Presented by:
Employee Ownership Conference
1
The Valuation Report Checklist: What Should ESOP Trustees Be Looking For?
John Johnson, CFA John E. Johnson, LLC 209.369.1451 [email protected]
Daniel N. Janich Greensfelder, Hemker & Gale, P.C. 312.345.5003 [email protected]
Introduction
2
• Basic Purpose of Annual ESOP Valuation Report
• Fiduciary Duties of ESOP Trustee • DOL Guidance: Regulations, Agreements &
Case Law • Issues for Trustees to Address When
Examining Annual Valuation Reports • Review Fundamentals Addressed in Annual
ESOP Valuation Reports
• ERISA requires ESOPs to pay no more than “adequate consideration” when investing in employer securities.
• This means ESOP trustees and fiduciaries must determine in good faith the fair market value of employer securities.
• IRS & DOL guidance for this determination.
Basic Purpose of ESOP Valuation Report
3
• ERISA: Trustee Fiduciary Duties • Sole interest of participants -Loyalty • Prudence • Determine annual value of ESOP shares • Hire independent valuation advisor
• DOL Fiduciary Process Agreement • Best Practices Checklist for Selection of
Valuation Advisors and Review of Valuation Reports
Should a Trustee Be Concerned About What’s In A Valuation Report?
4
• Fiduciary Duties • Personal Liability – ESOP Litigation over
Valuation Issues • Best Practices Checklist from DOL
Fiduciary Process Agreement • Document Trustee Review Process
Thoroughly
ESOP Trustee Must Scrutinize Annual Valuation Report
5
• Qualifications and Independence • What are your professional credentials? • Can you provide professional references? • Length of experience conducting ESOP
appraisals? • Number of annual ESOP valuations
performed previously? • What is internal process to review work? • Any other work performed for company?
ESOP Trustee Questions for Appraiser
6
• Any other business or personal connections with the company?
• Confirm engagement with ESOP Trustee • Confirm Valuation Report to be addressed
to ESOP trustee • Check appraiser’s previous involvement in
litigation involving his valuations.
ESOP Trustee Questions for Appraiser
7
• Guide to ESOP trustee in reviewing and assessing the valuation report.
• Helpful to ESOP valuation practitioners in conducting proper analysis for valuation report
• Helpful to ESOP administrators, attorneys and accountants to assess soundness of ESOP valuation report.
Multiple Purpose of Annual Valuation Report Checklist
8
• What Issues Must the Appraiser Address in Conducting Due Diligence and in Preparation of ESOP Valuation Report?
Contents of Annual ESOP Valuation Reports
9
Identification of the Client
10
• The bottom line is that the appraiser works for the trustee
• The company can pay the bill
Basic Engagement Information
11
• Correct company • Correct appraisal date • Correct basis of value – minority or
MAJORITY • Correct definition of value • Correct purpose – transaction or annual
update
Basic Company Information
12
• History • Industry • Services • Competition • Management
Economic and Industry Information
13
• Does the report include information about the economy?
• Does the economic information relate back to the subject company? If not, then what value is it?
• Is the industry information correct? It may be included in the market and competition discussion.
Financial Statement Analysis
14
• First – Is it correct? • Second – Is it relevant? • Third – Do you understand it?
If you answered No to any of these questions, contact your appraiser.
Selection and Application of Approaches
15
• The Approaches – Cost, Market and Income
• Do you understand the explanations in the report?
• Do you think they apply?
• Should the value of your company be based on the value of its assets?
Cost Approach
16
• Does it make sense to compare your company to private companies?
• Should your company be compared to public companies?
• Is the math correct? • Are the adjustments for lack of
marketability, control or lack of control correct?
If it is unclear talk to your appraiser.
Market Approach
17
• Are the income sources clearly defined? • Are you able to understand the descriptions
in the report? • Do you understand and agree with any
income/expense adjustments? • Do you understand the discount rate and/or
capitalization rate?
Income Approach
18
• Were projections used? Who made them? Do they reflect the company’s prospects?
• Is the level of earnings consistent with the level of value – minority or MAJORITY?
• Are the adjustments for lack of marketability, control or lack of control correct?
Income Approach Continued
19
• Is the reason for any discount clear? • Was the level of the discount impacted by
the ESOP? • Are the source of data for the discount
disclosed?
Discount for Lack of Marketability
20
• Is the reason for the application clear? • Should it have been applied at all? • Are the sources of the data disclosed?
Control Premium or Minority Discount
21
• Are the indicators on a consistent basis – minority or MAJORITY
• Does the overall result make sense given the indicators from the various approaches?
• Does it pass your smell test?
Valuation Reconciliation
22
• Qualifications of the appraiser • Statement of independence • Assumptions and Limiting Conditions • Is the report free of typographical and math
errors? • Are the methods and approaches
consistent with prior appraisals?
Other Items
23
Questions
24
John Johnson, CFA John E. Johnson, LLC 209.369.1451 [email protected]
Daniel N. Janich Greensfelder, Hemker & Gale, P.C. 312.345.5003 [email protected]