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Unitizing Investments in Employer Stock


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Are there any hidden problems when investments in employer stock are done on a unitized basis?

The third party administrator is pushing for it, so that it can use daily valuation for all of the investment vehicles available under the plan.

While I am not overly enamored with unitizing investments in employer stock, it seems to be particularly appropriate where the stock is thinly traded, so that purchases and sales could not be always effected as soon as possible after the plan receives the investment directions without having a significant impact on the stock price.

It does seem that it is vital that the plan clearly communicate to employees that:

1. the value of their units will directly correspond to the value of the stock (e.g., because of the cash that will also be

held in the fund); and

2. sales and purchases will not be made at the trading price on the day on which their investment directions are given to the plan.

Does anybody have any thoughts on this topic that they would like to share?

Kirk Maldonado

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I disagree on unitization being more appropriate with thinnly traded stock. The problem there is that if the market cannot absorb the stock the day following the day the net sale instructions are given, the selling pressure may cause the price to tumble, further harming those who remained in the fund. This can also cause liquidity problems (i.e. if the sales don't occur, you're short of cash for the subsequent day's instructions...). I've also been involved in litigation where some enterprising factory workers pooled their accounts, bought stock on Friday (and got that closing price), sold on Monday (when the plan was buying from the Friday transactions, and the price was rising), and then bought again on Tuesday. The resulting whipsaw effect on the price was substantial, and the service provider (who insisted on unitization) coughed up $140,000 to make the participant's whole.

Also, be wary of not having sufficient cash for transactions, especially in a declining market for the stock. I was involved in a situation where a retired senior exec, who had a substantial amount in company stock sold at the peak - about $1.2 million. The fund had only $50,000 in cash and, of course, the price dropped. Still in litigation on that one.

To make unitization work, prep work is essential - check average daily volume, price movements, institutional holdings, plan holdings, participant holdings (average, and high), and then put in place brakes that are communicated to the employees so that if there is insufficient cash on hand, they get the next day's price, not todays....

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MoJo:

While I agree with your concerns, it seems that they many of them relate to the fact that the stock is thinly traded, rather than the fact that the investments are unitzed.

I can't effect the volume of trading in the stock; only whether or not the investment is unitized.

I am looking to specific problems caused by unitizing the investment, rather than the general problems caused by investing in thinly traded stock.

Also, it seems that a lot of your concerns can be minimized by alerting the participant that, because the stock is so thinly traded, transactions may not occur immediately, so that there may be fluctuations in the price.

Kirk Maldonado

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My concerns don't all deal with thinnly traded stock - most deal with management of the cash portion of the unitized fund. The "whipsaw" is a thinnly traded problem. Most employers want tosee as small a cash portion as possible, while most recordkeepers/trustees want to see it as large as possible.

The problem is, what happen when you run out of cash? Trades are delayed, and pricing is fubar. Communication to the employees is a must, but if you need to impose a trading stop (delay?) then why unitize? Why not simply use share accounting?

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There are recordkeepers who will administer the plan in a daily environment without unitizing stock. Most, are the large houses, such as Merrill Lynch, Fidelity, TRowe Price etc.

I have seen it done both ways. There are definately more administrative issues with unitization. Annually, we had to answer alot of auditor questions with regards to the formula used to unitize on a daily basis. There were problems with the purchasing and determining the amount to purchase up front. The audit and filing of the 11K becomes a little more time consuming.

We also had a lot of participant confusion regardless of education. Most participants do not understand what it means to unitize the stock and why it is not the same as the Market.

Plan sponsors should limit trading in the unitized fund, and should also require notification when trades are occuring in the fund.

I recommend if you unitize, to have a separate handout made up with addresses the unitization in plan english so that participants receive it with enrollment kits.

I also recommend, possibly exploring recordkeepers who do not require unitization in order to process the plan in a daily environment.

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  • 2 weeks later...

We've dealt w/ both unitized and nonunitized employer stock funds in 401ks. I am in favor of unitization -- particularly for a thinly traded stock. I agree w/ Mojo, ersf and others that the sponsor and/or trustee need to make a special effort to educate participants as to what unitization means and the plan committee should set some realisitic guidelines as to how much cash to carry and how/purchases sales occur. Unitization reduces the problems of very small and very large transactions. Although the risks of insider trading, front running, and market blockage exist in both environments, I think they are reduced in a unitized account. In daily plans w/ a nonunitized fund, you also run into the problem of the broker actually coming through on next day settlement when the trade is big and the stock is thin. We've had brokers quickly excuse themselves from the arrangement.

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