“Not as bad as expected.” “Could have been worse.” That’s the gist of initial comments we’ve heard over the long-awaited proposed regs the Department of Labor issued in draft form last week. There will be a 75-day comment period beginning on the date they are published in the Federal Register, which was scheduled for today, January 22. But due to the new administration’s regulatory freeze, the actual publishing date remains to be seen.
Long conflict: The valuation community has been concerned over these rules, designed to clarify how to establish fair market value for shares of a closely held business an ESOP will acquire, i.e., “adequate consideration.” The DOL won a number of court cases alleging inflated values, then lost a few, with the valuation profession continuing to criticize the agency for not following valuation standards. This has been an issue of much contention and litigation over the years, and the worry was that the DOL would propose rules that are not consistent with accepted valuation theory and practice.
The proposed regs state that a “valuation report must be prepared in accordance with generally accepted professional standards.” Of course, this goes for both sides—the valuation experts on the ESOP side and the experts for the DOL who are reviewing the valuation.
The DOL issued a second proposal for a narrower safe harbor class exemption that would govern ESOP initial stock purchase transactions that meet certain criteria.
No bright-line rules: The 128-page document that includes the proposed regs is not a treatise or textbook on how to determine fair market value of closely held stock an ESOP acquires from the sponsoring company. But it does go into some issues the DOL is concerned about, especially the validity of cash-flow projections and the use of a control premium. Some analysts do not use a premium and instead reflect control in the cash flows if possible and appropriate.
The ESOP Association, which had drafted model regulations, was less than enthusiastic over the proposals. “While the Department’s proposals today are an important first step toward accomplishing the ESOP community’s longstanding request for specific rules governing ESOP transactions, unfortunately, both proposals will require substantial modification if they are to further Congress’s goal of expanding employee ownership through ESOPs,” the organization said in a press release.
Much will be written and discussed on these proposed regs, and they will certainly be a topic of discussion during BVR’s Power Panel webinar on February 12, which will include ESOP valuation experts Jeff Tarbell (Houlihan Lokey) and Ken Pia (Marcum).
Will it survive? Some industry observers believe there is a possibility that the new administration will withdraw and possibly rewrite the proposal. Indeed, all new regulations have been put on hold under the new administration’s regulatory freeze. Others are optimistic that it will survive, pointing out that the nominee for Secretary of Labor, Lori Chavez-DeRemer, is supportive of ESOPs.