Entrepreneurs who offer employees company stock, take note: The U.S. government has you in its cross hairs.
The Labor Department is ramping up its scrutiny of valuation practices for employee stock-ownership plans, or ESOPs, following a spike in the number of lawsuits filed owing to inflated prices. Some 28 ESOP lawsuits have been filed since October 2009, more than twice the amount filed during the previous six years, The Wall Street Journal reports.
Deliberate inflation of company share prices has grown into a top priority for the Labor Department, so much so that federal officials could introduce tougher laws for outside valuation groups as early as next year.
"Valuation is the first, second, third, and fourth problem," Timothy Hauser, a deputy assistant secretary at the agency, told the Journal.
Aside from being illegal, improper valuation practices put employee retirement savings in jeopardy. When a company inflates its valuation, the owners are able to cash out at a high price, leaving employees to suffer when the stock price inevitably falls back down.
Although appraisers are required to provide valuation services as soon as a company starts a stock plan and must inform employees how much their shares are worth every year, there are no rules for how they value businesses and no professional qualifications these third-party service providers must meet.
So, before you transfer rights in your company to your employees, make sure your valuation methods don't cook the books.