ESOP Repurchase Obligation: What is the ESOP Repurchase Liability?
What is the ESOP repurchase liability?
The ESOP repurchase obligation or liability is the company’s obligation to buy back shares from ESOP participants according to the company’s ESOP document and ESOP Distribution Policy.
The obligation is created by the ESOP put option – right to demand employer securities as provided under IRC Section 409(h) – Right to demand employer securities; put option:
IRC 409(h) Right to demand employer securities; put option
(1) In general
A plan meets the requirements of this subsection if a participant who is entitled to a distribution from the plan—
(A) has a right to demand that his benefits be distributed in the form of employer securities, and
(B) if the employer securities are not readily tradable on an established market, has a right to require that the employer repurchase employer securities under a fair valuation formula.
The specific ESOP liquidity events are identified in our discussion on the timing of ESOP distributions.
How is the repurchase liability reported on the company’s financial statements?
The repurchase obligation is NOT a balance sheet liability required to be reported on the financial statements. [While there have been some discussions by the Financial Accounting Standards Board (FASB) to require the reporting in recent years, they have currently been shelved.]
The company should disclose the repurchase obligation per Statement of Position 93-6 Employers’ Accounting for Employee Stock Ownership Plans (SOP 93-6):
The existence and nature of any repurchase obligation, including disclosure of the fair value of the shares allocated as of the balance sheet date, which are subject to a repurchase obligation.
What is an ESOP repurchase obligation study?
The ESOP put option creates a call on the company’s cash flow. An ESOP repurchase obligation forecast or study is a long-term projection of the call on company cash needed to satisfy the plan’s ESOP distribution requirements. The results of the forecast are dependent on the participant data/demographics of the employee population, the ESOP Repurchase Obligation Forecast Assumptions, and the ESOP Distribution Policy. In addition to corporate and ESOP planning, the repurchase obligation forecast will help quantify the projected ESOP repurchase obligation for financial statement reporting and stock appraisal purposes.