Will Stewart

E: wstewart@pcecompanies.com

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“An ESOP trustee is going to fire me!”

“An ESOP trustee will vote me off the board!”

“An ESOP trustee is planning to take over my company!"

Dramatic misconceptions of ESOP trustees and their role are common during the process of structuring an employee stock ownership plan (ESOP). The truth is, it takes an experienced group of professionals to close an ESOP transaction the right way, and an ESOP trustee is a vital member of that team. Choosing a qualified ESOP trustee must begin with trust, and trust begins with understanding. With that in mind, please review the information below to learn more about ESOP trustees—and about why (and how) your company should choose wisely.

The Role of an ESOP Trustee

The function and responsibilities of an ESOP trustee are mostly unknown to those outside the ESOP community. Generally, an ESOP transaction has four primary participants:

  1. An investment bank, which acts as financial advisor to the selling shareholder(s) and the company
  2. Corporate and/or the seller's counsel, which also act as company advisors
  3. The lender group, which provides funding
  4. The ESOP trustee (and team), who acts as the buyer on behalf of the ESOP participants (i.e., the company employees)

The ESOP trustee serves a critical function: to protect the ESOP participants and improve the ESOP for both the company and the seller(s). As a fiduciary acting on behalf of the ESOP's participants during a transaction, the trustee specifically attests to the reasonableness of a company's share price and works with company management and the investment banker to structure the deal.

Throughout the year, the ESOP trustee remains involved through monitoring the board of directors, making sure an annual valuation is performed, and ensuring the ESOP is providing for its participants. The Employee Retirement Income Security Act of 1974 (ERISA) relies on trustees to be objective third parties representing the best interests of all participants.

The ESOP trustee also acts as an insurance policy for the seller and the company against any US Department of Labor (DOL) claims or plaintiff lawsuits.1 In overseeing the ESOP, the trustee must ensure all rules are followed and filings are submitted. Because trustees are supervised by the DOL, they must be prepared to justify decisions made on behalf of the ESOP participants, potentially in a legal forum; this lends significant weight to the trustee's role. Any claims brought against the ESOP will initially be handled by the trustee in coordination with the company. The trustee bears most of the liability in instances where awards are made to plan participants as part of a DOL action. This is why trustees perform thorough due diligence before closing an ESOP transaction.

The Trustee Selection Process

The company's board of directors selects the trustee after a comprehensive vetting process that includes an evaluation of each candidate's experience and any relevant, specialized expertise. Companies may choose one of two conventional options when engaging an ESOP trustee: an internal trustee or an external trustee.

Internal ESOP Trustee

Internal trustees are the sellers themselves or another company employee. The primary concern with an internal trustee is the conflict of interest inherent in the dual role of negotiating on behalf of one's fellow ESOP participants while also being beholden to the selling shareholder(s) in some fashion. Because the company's interests must be independent of the ESOP's interests, guidelines for processes and decision-making must be established.

External ESOP Trustee

An external or independent trustee is entirely unrelated to the company and shareholders and is in the profession of serving as an ESOP fiduciary. The potential candidate should be thoroughly assessed through a series of recommended steps, from holding an interview to checking references to verifying membership in industry groups such as the ESOP Association or the National Center for Employee Ownership (NCEO).

Finally, in case of litigation by a shareholder or the company, the ESOP trustee should carry insurance. The best option is a non-wasting policy that is sufficient to provide coverage for liability under ERISA in connection with the transaction.

Choosing an External Trustee: Institutional vs. Individual

When a company and its shareholders select an external trustee, the choice further bifurcates into an institutional trustee and an individual trustee.

Institutional trustees are full-service firms or divisions of companies solely dedicated to the ESOP trustee role and process. To help make decisions that best represent the plan's participants, an institutional trustee leverages its employee base of valuation specialists, attorneys, retirement plan experts, and other specialists. For these reasons, institutional trustees are often selected for larger plans or more complex transactions.

For smaller companies that do not require the broader services offered by an institutional trustee, an individual trustee is a cost-effective alternative. Individual trustees are fully qualified yet less expensive; they typically outsource to outside advisors any complex components they are not equipped to handle. Companies should be sure to choose an individual trustee who has the right experience and comes with good recommendations.

Meet the ESOP Trustee Team

To fulfill the duties of a plan fiduciary, the ESOP trustee will engage a financial advisor, who will validate the company's total and per-share value, and legal counsel, who will address ERISA-related matters. An ERISA attorney assists in the creation of the ESOP plan and other ESOP-specific items while also advising on the stock purchase agreement and other documents specific to the buy/sell transaction.

