ESOP Corporate Governance

Posted by Aaron Juckett, CPA, CPC, QPA, QKA on Tue, Nov 02, 2010
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What is corporate governance?

Corporate governance is how corporations manage the business affairs of the company to achieve their corporate and shareholder objectives. Legal guidance is provided by state law, the articles of incorporation, and the corporate bylaws.

Who are the primary stakeholders?

  • Shareholders – The shareholders are the owners of the company. The primary responsibility of shareholders is to elect the board of directors. Shares are voted by the third party shareholders and the ESOP Trustee (who represents the ESOP participants).

  • Board of Directors – The board of directors are responsible for corporate governance and delegate authority to officers/management. The board represents the shareholders, is the highest level of management in a company, and is responsible for governing the company. The board has a corporate fiduciary obligation under state law to the shareholders. See Duties of Care, Loyalty, and Obedience for more information. The primary responsibility of the board is growing shareholder value. Advising the CEO and succession planning are two other key responsibilities. For more discussions on the board's responsibilities, check out Responsibilities of the Board of Directors and More Responsibilities of the Board of Directors.

  • Officers/Management – The officers/management are appointed by the board and are responsible for the day-to-day operations of the company.

  • ESOP Participants – Generally the ESOP participants as shareholders are represented by the ESOP Trustee. In limited cases, such as a significant corporate event or if the ESOP has any Section 133 shares, the participants may have the right to have pass-through voting rights on all issues, including the election of the board.

What is an ERISA plan fiduciary?

A plan fiduciary is a person that exercises discretionary authority or control over the management of the plan or plan assets. The DOL recently issued a DOL Proposed Regulation that expands the definition of fiduciary to Include Appraisals And Fairness Opinions.

What are the primary duties of an ERISA fiduciary?

ERISA defines the four Primary Duties of an ERISA Fiduciary: the exclusive benefit rule, the prudent person standard, diversification, follow the plan documents.

What are some other corporate governance-related terms?

  • ESOP Plan Sponsor – The employer that establishes and maintains the ESOP.
  • ESOP Plan Administrator – The individual(s) with authority and discretion over the management of the plan. Unless another individual or entity (e.g. ESOP administrative committee) is specifically assigned, the plan sponsor is the legal plan administrator and decisions are made by the board of directors. The administrator(s) is an ERISA fiduciary.
  • ESOP Administrative Committee – The ESOP administrative committee is usually appointed by the board of directors and serves as the plan administrator.
  • ESOP Trustee - The ESOP assets, which primarily consist of the stock of the company, are required to be held in a trust and managed by a trustee. The trustee is the individual(s) with authority and discretion over the plan assets. The ESOP trustee(s) is an ERISA fiduciary. For many ESOPs, including many small, closely held companies, a member of management acts as the ESOP trustee.
  • Sole Benefit of Plan Participants – The trustee, as a plan fiduciary, is required to act in the sole interest of plan participants, maximizing the long-term value of the assets of the trust (the stock of the company).
  • Legal Shareholder – The ESOP trustee is the legal shareholder of the ESOP's shares.
  • Legal Voting Requirements – The ESOP trustee is legally required to pass-thru voting to the employees for major issues (e.g. liquidation, sale of all or substantially all the assets, recapitalization, merger)
  • Plan Document – The plan document specifies the voting rules. Unless provided by the plan document, the ESOP trustee is not required to pass-through other decisions such as voting for the board of directors, selling the stock, etc., and generally exercises the voting rights. The ESOP trustee will generally vote according to the direction of the ESOP administrative committee.

What is the relationship between the ESOP Trustee, Board of Directors, and the ESOP Committee?

The ESOP trustee is selected by the board of directors or management (which is selected by the board of directors). The ESOP trustee votes the ESOP shares for the election of the board of directors. The ESOP administrative committee is usually selected by the board of directors and generally consists of members of management. This "circular" selection process often leaves the same people in charge of the company and the ESOP.

For more specifics on ESOP corporate governance, check out Board of Directors: Composition and Roles this Friday.

Topics: ESOP Corporate Governance, ESOP, employee stock ownership plan

Aaron Juckett, CPA, CPC, QPA, QKA
Written by Aaron Juckett, CPA, CPC, QPA, QKA

Aaron is President and Founder of ESOP Partners and provides implementation, administration, and consulting services to hundreds of companies. He is a member of The ESOP Association (TEA) and the National Center for Employee Ownership (NCEO).

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