution to the ownership plan based on company profits; the average annual contribution since 1997 has been about 20% of employees' total wages. On top of the stock plan, the company pays 100% of the health-insurance premiums for employees and their dependents -- a rarity in the retail business.

King Arthur Flour Co.

The 218-year-old company, started in Boston, was family owned for five generations. But starting in the mid-1990s, the family began selling shares to an employee stock-ownership plan, and today the company is 100% owned by workers.

Company executives believe that teaching its employee owners about baking and baking culture will give them an enthusiasm that will spill into how they perform their jobs and deal with customers. Even employees who don't work directly with flour are encouraged to learn about baking. "It just helps bring home what we're doing as a company," says Chief Executive Steve Voigt, who started at King Arthur in 1992 as vice president of finance.

New Belgium Brewing Co.

Ms. Jordan says employee ownership has also helped boost engagement. Employees own about 32% of New Belgium through a stock-ownership plan, and the company practices open-book management, hosting monthly meetings where it walks employees through the company's financial statements.

Paducah Bank & Trust Co.

Senior management at the five-branch bank considers internal development a way to keep the best and the brightest around so they don't migrate to other banks or careers. It's also a good way to instill an ownership mentality among employees -- who own 23% of Paducah through a stock-ownership plan -- and teach them how a bank functions….Paducah also tries to maintain a familylike ownership culture by holding a short "Owners' Meeting" every morning in each department at each location. At the meetings, they discuss bank events and how to improve customer service, and celebrate employee birthdays and other milestones.

Balance Forward Recordkeeping

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Fri, 14 Nov 2008 14:53:00 +0000

Balance forward 401(k) plans: someone's gotta win, someone's gotta lose discusses the concept of balance forward recordkeeping and how some participants will benefit at the expense of others under a balance forward arrangement:

Balance forward is an industry term given to those defined contribution plans, e.g., 401(k) and profit sharing, in which participants' accounts are valued monthly, quarterly or annually. And after all the accounting takes place, it can be 4-8 weeks after the valuation date before participants receive statements. Most defined contribution plans, however, value participants' accounts daily right after the markets close.

And I hadn't given much thought to them lately thinking they were an anachronism. But the topic came up a recent conference of pension people that I attended, and there's more of them out there than I thought. My brief skimming of one of the Form 5500 databases indicated that there are at least 70,000 401(k) plan not counting the profit sharing plans that allow participants to self-direct their accounts.

So what's the problem you might ask. My visual metaphor up top is the answer. Like chess, balance forward retirement plans are a zero-sum game. That's what the economists and game theorists call a situation or interaction in which one participant's gain results from another participant's loss. And in the context of the recent huge swings in the stock market, balance forward plans are a bigger zero-sum game than ever before.

Here why? Assume a participant in a balance forward plan with a $50,000 account balance as of December 31. The participant receives a distribution for $50,000 on March 1. But between January 1 and the distribution date, the plan has lost 20%. Thus, the plan - which is to say - all the remaining participants eat the $10,000 loss.

But now let's assume that same participant receives the same $50,000 distribution. But instead of the plan suffering a market loss, it increased by 20%. Now all the remaining participants in the plan share in the $10,000 gain.

Since ESOPs are generally balance forward plans, there is a significant time period between the valuation date and the participant statement date, between the valuation date and the distribution date, and between valuation dates. Interim Valuations can help with the latter item, but the delay between the valuation date and the participant statement and distribution dates remains.

Including the Holding Period of a Predecessor Company for a Section 1042 Sale

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Tue, 11 Nov 2008 07:00:00 +0000

In July we discussed Private Letter Ruling (PLR) 200827018, which made it easier to qualify for a IRC Section 1042 Tax Deferred Sale of Stock to an ESOP by including the holding period of a Predecessor LLC. IRS Rules That Holding Period in Shares of Company Stock Being Sold to an ESOP Should Include Holding Period in Company's Predecessor provides another perspective on the PLR:

In this private letter ruling, the shareholders owned all of the membership interests in a limited liability company (LLC). The LLC created a new wholly owned corporation (NewCo) and merged NewCo into the LLC in a tax-free reorganization under Code Section 368(a)(1)(F), with NewCo being the surviving entity. The shareholders received shares of stock in NewCo in the same proportions as their membership interests in the LLC, and the basis of their stock in NewCo was the same as the basis of their membership interests in the LLC. The shareholders desired to sell 30% of their shares in NewCo to an ESOP sponsored by NewCo and to defer capital gains tax on the sale under Code Section 1042.

