Find an Expert Witness

Forensic, General & Medical
Expert Witnesses

Seventh Circuit Questions An Esop Trustee’s “Failure To Apply Marketability Discount” In Reversal Of Summary Judgment


In the Armstrong v. LaSalle Bank National Association decision on a motion for summary judgment, the trial court found in favor of the defendant trustee’s decision to accept an employer stock valuation that did not include a discount for lack of marketability. The plaintiff appealed the unfavorable trial court decision to the Seventh Circuit. While recognizing an ESOP trustee’s discretion in employer stock valuation matters, the Appeals Court reversed the summary judgment decision.

In the Armstrong v. LaSalle Bank National Association decision on a motion for summary judgment, the trial court found in favor of the defendant trustee’s decision to accept an employer stock valuation that did not include a discount for lack of marketability. However, in this case, the employer corporation had liquidity issues and an aging workforce. And, the ESOP plan allowed departing employees to immediately redeem their employer shares for cash. The plaintiff appealed the unfavorable trial court decision to the Seventh Circuit. While recognizing an ESOP trustee’s discretion in employer stock valuation matters, the Appeals Court reversed the summary judgment decision. The Appeals Court remanded the case back to the trial court for further consideration of the discount for lack of marketability issue.


In this recent reversal of a District Court’s summary judgment decision, the Seventh Circuit Court of Appeals questioned the prudence of an ESOP trustee’s actions. The ESOP trustee’s judgment related to a failure to apply a discount for lack of marketability (DLOM) to the employer stock per share value at a time when there were sponsor company liquidity concerns.

In Armstrong v. LaSalle Bank National Association, 446 F.3d 728 (7th Circuit 2006), Juan Armstrong (“Armstrong”) was the plaintiff representing a class of employee stock ownership plan (ESOP) participants. Armstrong claimed that the ESOP trustee accepted an imprudent employer stock valuation that resulted in significant losses to the ESOP class members.

LaSalle Bank National Association (“LaSalle”), the trustee for the Amsted Industries Inc. (“Amsted” or the “Company”) ESOP, was granted summary judgment by the District Court of Illinois.

Upon appeal, the Seventh Circuit reversed the summary judgment decision. The Appeals Court remanded the case to the trial court for further consideration of the prudence of the ESOP trustee’s actions with regard to the valuation of the Amsted employer stock. The remand instructed the District Court to determine whether LaSalle acted imprudently when it accepted an employer stock valuation that failed to consider the effect of a recent acquisition transaction on the liquidity of the employer corporation.


Amsted, a manufacturer of railroad and other transportation equipment, was owned entirely by its employees through an ESOP. Shortly after an employee joined the Company, he/she would immediately begin to receive employer stock shares.

Prior to certain recent changes in the ESOP plan, an ESOP participant could receive an immediate cash redemption for his/her employer stock shares when that employee left the Company.

The ESOP distributed employer stock shares into each participant’s individual retirement account at the end of each fiscal year. The addition of the new employer shares and the change in the employer stock value caused the value of the employee accounts to fluctuate. The value of the Amsted employer stock was reset every year.

Before the recent amendments to the ESOP plan, the employer stock value was set each year on September 30th. If an employee left the Company, he/she had until the following June 30 in order to redeem his/her employer stock at the September 30th stock value.

In August 1999, Amsted purchased Varlen Corporation (“Varlen”) for approximately $800 million. This acquisition transaction effectively doubled Amsted in size. To finance the Varlen acquisition, Amsted borrowed approximately $1 billion using an unsecured bank loan. The bank loan retired Amsted’s old debt and provided Amsted with a $200 million unused line of credit.

On September 30, 1999, trustee LaSalle received an employer stock valuation report from a valuation consulting firm. That employer stock valuation report concluded the fair market value of the Amsted stock. This fair market value conclusion was approximately one-third greater than the previous year’s employer stock valuation.

Trustee LaSalle accepted the stock value conclusion in the employer stock valuation report. The annual stock value accepted by LaSalle determined the value of a departing Amsted employee’s stock redemption payout amount.

Between 1996 and 1999, prior to the Varlen acquisition, the Amsted employee turnover rate was about 10 percent annually, or about 435 employees per year. If the 2000 percentage of ESOP redemptions had equaled the historical 10 percent annual employee turnover rate, the cost of the 2000 redemptions would have totaled approximately $100 million.

However, in 2000, the Amsted employee turnover/stock redemption rate turned out to be about 32 percent.

The unusually high stock redemption rate in 2000 cost Amsted approximately $330 million. This stock redemption payment amount was considerably higher than the Company’s $200 million line of credit. This redemption payment resulted in liquidity problems for the Company.

These liquidity problems caused Amsted management to modify the terms of the ESOP plan. The ESOP plan modifications (1) eliminated the departing employee’s lump sum redemption distributions and (2) deferred the departing employee’s eligibility for payment until five years after the ESOP participant left the Company.

