March 5, 2020

Something Old, Something New and Something Borrowed in Latest DOL Process Agreement

Holland & Knight Alert
Elizabeth Seaver Perdue

On the same day that the U.S. Department of Labor (DOL) filed a lawsuit against the Farmers National Bank of Danville (FNB) and the Weddle Brothers Construction Company Inc. Employee Stock Ownership Plan, the parties agreed to settle the lawsuit and FNB agreed to abide by a process agreement (the FNB Agreement), the sixth such agreement that the DOL has entered into. It sets forth the standards that FNB must follow when it provides services as a fiduciary or trustee to any employee stock ownership plan (ESOP).

Many of the provisions in the FNB Agreement line up with the provisions found in both the first process agreement that the DOL entered into in 2014 between the DOL and GreatBanc Trust Company (the GBTC Agreement), and the process agreement that immediately preceded the FNB Agreement, the 2018 agreement between the DOL and Lubbock National Bank (the Lubbock Agreement). However, in between the GBTC Agreement and the Lubbock Agreement, the DOL entered into three other process agreements which differed, in some cases materially, from both the GBTC Agreement and the Lubbock Agreement.

Some of the terms in the FNB Agreement are identical to the terms found in process agreements entered into between the DOL and ESOP trustees other than GBTC and Lubbock National Bank. Importantly, however, there are some provisions in the FNB Agreement, particularly those related to control and indemnification, that are not present in any of the earlier process agreements.

Holland & Knight has described each of the five earlier DOL process agreements and how they differ from each other in previous client alerts:

Visit Holland & Knight's website for an updated in-depth chart summarizing the terms and highlighting the similarities and differences among the five prior agreements and the new FNB Agreement.

New Provisions in the FNB Agreement

Prior Valuations

The first new provision found in the FNB Agreement relates to the analysis needed when a prior valuation has been performed. Although two of the earlier process agreements required a fiduciary to explain any material differences between a transaction valuation and the most recent prior valuation of an ESOP sponsor performed within 24 months by any valuation firm for any reason, the FNB Agreement goes a step further. It requires that, if a valuation was obtained exclusively by a seller in connection with a proposed transaction within the preceding 12 months, FNB must, at a minimum, obtain information on when the valuation was performed and who performed it. At quick glance, this new provision adds a minimal additional burden upon the fiduciary, as the FNB Agreement only requires the fiduciary to add a question or two to its diligence list.

Timing and Documentation Requirements

A second new provision found in the FNB Agreement requires the fiduciary to ensure that it has been allowed sufficient time to fully, completely, and accurately review and analyze a contemplated transaction prior to the closing date for the transaction.

Another new provision requires FNB to document in writing how it made its determination to close a transaction, including the internal processes it normally uses and whether these processes were followed for the transaction. Although not stated in the FNB Agreement, it would likely also be necessary for the trustee to document the basis for its determination that it had sufficient time to complete its diligence and analysis prior to approving the transaction.

Neither of these provisions break new ground with respect to ESOP fiduciary conduct, although these new provisions suggest that the DOL may want more detailed documentation of the how the fiduciary determinations were made in any given transaction.


Two of the prior process agreements discussed control as a factor in determining transaction price, but the control requirements in the FNB Agreement are completely different. In a case where an ESOP intends to buy a controlling interest in the plan sponsor, FNB can approve payment for a controlling interest only if, in fact, the ESOP obtains the right to control the company whose stock it acquires. While this basic concept is uncontroversial, the FNB Agreement enumerates a number of "unencumbered" elements of control that the DOL apparently believes the ESOP should acquire if a control premium is to be paid. These include several rights that controlling shareholders would ordinarily possess, including:

  • the unencumbered ability to vote shares
  • the ability to appoint and remove the majority of the members of the company's board
  • the ability to liquidate, dissolve, sell or recapitalize the company;
  • decision-making authority over mergers, acquisitions and sales of company stock
  • the ability to modify or amend the company's articles of incorporation

However, the FNB Agreement also includes a number of "elements of control" that are not ordinarily within the scope of shareholders' rights but rather are elements that typically reside with a company's board of directors or senior management. These include:

  • the ability to appoint and remove company officers
  • the ability to set management compensation and perquisites
  • the ability to acquire, lease or liquidate the company's assets
  • authority to decide debt levels of the company
  • the ability to decide whether to sell or acquire treasury shares and whether to declare and pay cash and/or stock dividends
  • the ability to authorize or veto major capital expenditures
  • the ability to determine whether to call warrants or other significant company obligations

In the event that an ESOP does not acquire the degree of control that is commensurate with the ownership interest it is acquiring, or if restrictions are placed on the ESOP's ability to exercise its right to control the company, FNB must ensure that the price paid reflects the lack of control and possibly include a lack of control discount.


Finally, a new section related to indemnification of ESOP fiduciaries is found in the FNB Agreement. The Agreement provides that FNB will not enter into any agreement providing that it will be indemnified by an ESOP or ESOP-owned company for any damage, expense, liability or loss resulting from a fiduciary breach clam, prohibited transaction or other violation of the Employee Retirement Income Security Act of 1974 (ERISA). This provision applies regardless of whether the company is wholly or partially owned by the ESOP. This section further provides that FNB will not agree to indemnification provisions that result in advancement of defense fees and expenses unless an independent third party determines that there has been no breach of fiduciary duty. Even where such determination has been made, there must be a prudent arrangement that guarantees advanced fees and expenses will be refunded if a fiduciary breach is determined by a court. These provisions apply whenever there has been a "measurable allegation of a violation" by a participant, plan fiduciary or the DOL.