The IRS ruled that, since the tax basis of the shareholders' stock was the same as their basis in their LLC membership interests prior to the reorganization, the shareholders' holding period in the NewCo stock would include the holding period in their LLC membership interests for purposes of Code Section 1042. Thus, the shareholders met the requisite holding period (described in (b) above) needed in order to take advantage of the tax deferral provisions of Code Section 1042.

Las Vegas ESOP Conference

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Mon, 10 Nov 2008 18:48:00 +0000

2008 Election and ESOPs discusses how ESOP Association President J. Michael Keeling will be discussing the election and what it may mean for ESOPs and employee ownership at this week's Las Vegas Conference & Trade Show.

Yes, I will be in Las Vegas this week for the conference. You may have noticed that I have spent some time discussing Corporate Governance in recent weeks. I will be the moderator for Board of Directors: Composition & Roles on Thursday from 1:45 pm to 2:35 pm. Here is the session description:

This session explores the composition and roles of the Board of Directors for an ESOP company. Topics to be addressed include board composition, selection, development, evaluation, and compensation.

If you are going to be in Vegas for the conference, I hope to get the chance to meet you. I will have my BlackBerry with me, so feel free to send an email to ajuckett@esopinsourcing.com if you would like to setup a time and place to meet. Otherwise, you can just stop by during my session or find me (you should know what I look like from the picture on the right sidebar).

The Great Game of Business and Open-Book Management

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Mon, 10 Nov 2008 15:12:00 +0000

The Great Game of Business is the title of a book and an open-book management system (that is the focus of the book). The Great Game of Business on Getting Employees to Hold Each Other Accountable discusses 4 steps to implementing The Great Game:

Focus on the Critical Number – Find a Common Goal
Act on the Right Drivers – Create Line-of-Sight
Follow the Action & Keep Score – Hold Each Other Accountable
Provide a Stake in the Outcome – Reward & Recognize

It focuses on Follow the Action & Keep Score – Hold Each Other Accountable and includes an audio clip from the President of The Great Game of Business:

In terms of employee engagement, this means creating an environment where managers don't hold employees accountable but, rather, where employees hold themselves accountable, based on the common pursuit of a "critical number," which can vary depending on the business.

Many successful ESOP companies utilize an open-book management (OBM) system. The post notes that fourteen of the 15 2008 Top Small Workplaces have successfully implemented OBM, "helping them maintain steady revenue growth to the tune of 23%, on average, over the last two years."

Corporate Indemnification Limited to Amount Covered by Fiduciary Insurance?

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Fri, 07 Nov 2008 12:30:00 +0000

We have been discussing Corporate Governance and the responsibilities of the Board of Directors. A recent court case raises the question of whether corporate indemnification for ESOP companies is limited to any amount covered by fiduciary insurance.

Johnson v. Couturier, 2007 WL 3151802 (E.D. Cal. October 26, 2007) was recently discussed in What's New in Employee Benefits:

Johnson v. Couturier, 2007 WL 3151802 (E.D. Cal. October 26, 2007), addressed the extent to which the prudence standard requires ESOP trustees to oversee corporate management, as well as when corporate managers become ERISA fiduciaries. The informally reported opinion is extremely sketchy as to the facts, but it appears that one of the counts was brought against an individual (Couturier), a corporate director and erstwhile ESOP trustee, for violating ERISA by approving his own allegedly excessive compensation from the company. The court observed that, as a fiduciary of the ESOP and director and officer of the corporation, Couturier was aware of his own compensation package, and stated: "If, in fact, Couturier's executive compensation package was excessive, the fiduciaries of the ESOP, including Couturier, had an obligation in administering the ESOP assets, to exercise the ESOP's rights as a shareholder, remove the existing directors and elect new directors." Id. at *5. Couturier might not face liability alone, however, as the court also held that board members who had the right to appoint fiduciaries such as Couturier were themselves ERISA fiduciaries. Id. (citing Batchelor v. Oak Hill Med. Group, 870 F.2d 1446 (9th Cir. 1989), in turn citing 29 C.F.R. § 2509.75-8 (Q&A D- 4)). See also Fenwick v. Merrill Lynch & Co., Inc., 2007 WL 2727436 (D. Conn. Sep. 19, 2007) (declining to dismiss complaint alleging that fiduciaries breached their fiduciary responsibilities by not investigating and, if necessary, bringing suit against an employer that failed to fund an ostensible "top hat" plan that the complaint alleged should have been funded).

