Selling a company with a leveraged ESOP

[Guest tfurlong]

If a company with a leveraged ESOP is sold, I'm assuming the ESOP has to pay back the balance of the note using the proceeeds from the sale. If the ESOP pays back the company, and the company is sold, what happens to the cash? The company is currently owned 56% by one individual and 46% by the ESOP.

[QDROphile]

The ESOP is a share holder the ESOP gets what a shareholder gets in the disposition of the company. Your description sounds like the ESOP gets cash for its shares. Whether or not the ESOP has to use the sale proceeds immediately to prepay the loan depends on the plan and loan documents. The ESOP has to honor its obligations.

[Alf]

If the note is paid off with cash, it is just the coversion of one balance sheet asset (note receivable) to another (cash). The valuation of the company must have already taken the value of the asset into account and the fact that is changes from a receivable to cash doesn't matter at all.

Lots of deals don't pan out great, so I have to ask - Is the acquisition consideration going to cover the note?

[Kirk Maldonado]

If the loan and other documents don't say who is to pay off the rest of the debt, the safest approach is to hire an independent fiduciary on behalf of the ESOP.

[Guest tfurlong]

Thank you all for the replies. The sales proceeds will be in the form of cash, and the ESOP will be selling its shares of stock (46% of the total stock sold). The cash proceeds going to the ESOP exceed the note balance, so the ESOP has no problem paying off the note. So, the ESOP uses a portion of the cash proceeds from the sale to pay off its note, and the remainder should be distributed to the participants. However, if the cash used to pay off the note goes back to the company (the plan sponsor), does that mean that once the plan sponser gets it, does 46% of that cash have to be distributed back to the ESOP? In other words, what happens to the cash (from the note payoff) after the plan sponser receives it?

[Alf]

The loan repayment stays at the corporate (plan sponsor) level until: distributed as a dividend or the corporation liquidates.

[Kirk Maldonado]

tfurlong:

The question isn't whether the ESOP has enough to pay off the loan; the question is whether the ESOP is obligated or even permitted to pay off the loan. You need to look at the documentation. The ESOP paying off a loan that it is not obligated to repay is a prohibited transaction.

My recommendation is that you get an independent fiduciary involved, or at least hire counsel that is experienced in dealing with leveraged ESOPs.

[RLL]

tfurlong ---

Even if the ESOP is obligated to repay the loan balance, only the cash sale proceeds attributable to the loan suspense account shares may be used for such repayment. All sale proceeds attributable to shares which had been allocated to participants' accounts must be allocated to such accounts and cannot be used to repay the ESOP loan.

Any amounts paid to the company by the ESOP (to repay the loan balance) will belong to the buyer (assuming that the buyer is acquiring the company and not the assets and business of the company), unless the acquisition documents provide for some other treatment.