EP20 - Interview with Miguel Paredes - former DOL supervisor now Trustee Los Angeles CA

Thank you for joining us today. I'm the ESOP guy and let's continue on this journey to an ESOP. So if you're tuning in for the first time, this podcast is a resource for those that are thinking they might want to consider an ESOP as a strategy for their business. Maybe it's a growth strategy, maybe it's succession or even an exit plan for their, for their, for the owners of the business. So if you haven't um listened to the podcast before and you have an interest in it, go to journey to an ESOP.com and you'll find all the podcast episodes. Today, I have the, the privilege, the esteem privilege of interviewing Miguel Perrede with Prudent fiduciary Services. And some in our world of ESOPs, Miguel has a very interesting background. He lives and works out of Los Angeles, California, but his organization provides fiduciary advisory services. Really with a focus on ESOP trustee services throughout the United States, Miguel's experience is extensive in that he served at the supervisory level with the Department of Labor and with the Employee Benefit Security Administration. His team includes attorneys, CPAs, valuation experts, and some of the best folks in the business. So with that, Miguel, it's an honor to have you as part of our podcast today. Thank you, Philip. I really appreciate you having me on. Great. Thank you. So, Miguel, I first want to ask you about your background because it's not every day that you find uh professionals in our industry that have worked on both sides, the Department of Labor and as trustees. Can you speak a little bit about, about the, how you made that decision to move from the Department of Labor to founding your current professional service firm for, for doing ESOP work? Yeah, absolutely. So as you mentioned, uh my previous experience with with the US Department of Labor Employee Benefit Security Administration. This is the agency that is responsible for enforcing Title. One of the Employee Retirement Income Security Act. Essentially the agency responsible for overseeing employee benefit plans, 4k plans, pension plans, health plans, and of course part of that ESOPs. So I joined the Department of Labor in 2005. Prior to that, I was working in the private sector as a corporate auditor. I have a business background and audit experience. I joined the Department of Labor and in their Los Angeles regional office initially as an investigator, they got promoted to senior investigator and then supervisor investigator. And really I found myself focusing on ESOP enforcement so through training at the department and leveraging my business and audit experience, I really started focusing on on ESOP enforcement and eventually I was Managing a team of 10 investigators and was responsible at that regional office to ensuring that the ESOP, the ESOP enforcement program was being executed according to the agency's goals and objectives for that program. Very proud of my time at the Department of Labor. I was there for 12 years, certainly learned a lot. It was. Uh, a real key to, uh, helping for, for my career and uh we work with a lot of great people there. Um. And so in terms of how I find myself to in the ESOP world as a trustee, you know, as you can imagine during the 12 years I spent at the Department of Labor and focusing on ESOP enforcement, I saw a lot of different ESOPs, we looked at the formation of new ESOPs, the ongoing administration of ESOPs. And the focus of our inquiry is always the ESOP fiduciary. So we look at company fiduciaries, ESOP trustees, and try to determine whether the ESOP fiduciaries in the marketplace are fulfilling their fiduciary obligations under the federal law that we were enforcing. So through those enforcement efforts, you know, I certainly saw a number of good ESOP programs, but we did see some issues. We see we saw some, you know, but some, some bad actors and, and some, some missteps and some, some fiduciaries that were not. Uh, implementing best practices that were not fulfilling their fiduciary obligations in the way that they should, um, in their role as a fiduciary, so. Um, I took, you know, after about 12 years, I, there's through the enforcement work and some of the outreach work that I would do, I was also fortunate enough to represent the department at different employee benefit organizations, there's an ESOP organization, and I would go out to speak to the employee benefit organizations about Either fiduciary best practices, Department of Labor Enforcement, and, and specifically, you know, within the ESOP context as well, and so through the interactions that I had with the with the ESOP community and in the enforcement work that I was doing. I noticed that there seemed to be a need for good solid independent trustees in the marketplace, and quite frankly, I saw, I saw a business opportunity. I realized that I could take what I've learned over the 12 years at the department and, and the expertise that I developed related to what what it means and what it takes to be a good fiduciary. And um instead of investigating companies or investigating other fiduciaries, I could be a professional fiduciary myself, be that that ESOP trustee, for example, in the ESOP space, and work together with companies and help establish successful ESOPs from the very beginning and help. With the ongoing care and administration of ESOPs and and be the trustee myself and it wasn't an easy decision. Again, I really enjoyed my time at the department. I was very proud of my time and and and enjoyed a successful career there. But uh I really felt that this was a tremendous opportunity and so I took the leap and uh established my practice and The rest is history. I really feel like thankfully my unique background has resonated in the ESOP space and we've, you know, and now we're certainly doing a lot of work in helping ensure that ESOPs are formed in the right way and that they are being administered the way they should be and again hopefully bringing. Um, our, our knowledge and experience to bear and executing that trustee and what we think. No, I think that's, I think that's such a valuable. That's why it's so unique. And again, I want just to be such a cool thing to have you on the podcast with that experience. You know, a lot