The ESOP trustee has full discretion in selecting advisors, and it is essential to understand how and why a trustee chooses each one.

The Trustee's Role in Due Diligence

All ESOP transactions should involve a due diligence process to ensure the ESOP team has all the information required to make an educated decision regarding the sale. Every additional party to the deal will want to perform their own due diligence, but the most thorough investigation and analysis should be completed by the ESOP trustee.

Charged with the plan's ERISA compliance and with ensuring the ESOP is paying no more than FMV for the purchased stock, the trustee must document every step of the transaction process and verify the validity of all documents. A detailed review of the financials and a valuation report, compiled either internally or through an outside advisor, helps the trustee ensure that the ESOP is not overpaying for the company’s stock.

Trustees can choose from a variety of approaches to perform the valuation. One of the most common is the income approach, which includes the discounted cash flow and/or the capitalization methods. Another is the market approach, which uses comparable companies and comparable transactions to establish valuation multiples.

Process Agreements

A process agreement between the DOL and a specific ESOP trustee governs how the trustee will operate. Not all trustees have entered into such an agreement, and each trustee's agreement is different.

Process agreements create a set of guidelines, responsibilities, and procedures that the ESOP trustee will likely follow. They usually cover areas such as the selection and oversight of a valuation advisor, the quality of financial statements required, documentation of the valuation analysis, reliance on the valuation report, the preservation of documents, indemnification, and control of the ESOP. These agreements are in place to maintain the ESOP’s integrity and to make certain the trustee acts in the best interest of the plan participants.2 Some elements of a process agreement are described below.

The trustee should address, in writing, any items and conclusions related to determining FMV, including valuation considerations, the strength of operations, and transaction terms and conditions. Some items in particular that will be thoroughly evaluated are company projections, any discount rates used, any adjustments to historical financials, debt servicing capabilities, and any other risks that may have a significant effect on the price that the ESOP pays.

Furthermore, the ESOP trustee must retain all of the following for six years: the names and contact information of all decision-makers, including addresses, emails, and phone numbers; the votes cast in the transaction; transaction notes and documentation required by the agreement; and all communication with any parties in contact with the ESOP trustee.3

Process agreements provide great insight into how ESOP trustees operate, but remember that these agreements involve guidance rather than mandatory guidelines for trustees to follow.

The Ongoing Role of the ESOP Trustee

The road to creating an ESOP involves many different steps and parties, but only a few are needed for the entire journey. Once established, an ESOP must satisfy certain DOL and ERISA law requirements on an ongoing basis. It is also imperative that participants in the ESOP know the changing value of their shares. The trustee collaborates with a valuation firm annually to derive a value for the stock contained within the ESOP. The ESOP trustee is liable for any overvalued or undervalued share price claims that may be brought against the ESOP. The ESOP trust (Governed by the Trustee) remains the legal shareholder of all shares held in the plan. This includes voting to select independent Company board members and managing the trust's assets. The annual distribution of shares, as well as the purchase of shares from shareholders who retire from the company, are also the trustee's responsibility.

Engage Trusted Professionals

Many factors should go into the selection of an ESOP trustee and team, as they are a vital part of the ESOP process. Being able to trust and negotiate with the trustee will help the ESOP survive and will allow the company to continue thriving under ESOP ownership.

PCE Investment Bankers is a leading, full-service investment bank that advises on and implements ESOP structures, including assisting with all phases of financing. We would be happy to discuss how a partial or full sale to an ESOP could benefit your company. Having worked with dozens of ESOP trustees, we would be glad to discuss the selection process and assist you in selecting your ESOP transaction team.

Please contact us today for more information on ESOPs and how PCE Investment Bankers can assist you in the ESOP planning process. Or visit our ESOP Planning Library to find additional resources that can help guide you through the process.



1 US Department of Labor - Fiduciary Responsibilities

2 Process Agreements

3 Case5:12-cv-01648-R-DTB

Will Stewart


Will Stewart, Shareholder

Investment Banking


Orlando Office

407-621-2100 (main)

407-621-2124 (direct)

407-621-2199 (fax)

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Our team can answer your questions.
Will Stewart


Will Stewart

Investment Banking | ESOP

Orlando Office

407-621-2124 (direct)


407-621-2124 (direct)

407-621-2199 (fax)