Johnson v. Couturier, 2008 WL 4443085 (E.D. Cal. Sept. 26, 2008) found that the ESOP-owned company may not advance the costs of defense as provided under corporate officer indemnification agreements because the participants had shown a "substantial likelihood of success" and would effectively lack recourse against the fiduciaries as provided under ERISA Section 410(b), 29 U.S.C. Section 1110(b) - Exculpatory provisions; insurance:

(a) Except as provided in sections 1105(b)(1) and 1105(d) of this title, any provision in an agreement or instrument which purports to relieve a fiduciary from responsibility or liability for any responsibility, obligation, or duty under this part shall be void as against public policy.

(b) Nothing in this subpart ^[1] shall preclude—

a plan from purchasing insurance for its fiduciaries or for itself to cover liability or losses occurring by reason of the act or omission of a fiduciary, if such insurance permits recourse by the insurer against the fiduciary in the case of a breach of a fiduciary obligation by such fiduciary;
a fiduciary from purchasing insurance to cover liability under this part from and for his own account; or
an employer or an employee organization from purchasing insurance to cover potential liability of one or more persons who serve in a fiduciary capacity with regard to an employee benefit plan.

29 CFR 2509.75-4 - Interpretive bulletin relating to indemnification of fiduciaries provides additional guidance on the indemnificatoin of fiduciaries:

On June 4, 1975, the Department of Labor issued an interpretive bulletin, ERISA IB 75-4, announcing the Department's interpretation of section 410(a) of the Employee Retirement Income Security Act of 1974, insofar as that section relates to indemnification of fiduciaries. Section 410(a) states, in relevant part, that ``any provision in an agreement or instrument which purports to relieve a fiduciary from responsibility or liability for any responsibility, obligation, or duty under this part shall be void as against public policy.''

The Department of Labor interprets this section to permit indemnification agreements which do not relieve a fiduciary of responsibility or liability under part 4 of title I. Indemnification provisions which leave the fiduciary fully responsible and liable, but merely permit another party to satisfy any liability incurred by the fiduciary in the same manner as insurance purchased under section 410(b)(3), are therefore not void under section 410(a).

Examples of such indemnification provisions are:

Indemnification of a plan fiduciary by (a) an employer, any of whose employees are covered by the plan, or an affiliate (as defined in section 407(d)(7) of the Act) of such employer, or (b) an employee organization, any of whose members are covered by the plan; and
Indemnification by a plan fiduciary of the fiduciary's employees who actually perform the fiduciary services.

The Department of Labor interprets section 410(a) as rendering void any arrangement for indemnification of a fiduciary of an employee benefit plan by the plan. Such an arrangement would have the same result as an exculpatory clause, in that it would, in effect, relieve the fiduciary of responsibility and liability to the plan by abrogating the plan's right to recovery from the fiduciary for breaches of fiduciary obligations.

While indemnification arrangements do not contravene the provisions of section 410(a), parties entering into an indemnification agreement should consider whether the agreement complies with the other provisions of part 4 of title I of the Act and with other applicable laws. [40 FR 31599, July 28, 1975. Redesignated at 41 FR 1906, Jan. 13, 1976]

Court Bars ESOP-Owned Company from Advancing Defense Costs of Officers Accused of ERISA Fiduciary Breach notes that this case demonstrates that there may be practical limits to corporate indemnification when a company is ESOP-owned and that fiduciary insurance may be the only secure source of money to defend a suit:

The court reasoned that, as a practical matter, the assets of the ESOP would be wasted if the wholly owned company were allowed to expend its funds to defend this lawsuit. As the court explained: If Defendants are advanced their legal expenses and judgment is rendered against them, the Court finds it highly unlikely that the ESOP, and therefore the Plaintiffs, will ever be fully compensated for the depletion of funds from the [company]. The Court is well aware that the Defendants have used up fully $5 Million in insurance funds to defend this suit. The Court has no doubt that this litigation has the potential to deplete all or most of [the company's] remaining liquid assets. The prejudice to the Plaintiffs would be immense. The court also concluded that, even if the company's assets were not considered plan assets under ERISA, since the company was wholly owned by the ESOP, the ESOP had an equitable interest in the company's assets sufficient to support an injunction. ERISA § 410 has long been understood to permit indemnification of fiduciaries using corporate assets, including through the Department of Labor's guidance at 29 C.F.R. § 2509.75-4. Johnson illustrates, however, that there may be practical limits to corporate indemnification when the company at issue is wholly or substantially owned by an ESOP. In these circumstances, fiduciary insurance previously purchased with the defendant's or employer's funds may be the only secure source of money to defend the suit or cover any liability.

