Thursday, November 11, 2010

GreatBanc/Tribune Com. ESOP Decision - Court Finds Prohibited Transaction

The United States District Court for the Northern District of Illinois ruled on November 9, 2010 that GreatBanc Trust Co. breached its fiduciary duties when it approved a massive purchase of unregistered shares of Tribune Co. stock by the media conglomerate's employee stock ownership plan . See Neil v. Zell, N.D. Ill., No. 08 C 6833. In their lawsuit against GreatBanc, the plaintiff plan participants alleged that as the ESOP's trustee, GreatBanc breached its ERISA fiduciary duties by approving the ESOP's purchase of unregistered shares of Tribune because this purchase was a prohibited transaction. In granting partial summary judgment for a class of ESOP participants, the Court determined that the ESOP's purchase from Tribune of nearly 9 million newly issued unregistered shares of Tribune was a prohibited transaction under the ERISA.

By way of background, until 2006, Tribune was a publicly traded company worth billions of dollars. Tribune owned 10 daily newspapers, 25 television stations, more than 50 websites, and the Chicago Cubs baseball team. Tribune's profits began to decline dramatically in 2006 as the media industry shifted to the Internet. To deal with some of its financial turmoil, Tribune began in 2007 to shift ownership of the company to the ESOP. One step of the process in making the ESOP the company's sole shareholder was a purchase by the ESOP on April 1, 2007, of nearly 9 million newly issued unregistered shares of Tribune for $28 per share. In exchange for the shares, the ESOP gave Tribune a promissory note in the amount of $250 million to be paid over 30 years. In addition to being unregistered, the ESOP's Tribune shares were subject to trading limitations. GreatBanc, as the plan's trustee, agreed that the ESOP's shares would be transferable only pursuant to a public offering registered under the Securities Act of 1933, under Rule 144 or 144A of the Securities and Exchange Commission, or some other unspecified, legally available means of transfer. At the time transfer of shares to the ESOP took place, more than 240 million shares of Tribune stock were available for public trade on the New York Stock Exchange, but starting April 25, 2007, Tribune began a tender offer to repurchase up to 126 million publicly traded shares. Following the stock repurchase, Tribune merged with the ESOP and all Tribune shares not held by the ESOP were retired or canceled, making the ESOP Tribune's sole shareholder

In granting partial judgment for the participants, the court first noted that ESOPs are generally exempt from ERISA's prohibited transaction rules that apply to the purchase of employer stock, so long as certain requirements are met. One of those requirements is that the company stock purchased must satisfy the Internal Revenue Code's definition of “qualifying employer securities.” The court then explained how the tax code interacts with ERISA when it comes to the regulation of ESOPs. The court came to the conclusion that the tax code's definition of “qualifying employer securities,” which is defined as “common stock issued by the employer ... which is readily tradable on an established securities market,” is not inconsistent with ERISA's use of that term in its prohibited transaction rules. Accordingly, the court thus found that for an ESOP's purchase of stock to be exempt from ERISA's prohibited transaction rules, “employer securities” purchased by an ESOP must meet the definition of that term in tax code Section 409(l), which requires that the stock be “readily tradable on an established securities market.” Here, according to the court, the nearly 9 million shares in unregistered stock purchased by the ESOP were not tradable on established securities markets and therefore, the ESOP's purchase of Tribune's stock was a prohibited transaction under ERISA.