of the people that are listening to this podcast, some of them are really just checking out ESOPs for the first time and When we talk about the Department of Labor because it comes up in all kinds of conversations at the very front end and all throughout, and then as you, as you mentioned, after the ESOPs created. Can you explain for those people the, the role that the Department of Labor plays in the process of putting an ESOP together and the ongoing involvement that they have um after the transaction? Sure, Philip, um, the, the Department of Labor isn't really involved in in um the establishment of the ESOPs, certainly the Department of Labor Employee Bene Security Administration agency that I mentioned and that I worked for. is responsible for the federal oversight of the of the employee benefit plan, so they, you know, the ESOPs like other employee benefit plans are regulated by the Department of Labor and actually the IRS as well. Um, so, so their role is what an ESOP is in place and you know, they help ensure that the ESOPs in the marketplace. are compliant with the federal regulations and again that agency I worked for was specifically focused on Title One of the federal law, the Employee Retirement Income Security Act. So those are the fiduciary provisions of that law. So really the focus of that enforcement was looking at those individuals that are responsible for caring for the the ESOP and its participants. And ensuring that those that are overseeing the employee benefit plan, the ESOP are doing so in the right way are are adhering to the plan documents or making good prudent decisions that they understand what what is required of them as a fiduciary, they understand what they need to do to to to have that successful ESOP and compliant ESOP. And uh that when they are fulfilling their responsibilities, they're doing so always with an eye towards uh uh the ESOP participants' best interests, so they're not. Looking out for their own best interests. They're not looking out for example plant sponsors' best interests. It's always as an ESOP fiduciary as an ESOP trustee, you always need to look out for the best interests of the ESOPs participants and beneficiaries. So ultimately you're you're representing your ESOP. So, the department's role is to review and investigate ESOPs. They launch an investigation of an ESOP for a variety of reasons, whether it's um part of their uh their enforcement program. ESOPs have been a priority. For the Department of Labor and Employee Benefit Security Administration agency. For a long time actually, I think for at least 20 years ESP ESOPs have been a program priority and so as part of that program, they'll open up a number of ESOP employees every year, but also through maybe a participant complaint, uh maybe a referral from another agency about a uh. An issue that they may have seen in a particular ESOP. The agency also does the specific targeting based on the reporting that's required by employee benefit plans. Every employee benefit plan needs to file a Form 5500, so there's some targeting based on certain metrics that the agency uses, um, and so they'll they'll open an inquiry on the ESOP and if there was an ESOP transaction. Within, you know, uh, the, the statute of limitations, they'll look at that. They'll look at the ongoing administration adherence with the plan documents, um, you know, the payment of benefits, etc. So, so that's the role really more it's more oversight and oversight versus, yeah, review and oversight at the end of the day. Yeah, and so I think when you look at that role that they play, and this is, I really love this about your practice because you have both sides, you've experienced both sides of the transaction. Um, from a, from a DOL perspective, what would you say is the ideal process of putting an ESOP deal together? It's really the first part of the question. And then also what, how would you describe to folks that are not experienced with ESOPs, the DOL process agreement? Sure, um, that's a good, that's a good question. First of all, I'm, you know, certainly, um, As a as a practicing trustee, I think the process agreement is very valuable. The process agreement has been now more than than one agreement, and these are these are as a result of the Department of Labor's enforcement efforts and the the the process agreement is an agreement between the Department of Labor and particular um Truste in the marketplace, and this is an agreement that was put into place in order to resolve a specific complaint and and and enforcement action. The process agreements overall I think are very valuable in that it really has helped. With the transparency in terms of specifically what the Department of Labor is looking for from a trustee in in the formation of new ESOPs and an ESOP transaction. Prior to these process agreements, the department had to propose regulations that went back to the late 80s that had some general guidance. About about fiduciary possibility related to um an EOP transaction, general guidance about, you know what what the fair market value, what does that consideration mean, what is fair market value mean because at the end of the day just to take a step back, an EO transaction is a transaction involving a An employee benefit plan and a party of interest and so that is per se a prohibited transaction, but there is an exception to that pursuant to the federal law which says, you know, hey we you can engage in this transaction and ESOP can purchase shares from a related party shares of the employer's stock so long as it's done at a fair price and for adequate consideration and so. Uh, but, but these proposed regulations were, um, um, They didn't really go into what what in detail what a trustee needs to do in terms of a robust process to ensure that the ESOP is well represented and is paying no more than that fair price. And so these process agreements, they, they go into great detail in terms of the Department of Labor's expectations and really an outline for trustee best practices. In the transaction, so you know I'll just go through really quickly the process agreement focuses on whether the ESO trustee properly investigated the independent valuation firm's qualifications. First of all, are they, is that valuation firm truly independent. Uh, and, and are