Board Member Job Description

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Wed, 05 Nov 2008 21:00:00 +0000

Let's continue our Corporate Governance discussion. We have recently discussed Responsibilities of the Board of Directors and More Responsibilities of the Board of Directors. Here is an example of a Board Member Job Description:

1. Regularly attends board meetings and important related meetings.

2. Makes serious commitment to participate actively in committee work.

3. Volunteers for and willingly accepts assignments and completes them thoroughly and on time.

4. Stays informed about committee matters, prepares themselves well for meetings, and reviews and comments on minutes and reports.

5. Gets to know other committee members and builds a collegial working relationship that contributes to consensus.

6. Is an active participant in the committee's annual evaluation and planning efforts.

Sample Job Descriptions for Members of Boards of Directors also contains job descriptions for Board Chair, Vice Chair, Committee Chair, Secretary, and Treasurer.

New Approaches to Spread Employee Ownership

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Tue, 04 Nov 2008 21:00:00 +0000

The Eternal Power of Entrepreneurship discusses some new approaches to spread employee ownership in academic settings:

Employee Ownership Teaching Module - In connection with Professor Larry Bennett from Syracuse University, we have developed and published a teaching module that can easily be incorporated into many different types of business and entrepreneurship classes and explains the basics of employee ownership in a range of business contexts.

Techniques of Equity Compensation Class – Internally developed by the Beyster Institute, this two unit elective course covers the range of techniques for creating employee ownership and investigates all the potential applications and financial, legal and technical consideration in a series of 10 class sessions. The course material includes ten sets of PowerPoint slides, course textbook and reading list recommendations, detailed course syllabus, final exam, teaching tips – essentially everything one might need in order to offer the course.

Beyster Scholar Grants – In order to facilitate the distribution of these materials, we have set up 5 Beyster Scholar Grants to be given out to professors who agree to use these materials (or similar materials of their own making) to incorporate employee ownership into their classes and track results and give us feedback on how they work.

Academic Case Studies – Working with two of the most respected case writers in the U. S., David Rosenthal from Miami University, Ohio and Anne Lawrence, California State University, San Jose, we have developed for publication two very interesting case studies highlighting the effects of employee ownership on business decision making processes.

The response was very positive. We have so far distributed materials to over 20 of the attendees from the Experiential Classroom and a couple of others who have shown interest from other sources and are in the process of selecting the Scholars for the 2008-2009 academic year.

The Case Studies should be published within the next couple of months and will be available through the normal channels for such things (which is to say, I can't tell you who is going to publish them, but an ivy covered "H" might not be too big a clue to one of the possibilities.

Academic Case Studies in Employee Ownership Will Soon be Available discusses the two academic case studies that will be available for use in colleges and universities.

Related Links:

Impact of Credit Problems on ESOP Companies

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Mon, 03 Nov 2008 20:46:00 +0000

November 3, 2008 Employee Ownership Update is online and discusses the following:

New NCEO Survey Shows Limited Impact of Credit Crunch on ESOP Company Borrowing Capacity
Beyster Institute and Rutgers Sponsors Research Fellowships on Employee Ownership
French Government Renews Push for Broader Employee Ownership
IRS Publishes New Maximum Benefit and Contribution Rules for 2009

The Update discusses the results of a NCEO credit survey that found that the recent credit problems have had a limited impact on the borrowing capacity of ESOP companies:

A new NCEO survey of 222 diverse ESOP companies shows that 75% have experienced no change in access to long-term credit and 79% have had no change in access to short-term credit. Only 1% said they could not get credit, and only about 11% said that credit of either variety was much harder to find. In comments, many of the respondents indicated they were not having problems because they had no current need for credit, either short- or long-term. Some of those who do need credit report that the cost has gone up, generally by one or two percentage points. We found no significant differences between S corporation and C corporation ESOPs, or 100% ESOPs versus non-100% ESOPs.

The survey also found that debt coverage ratios had no significant impact on the availability of credit. It also surveyed the future expected growth of ESOP companies:

Forty percent said they expected to grow, but at rates less than they had previously budgeted, while another 18% said the credit crunch would not affect their projections. Just 2% said they planned to do better, while 13% expect zero growth, 23% slower growth, and 4% said they were concerned about their viability. Few companies plan to change how their plans are operated in response to the crisis, but 38% have delayed or may delay raises, and 32% have delayed or may delay capital investments. Construction companies were somewhat more pessimistic, with a third expecting to shrink and 6% concerned about viability, but even this group showed surprising overall strength.