In addition, by 2000, the Amsted workforce was aging. Of the Company’s approximately 3,000 employee-shareholders, about 800 were (1) at least 55 years old or (2) had more than 30 years of service with Amsted. This older group of employees had amassed Amsted stock worth approximately $300 million. Additionally, 735 ESOP participants owned, in the aggregate, $560 million worth of the Company’s stock—at the $184 per share stock value.

As a result of the Amsted liquidity problems, in September 2000, the employer stock was valued at $90 per share. And, in 2001, the employer stock was valued at only $44 per share.


Armstrong argued that LaSalle, as the trustee for the Amsted ESOP, breached its fiduciary duty related to the valuation of the Amsted stock. This alleged breach placed the ESOP participants at unnecessary risk. And, this alleged breach resulted in heavy losses to the ESOP class members.

Under the terms of the ESOP, LaSalle was responsible for determining the fair market value of the Company employer stock. Armstrong argued that trustee LaSalle had acted imprudently by:

1. failing to ensure that the valuation firm it hired (a) had complete and accurate information and (b) made proper valuation assumptions, specifically regarding the Varlen acquisition and the Amsted repurchase obligation, and

2. failing to apply a discount for lack of marketability (DLOM) to the employer stock per share value.

Armstrong recognized that, by hiring an independent valuation expert, LaSalle’s action with regard to valuing the Company’s stock was thorough, although not complete. Citing Howard v. Shay, Armstrong argued, “The fiduciary must also (1) investigate the expert’s qualifications, (2) provide the expert with complete and accurate information, and (3) make certain that reliance on the expert’s advice is reasonably justified under the circumstances.”1

At trial, LaSalle responded to the accusations that (1) its reliance on an independent valuation expert’s opinion of the Amsted stock value was imprudent, and (2) it failed to apply a DLOM.

In its response, LaSalle argued that, as an independent and experienced trustee, its decisions are entitled to deference, under the arbitrary and capricious standard. LaSalle also argued that the court should not substitute its judgment for that of the trustee. The LaSalle legal counsel moved for summary judgment on all counts.

To determine whether LaSalle’s actions were prudent, the District Court selected the deferential standard of review and followed the prudent person standard.

Under the prudent person standard, ERISA Section 404(a)(1)(B), “a fiduciary must discharge his or her duties to a plan with the care, skill, prudence, and diligence under the circumstances then prevailing that a prudent man acting in like capacity and familiar with such matters would use in the conduct of an enterprise of a like character with like aims.”

On the issue of whether trustee LaSalle acted imprudently by accepting the $184 Amsted per share valuation, the District Court found that “the valuation contained assumptions that experts may have differed on, but that does not render LaSalle’s reliance on the valuation a breach of fiduciary duty.”

On the issue of whether trustee LaSalle failed to apply a DLOM to the employer stock per share value, the plaintiff argued that, as stated in Eyler,2 the Seventh Circuit held that a DLOM is appropriate when valuing ESOP shares. The District Court, however, asserted that in Eyler the fundamental reason for requiring a DLOM did not apply in the case at hand. This was because Amsted had a history of paying cash for the ESOP participant’s redeemed shares.

Therefore, the District Court determined that “given Amsted’s history of paying terminated participants their benefits quickly, and in full, its bylaws calling for the stock to be treated as if sold on the open market, and its precedent of not applying a marketability discount, no reasonable trier of fact could find that LaSalle breached its duty.”

Accordingly, the District Court concluded that trustee LaSalle did not breach its duty by accepting an employer stock valuation that did not include a DLOM.

The District Court granted summary judgment in favor of LaSalle. Armstrong appealed the decision to the Seventh Circuit.


On appeal, the Seventh Circuit Appellate Court (“Appeals Court”) noted that “the duty of an ERISA trustee to act with prudence in its management of the trust’s assets is fundamental.”

However, the Appeals Court further remarked that “LaSalle had a balancing act to perform” in its administration of the Amsted ESOP, and therefore, “we must not seat ESOP trustees on a razor’s edge.”

On one hand, the ESOP trustee should consider the remaining employees and the ESOP assets. And, on the other hand, the ESOP trustee should consider the departing employees, when determining a redemption price. If the ESOP trustee was to set the stock redemption price too low, departing employees would have cause for complaint and LaSalle may find itself sued—only by another set of plaintiffs.

The Appeals Court agreed with the trial court in that the decisions of an ERISA trustee should be reviewed with deference. However, the Appeals Court noted that a decision that involves a balancing of competing interests under conditions of uncertainty requires an exercise of discretion. The Appeals Court also noted that the standard of judicial review of discretionary judgment is abuse of discretion.

The Appeals Court determined that it was unclear from the record whether trustee LaSalle had considered the possible adverse effect that the Varlen acquisition would have on the ESOP. The Appeals Court noted “a trustee who simply ignores changed circumstances that have increased the risk of loss to the trust’s beneficiaries is imprudent.”