they, are they qualified to value the business in a particular transaction, the trustees also and that would be like the qualifications would be like, do they have or what valuation qualifications are you looking for? Oh, that's a great question. Yeah, so it would be, first of all, that that evaluation firm are they properly trained? What type of training have they received, of course, what type of certifications do they have? Do they, you know, do they have valuation experience? Have they valued businesses in a particular industry? Hopefully it's the industry that the subject company conducts business in. What types of resources does that valuation firm have? Um, you know, do they do a lot of ESOP valuation work, or is the practice mostly valuing estates and divorce proceedings, for example, that you know, it's important to have a valuation firm that that is valued businesses for business purposes such as ESOP formations. Um, and so, for example, we have a very extensive questionnaire where we ask all about those questions and the experience, as I said, the training certification so that we, you know, we look at sample valuation reports, uh, check references. And ensure that the valuation firms that we work with are highly qualified. So for example, we have vetted about 45 different valuation firms across the country and and you know some of the evaluation firms that wanted to work with us is quite frankly didn't didn't meet our standards. Out of the 45, we probably worked with about 25 different valuation firms and we've now further whittled it down to about I'd say about uh. 10 to 15 that are highly qualified and that we've had really positive experience in a transaction where they've delivered at a high level. So the qualifications are important also whether or not that valuation firm is truly independent, has that evaluation firm done work previously for the company that Would would bring that independence and potentially into question so they they have to be highly qualified in an independent party as the ESOP transactions are are really need to be true arm's length transactions. That's why a plan sponsor that's thinking about forming an ESOP, they need to go out and find. An independent trustee and that trustee will then hire that independent evaluation firm and council so that you have a true onsite transaction. Um, so once you, you find that you've got you've been able to identify a qualified valuation firm. Uh, pursuant to the process agreement and just, you know, common sense, trustee needs to ensure that the trustee and the valuation firm receive good information, complete accurate information, financial information, other information to to value the company and the employer securities that are being sold to the ESOP, right? So you know, ensuring that they've got. A recent financial statement that those financial statements are accurate, where possible, hopefully you can get audited financial statements. If they're not audited financial statements, the trustee needs to understand and document why why they're still able to rely on the financial information because ultimately, you know, the, the assessment that a trustee and evaluation for make to the value of the business is only as good as the information that they have so that they that they can analyze. So that's where the companies are smaller in the size. Typically don't have those. And, and you got, as a trustee got to get comfortable with that, you know, the support documents of the, of the numbers as well. And I'm sure the evaluation firm plays a role in getting you comfortable with it, but ultimately, you're, you're the one that has to sign off on it. Yeah, that's, that's exactly right. I mean, that the evaluation firm, they, they perform the in-depth analysis, but the trustee at the end of the day needs to make sure that they're heavily involved and that they understand the analysis that they've that they've reviewed the analysis that you've actually read the evaluation report, understand it, have questioned it, and, and are comfortable with all the different valuation. Approaches, the different assumptions, the different adjustments to make sure that that it's a sound analysis using evaluation best practices and it's ultimately that it's prudent to be able to rely on that report when they are considering the offer to sell the shares and in that case, whether or not to to go ahead and purchase the shares on behalf of the ESOP. You know, and of course with price, prices is is the fair price, etc. So, you know, any transactions can involve a negotiation and the trustee needs to be well informed in terms of the value of the business so that they can negotiate effectively and in an informed way and so without getting too often the details in the process agreement. You know, at the end of the day, it, it's a very detailed and really outlines a robust process the trustee needs to go through to understand the financial information being provided, the any financial projections from management. That's also very important, understanding the reasonableness of those projections, um, and, um, really. Understanding the the evaluation analysis and also documenting the robust process. That's a very important point that I would like to make, you know, at the end of the day, if you're as a trustee working really hard to understand the business and but you don't have a good record of that. If you're not doing yourself any favors, you really need to document, uh, you know, every decision point why you hired the independent evaluation firm, why they're qualified, uh, why you're able to rely on the financial information, um, your analysis of the valuation approaches, uh, really document in great detail everything that you've done as a trustee. Uh, to get comfortable with the with the business and get comfortable with the analysis, uh, so that you can have a good record showing that you represented the ESOP well and you're making a good informed decision and ultimately if you're if you're comfortable moving forward. the transaction as a trustee. Yeah, I think that's a, that's a great point. And when you look at this, I'm going to bring it to another, another topic, um, and this would be kind of our last topic we get to talk, talk about today. But the, um, in a recent blog post from the NCEO