The Update also discusses the Employee Ownership Fellowship Program:

The Beyster Institute at the Rady School of Management and Rutgers University are sponsoring five research fellowships in employee ownership. They include a post-doctoral research fellowship, three fellowships to support graduate-school-level research fellowships, and one undergraduate fellowship. Two of the graduate fellowships require a stay at Rutgers. Grants range from $1,000 to $25,000.

Here is a link to additional information about the Beyster Post Doctoral Fellowship, Beyster Graduate Fellowship, Beyster Visiting Graduate Fellowship, Employee Ownership Graduate Research Fellowship, and Undergraduate Research Fellowship.

It also updates French President Nicolas Sarkozy's proposed employee ownership legislation and the 2009 Pension Plan Limits.

Employee Ownership, Open Communications, and ESOP Recognition Month

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Mon, 03 Nov 2008 17:00:00 +0000

Walsh Bishop Associates Inc., a 100% ESOP-owned Twin Cities architectural firm, discusses their commitment to employee ownership and open and honest communication:

As an employee-owned company, Walsh Bishop is responsible for providing open and honest communication. Communication includes clarifying our rights and roles as employee owners and answering questions about stock, value, and benefits, as well as discussing the attributes of ownership as part of an ESOP business. At Walsh Bishop, transparency of business operations has been provided for years. Our staff meetings regularly include financial, staffing and operations updates, with more understanding and importance as employee-owners.

As noted by Sid Scott, an ESOP advisor, "open communication is one of the best tools we can use at any time, good or bad. When we communicate openly, honestly and often, we build trust, and relationshps, work or personal, are built on trust….communication tips include telling the truth, giving as much information as possible, repeating it so that everyone understands, avoiding arguments, listening (maybe the most important), accepting all feelings - good or bad - and following up on questions."

Walsh Bishop - all of us - succeeds with this commitment to communication. Our project work and internal initiatives with goals of excellence in design, innovation, and sustainability, are enhanced. Open and honest communication is the fabric of our culture that has provided smooth transition to our employee-owned status today and ensures our future business success. Ask questions, seek answers. Be transparent.

They discuss how their ESOP Communications Committee celebrates Employee Ownership Month (EOM) by presenting ESOP Recognition Month:

The Walsh Bishop ESOP Committee is excited to present October ESOP Recognition Month! Our fellow Walsh Bishop owners will receive email every Monday, Wednesday and Friday in October that presents informative and fun facts about ESOPs and ownership culture. Throughout the month, we will also have a "Finance 101″ presentation, quizzes and other fun activities complete with prizes!

The Walsh Bishop ESOP Committee communicates and educates our fellow owners about our ESOP. We are the "face" of the ESOP that owners can come to with questions or concerns. We promote ownership, open communication, education, financial success, rewarding experiences and fun involvement.

They also discuss sharing a common vision and maintaining hard working and motivated employees.

ESOP-Owned CPA Firm Announces Merger/Using an ESOP to Acquire Companies

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Sat, 01 Nov 2008 14:20:00 +0000

In ESOP-Owned CPA Firms, Succession Planning for CPA Firms, we discussed some examples of ESOP-owned CPA firms. One of those firms, Burr Pilger Mayer (BPM), recently announced a merger with another CPA firm. The announcement also emphasized the importance of the ESOP to their company:

Last month BPM announced an employee profit sharing plan (ESOP), a first for a public accounting company of its size. An ESOP is a qualified retirement plan in which employees receive shares of the common stock of the company for which they work, thus offering them a vested interest in the organization's present and future success. BPM has been recognized as one of The Best Places to Work in the San Francisco Bay Area by the San Francisco Business Times. "The ESOP builds on this tradition and philosophy," said Beth Baldwin, Director of Human Resources. "It's terrific to be able to reward success."

Here are some recent posts about using an ESOP to acquire companies:

Retaining Employees

ajuckett@esopinsourcing.com (Employee Stock Ownership Plan (ESOP) Consultant) — Fri, 31 Oct 2008 13:22:00 +0000

We recently discussed employee retention in Adapting Your ESOP Plan Design for Generation Y. The Small Business section of the Wall Street Journal provides some tips on how to How to Retain Employees:

Offer a competitive benefits package that fits your employees' needs.
Provide some small perks.
Use contests and incentives to help keep workers motivated and feeling rewarded.
Conduct "stay" interviews.
Promote from within whenever possible.
Foster employee development.
Create open communication between employees and management.
Get managers involved.
Communicate your business's mission.
Offer financial rewards.
Make sure employees know what you expect of them.
Hire a human-resources professional.