Therefore, the Appeals Court reversed the summary judgment decision and remanded the case to the trial court. The remand order instructed the trial court to determine (1) if LaSalle in fact acted with discretion, and if so, (2) if it abused its discretion by failing to consider the changed circumstances that confronted the sponsor company.

In its remand, the Appeals Court remarked “one way to pose the question—we do not say the only way—is to ask whether it was unreasonable for LaSalle, in the circumstances that confronted it, to fail to apply a ‘marketability discount’ to the redemption price.”

The Appeals Court reasoned that “by increasing the probability of a run (i.e., employees leaving the Company due to an increased stock price), the Varlen acquisition increased the probability that rights of redemption by Amsted’s employee-shareholders would be further restricted, and so the acquisition created a further threat to liquidity.”


This Appeals Court decision focuses on ESOP fiduciary issues that are yet to be resolved. These issues relate to the way in which a sponsor company’s repurchase obligation should be projected and factored into the employer stock valuation. These issues also relate to whether, and under what circumstances, a DLOM should be applied in valuing ESOP-owned employer securities.

An important factor related to the DLOM is the ERISA requirement that a “put option” be attached to ESOP shares. Under ERISA Section 409(h)(1)(B), employer securities that are acquired by an ESOP after December 31, 1979, must be subject to a put option. This is the case if the securities are not readily tradable on an organized market at the time of the distribution to the ESOP participants.

Employer corporation securities acquired with the proceeds of an ESOP loan after September 30, 1976, must also be subject to a put option. For employer securities not subject to these mandatory put option requirements, the sponsor company may provide a voluntary put option.

A put option that is attached to ESOP shares requires the employer corporation to maintain the liquidity needed to purchase distributed employer shares when employees leave the company. This obligation to purchase the shares is referred to as the “repurchase obligation.” Without a put option, and the resulting repurchase obligation, employees may be forced to hold employer securities for extended periods of time after leaving the company.

The Department of Labor (which regulates ESOPs under ERISA), proposed regulations to guide valuation analysts to consider (1) the extent to which the put rights are enforceable and (2) the sponsor company’s ability to meet its obligation. Barring unusual circumstances, valuation analysts typically interpret the ESOP put right as serving to reduce or almost eliminate any DLOM.

The Eyler case, and other cases, have drawn increasing attention to the DLOM issue with regard to employer corporation stock valuations.

According to Valuing a Business, 4th edition,3 the principal factors that influence the DLOM with regard to ESOP employer securities are as follows:

1. The provisions of the ESOP plan documents, including the put rights.

2. The financial strength and solvency of the employer corporation.

3. The size of the share block owned by the ESOP.

4. The degree of liquidity in the ESOP trust and the company.

5. The extra borrowing capacity of the employer corporation.

6. The repurchase liability and the expected funding requirements.

7. The extent to which the company has planned and managed the repurchase liability.

8. Past practices in repurchases by the company.

9. The form and timing of payments to selling shareholders and ESOP lenders.

10. The overall priority of acknowledged and contingent claims that may conflict with achieving liquidity for plan participants over time.

As stated in Valuing a Business, and based on the issues presented in this case, a sponsor company can plan for the repurchase liability by setting company policies regarding how repurchases will be handled. And, these policies may aid the valuation analyst in assessing the relevance/magnitude of a DLOM.

The debate continues regarding the relevance of a DLOM in an ESOP setting. Due to recent controversies, many ESOP fiduciaries take the position that some level of DLOM should be applied. Clearly, before an employer corporation implements an ESOP, it should seek the services of both legal counsel and financial advisers who are experienced in ESOP valuation issues.


1. Howard v. Shay, No. CV 91-146, 1993 U.S. Dist. LEXIS 20153 (C.D. Cal. Sept. 15, 1993), rev’d and rem’d No. 93-56606, U.S. App. LEXIS 30228 (9th Cir. Nov. 22, 1996).

2. Eyler v. Commissioner, T.C. Memo 1995-123 (Mar. 23, 1995), aff’d 88 F.3d 445 (7th Cir. 1996).

3. Shannon P. Pratt, Robert F. Reilly, and Robert P. Schweihs, Valuing a Business: The Analysis and Appraisal of Closely Held Companies (New York: McGraw-Hill, 2000), p. 707.

By Willamette Management Associates
Business Valuations, Economic Analysis, Financial Advisory & Expert Witness Services
ABOUT THE AUTHOR: Bobbie J. Jenkins and John C. Ramirez
Bobbie Jenkins is a senior manager in our Portland, Oregon, office. 

John Ramirez is an associate in our Portland, Oregon, office. 

Copyright Willamette Management Associates

Disclaimer: While every effort has been made to ensure the accuracy of this publication, it is not intended to provide legal advice as individual situations will differ and should be discussed with an expert and/or lawyer.For specific technical or legal advice on the information provided and related topics, please contact the author.

Find an Expert Witness