Calvin Ball and ESOP Governance

Calvin and Hobbes has long been a favorite treat of mine. (I don't have permission to embed a likeness but you can click here for a peek.) This long-running cartoon strip ceased in 1995, ten years after the creation of a mischievous six-year old and his furry feline friend. The brainchild of cartoonist Bill Watterson, Calvin entertained and moralized at the same time, charming a global audience of adults and children alike. In a rare interview, Washington Post reporter Michael Cavna (March 10, 2015) learned from the somewhat reclusive Mr. Watterson that "fantasies are drawn more realistically than reality, since that says a lot about what's going on in Calvin's head." In "America's Most Profound Comic Strip" (Wall Street Journal, March 6, 2015), senior editor at the Weekly Standard, Christopher Caldwell, adds that "...Calvin keeps running into evidence that the world isn't built to his ... specifications" and that his "favorite sport is 'Calvinball,' in which he is entitled to make up the rules as he goes along."

I thought of Calvin and his world views yesterday as I listened to ERISA attorney Ted Becker talk about Employee Stock Ownership Plan ("ESOP") governance. As the lead speaker for an NCEO-sponsored webinar entitled "What the DOL v. GreatBanc Trust Co. ESOP Court Settlement Means for ESOPs," this Drinker Biddle & Reath LLP partner gave some nuts and bolts recommendations that are concrete and therefore radically different from the actions of ERISA trustee "Calvins" who comfort themselves that sloppy work is okay.

Mr. Becker and co-speaker Loren Rodgers (Executive Director of the National Center for Employee Ownership) explained that changing regulatory emphasis on employer security valuation led to what is known as the Fiduciary Process Agreement. Described as a "playbook," the U.S. Department of Labor ("DOL") and "GreatBanc Trust Company agreed that it could be used for future transactions by an ESOP fiduciary in which the ESOP purchases or sells employer securities that are not publicly traded." Engaging an independent and qualified valuation advisor and then adequately reviewing (and understanding) the resulting information used to carry out the valuation are two of the recommendations for trustees.

In the official source file ("Agreement Concerning Fiduciary Engagements And Process Requirements For Employer Stock Transactions" dated June 2, 2014), readers are reminded of the importance of process for multiple tasks. Among other things, this roadmap details what should be documented by the ESOP Trustee when choosing a valuation advisor, to include:

  • "The reason for selecting the particular valuation advisor;
  • A list of all the valuation advisors that the Trustee considered;
  • A discussion of the qualifications of the valuation advisors that the Trustee considered;
  • A list of references checked and discussion of the references' views on the vauation advisors;
  • Whether the valuation advisor was the subject of prior criminal or civil proceedings; and
  • A full explanation of the bases for concluding that the Trustee's selection of the valuation advisor was prudent."

This guiding document likewise lays out suggestions about process regarding the fiduciary review of any potential transaction such as buying or selling employer securities that are not publicly traded, the reliance on the valuation report and much more. As independent fiduciary Mitch Shames writes in "Once Again, Strong Process and Substance Matters" (September 11, 2014), "... DOL requires that the fiduciary be an active participant in an ESOP transaction...far from a passive role."

Having been trained as an appraiser and someone who has (a) rendered opinions of value (b) reviewed others' valuations (c) critiqued valuation models (d) taught valuation courses and (e) served as an expert witness, I know firsthand that inappropriate assumptions, bad data and short cuts are likely to create headaches. Quality of valuations that are used for statutory and commercial reasons can and do vary - sometimes materially so. A "quickie" appraisal that ignores fundamentals about an industry let's say or proceeds from grossly inflated management projections are two potential vulnerabilities. The danger is that an inadequate valuation report potentially creates a domino effect of unwanted outcomes because it is used as a driver to make subsequent decisions. For example, ESOP trustees with multiple suitors may select the "wrong" buyer or approve a recapitalization that would not otherwise occur had a better valuation assessment been used. Valuation numbers are frequently inputs as opposed to the end goal.

Big numbers are involved so it's no surprise that ESOP governance is garnering close scrutiny. According to "The Current State of ESOPs," 2012 ESOP assets exceeded $1.059 trillion with 13.824 million participants in 6,908 plans.

On a separate note, I am speaking at the annual conference of the National Center for Employee Ownership, to be held this year in Denver from April 20, 2015 to April 23, 2015. Entitled "Effective Boards of Directors: Obligations, Recruitment and Compensation," my panel will "cover the standards and responsibilities of directors in the board room, how committees function, building a sustainable board structure and standards and surveys for establishing and measuring compensation to reward the performance of directors." Attorney Kevin G. Long (Shareholder with Chang Ruthenberg & Long PC) and Ms. Nancy Wiefek (Research Project Director with NCEO) will co-present.

ERISA Litigation and Enforcement: Role of Independent Fiduciary and Financial Advisor Best Practices

Mark your calendars to attend an educational webinar entitled "ERISA Litigation and Enforcement: The Role of the Independent Fiduciary and Best Practices for Financial Advisors." Sponsored by fi360 and eligible for continuing education credit, this April 8, 2015 event will take place between 3:00 pm and 4:00 pm EST and address important and timely issues for plan sponsors and their advisors. Details are provided below.

Description: ERISA litigation and enforcement increasingly involves allegations of conflicts of interest and imprudent decision-making on the part of advisors, consultants, banks and asset managers. In several recent matters, regulators and judges have made it clear that the use of an independent fiduciary would be interpreted as a reflection of procedural prudence and the absence of an independent fiduciary could hasten a decision of fiduciary breach.

Learning objectives:

  • Learn about relevant cases and regulatory actions that involve third parties such as financial advisors;
  • Hear a discussion about how advisors, consultants, banks and asset managers can work effectively to demonstrate procedural prudence; and
  • Better understand what state trust law and ERISA oversight activity means for advisors and consultants who work with non-ERISA trusts.

Speakers:

  • Thomas Clark, Esquire (Counsel - The Wagner Law Group)
  • Susan Mangiero, PhD, AIFA, CFA, FRM, PPC (Managing Director - Fiduciary Leadership, LLC)
  • Mitchell Shames, Esquire (Partner - Harrison Fiduciary Group) 

Please join as your schedule permits. Click here to register.