Finally, any "appreciable settlement" of a claim of fiduciary breach, defined as "more than a nuisance settlement," must be accompanied by a full refund of any advanced fees or expenses.

Potential Impact of the FNB Agreement

The DOL's ongoing program of bypassing established processes for the development of regulatory guidance (which would require public notice and an opportunity for comment by the regulated community), and instead seeking to drive the behavior of ESOP fiduciaries by publicizing privately negotiated "process agreements," continues to generate unclear, unexpected and often troubling results. While some in the ESOP community have viewed the various process agreements as representing "best practices" for ESOP fiduciaries, the DOL, in practice, often seems to view the process agreements as statements of legal requirements. Even if viewed as nothing more than practice guides, differences among the six agreements make it difficult for the community to understand what may actually constitute "best practices" in the eyes of the DOL. Moreover, as noted herein, some of the provisions found in the FNB Agreement introduce novel concepts of questionable validity and go beyond what has typically been seen in the ESOP and other transaction contexts before.

For example, the analysis to be applied in determining whether a control premium is appropriate in a stock purchase transaction instructs the trustee to make its determination by reference to numerous "rights," the majority of which, under ordinary concepts of corporate governance as well the corporation laws of most states, do not actually inure to corporate shareholders. Is the DOL saying that if the ESOP trustee does not have direct authority over matters normally reserved to the corporation's board and senior management, then the ESOP cannot pay a control premium for the shares it acquires? Or that the ESOP trustee, as opposed to some other named fiduciary of the plan, must control the exercise of the ESOP's rights as shareholder? Or, perhaps, something else?

Similarly, the "Indemnification" provisions of the FNB Agreement raise as many questions as they answer. When the FNB Agreement restricts any indemnification provision that would cover the ESOP fiduciary against its breaches of ERISA duties, regardless of the ESOP's percentage ownership, this is a departure from existing case law and DOL guidance. It appears that the DOL is not taking the position, as it has in a number of enforcement claims, that indemnification agreements for ESOP fiduciaries are void in all instances, even if those agreements preclude the indemnification of fiduciaries found to have breached their duties under ERISA. (If such agreements were invariably void, then the remaining provisions of the FNB Agreement dealing with expense advances and claim settlements would be unnecessary.) Through the FNB Agreement, however, the DOL now appears to be extending the more-restrictive standard applied to 100 percent ESOP-owned companies (i.e., per the weight of current case law, no corporate indemnification of breaching fiduciaries permitted) and applying it to all companies in which there is any ESOP ownership, no matter how small the percentage. It is interesting to note that, under the DOL's own regulatory pronouncements, this restrictive standard does not apply to a company that has no ESOP ownership; in a non-ESOP situation, the corporation is allowed to fully indemnify a fiduciary against its breaches. This new provision of the FNB Agreement dictates a position not previously articulated by the DOL or any court, and appears to be preclude an arrangement by which a company partially owned by an ESOP could insulate the ESOP from bearing the cost of the indemnification.

More problematic from a practical perspective, however, is the position staked out in the FNB Agreement that no advancement of fees and expenses to an indemnified fiduciary can be made unless an "entirely independent" third party determines that there has been no breach of fiduciary duty. Because such a determination in a matter relating to an ESOP transaction would ordinarily present extensive legal and factual issues, and require input from one or more experts, the cost of such an exercise, which would presumably be borne directly or indirectly by the ESOP, could be substantial, approaching the cost of the expenses sought to be advanced. Moreover, because the costs of defending ESOP litigation or a DOL audit are typically incurred over an extended period of time, it is not unusual for indemnified parties to seek advances for legal fees and expenses on a periodic basis extending over a number of years. Presumably, the ESOP would need a updated, independent assessment of the case against the ESOP fiduciary, at potentially significant additional cost, each time a fee or expense advance is requested. The fact that fee advances cannot be provided without the signoff of an independent third party raises a significant question as to whether that party is taking on fiduciary status under ERISA. If so, the pool of experts competent and willing to make the decisions called for in the FNB Agreement may turn out to be exceedingly small. Finally, one must ask whether, in light of the requirement that all fee advances must be secured by a "prudent arrangement" guaranteeing the return of advanced funds if it is determined that the indemnified party was responsible for an ERISA violation, is there any real need for ESOPs and their sponsors to also incur the time and expense required for a separate determination of the fiduciary's potential ERISA liability before the advance is provided?


Although some aspects of the DOL's earlier process agreements may have provided useful perspectives to the regulated community regarding transactional diligence and documentation procedures for ESOP transactions, the FNB Agreement adds little in terms of rational, constructive guidance. The enumeration of control-related factors set forth in the FNB Agreement is largely divorced from ordinary notions of corporate governance and shareholder rights, and the indemnification provisions create, out of whole cloth, an expensive, unnecessary and likely unworkable framework for the implementation of legally permissible indemnification agreements.

Information contained in this alert is for the general education and knowledge of our readers. It is not designed to be, and should not be used as, the sole source of information when analyzing and resolving a legal problem. Moreover, the laws of each jurisdiction are different and are constantly changing. If you have specific questions regarding a particular fact situation, we urge you to consult competent legal counsel.

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