Learn about a recent M&A case involving a Hawaii-based architectural engineering firm and the Department of Labor’s allegations of negligence in monitoring the ESOP trustee’s actions. Understand the importance of using an independent ESOP trustee to mitigate liability risks. Read more on our M&A legal blog.
M&A Stories
June 17, 2021
Introduction:
In M&A transactions where a company is sold to its employees through an ESOP, owners face potential liability if the ESOP overpays for the company. To mitigate this risk, an independent ESOP trustee is often used. However, complete elimination of liability is not guaranteed.
The Deal:
In a case involving a Hawaii-based architectural engineering firm, the founders received a $15 million purchase offer in 2011. With additional considerations, they believed the offer could be worth up to $30 million. A valuation firm assessed the company at $31.2 to $46.8 million, but the deal fell through.
In 2012, the founders explored an ESOP transaction and engaged another valuation firm. This firm assessed the fair market value of the company at $37.1 million to $41.6 million based partly on the information provided by the company.
The ESOP lawyer recommended a Santa Monica lawyer as the ESOP trustee, and negotiations resulted in a sale of the company’s stock to the ESOP for $40 million.
The Lawsuit:
Following the deal, the Department of Labor (DOL) initiated an investigation, alleging that the ESOP overpaid for the stock and that the founders, acting as sole directors, breached their fiduciary duty in monitoring the ESOP trustee’s actions.
The Court’s Decision:
The founders filed a motion for summary judgment to dismiss the DOL’s claims. However, the court denied the motion, stating that there were questions of fact regarding whether the founders knew or should have known about the ESOP trustee’s potential reliance on faulty data for the valuation.
This case is referred to as Stewart v. Saakvitne, Civil No. 18-00155 SOM-WRP, United States District Court, D. Hawaii, (March 12, 2021).
Comment
Using an independent ESOP trustee is advisable, but founders who also serve as directors must still prudently monitor the trustee’s actions during the acquisition process. Ensuring the trustee conducts an independent and thorough assessment of the purchase price is essential to mitigate liability risks.
By John McCauley: I help people manage M&A legal risks.
Email: jmccauley@mk-law.com
Profile: http://www.martindale.com/John-B-McCauley/176725-lawyer.htm
Telephone: 714 273-6291
Check out my book: Buying Assets of a Small Business: Problems Taken From Recent Legal Battles
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