Valuation experts can take their appraisal theory and apply it to the world of ESOPs in four primary ways, according to Jeffrey Tarbell (Houlihan Lokey), who spoke at a recent ASA webinar, ESOP Valuations: A Look at Advanced Issues.
- ESOP feasibility studies: This occurs when your existing or new client has the idea of a potential ESOP transaction and needs help with the financial modeling and financial advice to understand whether the transaction is feasible for his or her company. Of course, this will involve legal and other advisors. “But it’s a key opportunity for appraisers as well,” says Tarbell. “And this is generally the first touch point with an ESOP-related company.”
- Fairness opinions: This is the transaction-related analysis relevant to the establishment of a new ESOP at a sponsor company. “ESOP fiduciaries are required by law not to pay more than adequate consideration for the shares, and they typically request a fairness opinion to demonstrate that they’ve met that burden,” he says.
- Annual update: An ESOP is required to have the sponsor company’s stock appraised at least annually. “This provides a recurring, somewhat predictable and steady stream of assignments for the appraiser,” he points out.
- Litigation support: “This is timely today due to the increased level of regulatory oversight by the DOL, among others,” Tarbell says. In a litigation engagement, valuation experts have the opportunity to use appraisal-related theory and knowledge gained in ESOP-related situations.
Conflict? Is there a perceived conflict of interest for a single valuation firm to do the feasibility study, the fairness opinion, and the annual updates? While having one firm do all three tasks has regularly been done, Tarbell sees a trend in separating the feasibility study from the fairness opinion and annual updates.
Having a valuation firm advise a company with a feasibility analysis and then “switch over” to the other side and render a fairness opinion to the ESOP trustee can raise a red flag. “That’s problematic, and I don’t think anyone would deny that,” he says. “And some of the cases that the DOL is going after fall under that circumstance.” So regardless of whether a true conflict of interest exists, there may be a perception of one.
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