Interim Valuation Dates and COVID-19’s Impact on 2019 Calendar Year-End ESOP Valuations
COVID-19’s Grave Effect
COVID-19 has brought the U.S. economy to a screeching halt, with many businesses needing to close their doors to act in compliance with the local, state, and federal government responses to the pandemic. As a result, several of our clients have reached out about sustaining their ESOP during the crisis. In particular, they’ve asked: Can our December 31, 2019 ESOP valuation be revisited to take into account the effect of COVID-19 on the value of the company.
The answer is no. An ESOP trustee could not account for the impact of COVID-19 on the company specifically and the U.S. economy generally for December 31, 2019 valuations because such effect was not known or predictable as of the end of 2019. This presents a critical sustainability issue for many ESOPs if the 2020 plan distributions are based year-end 2019 valuations that do not take the effects of COVID-19 into account.
Fortunately, an ESOP plan administrator (which is typically the company sponsoring the ESOP) may have the option of setting an interim valuation date to determine the value of an ESOP’s assets for 2020 plan distributions.
Interim Valuation Date and Valuation
By setting an interim valuation date, a plan administrator can cause an ESOP trustee to determine the value of the company stock and other assets held by the ESOP as of a date other than the last day of the plan year. For instance, the plan administrator of an ESOP whose 2019 anniversary date was December 31, 2019 can select an interim valuation date of March 31, 2020. The ESOP’s trustee(s), in turn, would have to determine the value of the ESOP’s assets as of March 31, 2020, and such valuation must take into account the effects of the COVID-19 pandemic on the shares company stock and other assets held by the ESOP. The value determined by the trustee(s) would be used to fix the amount of any 2020 distributions or diversifications paid out after the interim valuation date.
If the plan document does not currently permit the plan administrator to establish an interim valuation date, it will need to be amended before doing so.
Fiduciary and Valuation Considerations
It is important to remember that in selecting the interim valuation date, the plan administrator is taking action as a plan fiduciary under the Employee Retirement Income Security Act of 1974. As such, a plan administrator’s decision to use an interim valuation date must be made for the exclusive purpose of “providing benefits to participants and their beneficiaries,” and “defraying reasonable expenses of administering the [ESOP].” The decision to utilize an interim valuation date cannot be based merely on the desire to manage an ESOP company’s cash flow. Instead, a plan administrator must decide to use an interim valuation date with the best interests of all participants and beneficiaries in mind.
The medium-term and the long-term effects of COVID-19 on the US economy and specific business is unknown and likely not to be well understood as of any interim valuation date during the first six months of this year. There will be valuation dislocations for plan sponsors and/or ESOP participants under almost any process in these uncertain times. The core principle here should be common sense and fairness for all, with documented processes and judgments.
Obviously, the cost of an interim valuation is also a consideration. If you are contemplating an interim valuation date, whether March 31 or some later date, we recommend that you reach out to your trustee and your independent appraiser to determine the potential additional cost, recognizing that two valuations conducted simultaneously and close in date should be less than two general stand-alone valuations.
Plan administrators of ESOPs whose companies have been materially affected by the COVID-19 pandemic should reach out to us to assess the use of an interim valuation date. Our team can walk through the potential risks and process of using an interim valuation date and share ideas for ensuring fairness to participants and beneficiaries who were scheduled to receive payouts in 2020 (e.g., permitting participants to elect delayed distributions and extending diversification periods beyond 2020). For more information, contact Edward C. Renenger or the Stevens & Lee attorney with whom you typically work.
This News Alert has been prepared for informational purposes only and should not be construed as, and does not constitute, legal advice on any specific matter. For more information, please see the disclaimer.
 29 U.S.C. §1104(a)(1).