National Center of Employee Ownership on April 30th, the Department of Labor announced that it had reached an agreement with Wilmington Wilmington Trust to pay around $80 million to 21 employee stock ownership plans. And it also found $8 million going back to the government and reimbursing for legal costs and expenses. Um, so that's a lot of money. Um, and I, and I throw that out kind of at the end here just to say, you know, should that, should I give everybody kind of a pause and does it mean that ESOPs are too risky in terms of, of how that works and, and how would you, what would you comment on that case and just kind of in general, the, the looking, looking at ESOPs as risky types of transactions? Yeah, that's that's certainly a good question. I that was a significant settlement and and certainly many people in the stock marketplace took note of that. Um, the thing that that I could that I'd like to point out is that and kind of going back to the process agreement and the process agreement isn't isn't some silver bullet, but The biggest thing that it's done, I think it's that it's very clear, it's a clear message from the department, and they actually made a point to publicize this that when, when this when the the first process agreement came out. They made it clear to the ESOP community that hey, this is, this is an agreement with one particular trustee. However, we, we think it be in all trustees' interests to to understand the expectations as it relates to this agreement and to and to essentially adopt those what what has clearly been established as best practices. And so, again, I think that's very valuable, because at the end of the day, the department's goal isn't to come down and and punish any particular trustee or or any ESOP provider or company. It's ultimately to help ensure that the ESOPs are being formed and they're being run in the right way. And so anything that they could do to help promote widespread compliance is, is ultimately their goal. So something like the the process agreement, which really took Uh, the ESOP guidance to another level, um, I think it is, is very effective in that way. And so here you have a in this in this settlement that you just mentioned this recent settlement, you have an enforcement action related to ESOP transactions that occurred prior. To this process agreement and this improved communication being established and so clearly here the department felt that they had found trustee conduct in in their in in these 21 transactions that they reviewed um that that didn't meet the standards that they they felt a good fiduciary should meet so. The, the, you know, it's certainly um is a is a significant event that occurs, but what I focus on is the ESOP world that we're that we're in today, post-process agreement with that additional transparency, things are being done in a very different way today, and, and that's kind of what I focus on is, you know, this is this is uh improved. Understanding between the department and the and the regulated community, the ESOP community, and um and I think also hopefully in improving an improved relationship between those the regulator and the regulated regulated ESOP industry. So that's really what I focus on is this is this is prior to that increased guidance improved guidance. And the way that things are being done today is very different and and that's and that's what I think any business owner should think about is there are a lot of, there are very many people in the ESOP industry that are working really hard to understand what the department expects of ESOP providers. They are really acting in good faith and really just wanna wanna. Uh, promote ESOPs and implement ESOPs because at the end of the day when there's the ESOP is implemented in the right way, there's no, there's no better employee benefit the ability for employees to be able to share in the growth and, and the improved value of a business. Uh, really tremendous. So yeah, there's nothing like it. No, I think, and I like, I like kind of where what I got from all of that, which is I think really important is when you, when you combine good experience when you're talking about the professional putting, helping to put the the an ESOP deal, no matter how, what role you really play, when you combine that professional, the experience with best practices, when you talk about the process agreement. Um, I think it kind of helps to provide uh in, you know, really kind of a mitigation or protection around the whole, the whole, um, concept of what the transaction's going to look like and also just the sense of, you know, we, we as professionals want to put a deal together and, and create a sustainable lease up that rewards not only the selling shareholders, but really the, the employees as well. And when you, when you do that in the right way, which I think in this case, the government gave the process agreements for good guidance and best practices. Then it becomes, you know, much more positive environment and the Wilmington case certainly is, is a result of it not being done in those ways. So really that, I think that's good insight for people as you're, as you're talking to other ESOP professionals is looking at what's their experience, what's their best practice, how do they go through their process and making sure it aligns itself with the Department of Labor. Yeah, absolutely. That that's exactly right. Um, you know, I, as I, as I said, the, it's it's a very different ESOP world that we're we're in now, and I think, you know, anytime you have additional transparency and better guidance, that's always going to result in a better process. So, um, you know, I'm certainly doing it in those terms. Sure. Well, great. Well, that is about all the time we have today. So I wanted to say, Miguel, thank you again for your time and such unique insight, you know, having insight for both sides of the table, the DOL and, and the trustee side. Philip. I really appreciate you having me. Thanks. And for those who are listening, you can check out Miguel's company at fiduciary Services.com. If you have more of an interest in, in what they do in terms of helping you with your ESOP, um, and I wanted to remind you to subscribe to the podcast, um, share it with a friend, and have a great day and we look forward to next time.