The current COVID-19 shutdown has devastated equity capital markets as well as led to massive disruption generally with historic unemployment claims. The impact to portfolios and businesses is catastrophic for many. That said, disruption like this always represents opportunity in certain areas. Below is a brief overview of two key opportunities that should be considered for companies, advisors, and their clients.
409A and Profits Interests
Companies that grant stock options to their employees must do so in compliance with IRC 409A. This requires at least an annual valuation when companies are in early stages, more frequent valuations as they get closer to being IPO prospects, and periodic valuations when a material event occurs. Generally, the material events have been company-specific events over the past 10 years. However, the precipitous decline in public equity values coupled with the high degree of economic uncertainty could constitute a material event for virtually any company at this point. Add to this the fact that many companies will have company-specific challenges they are now facing.
As a result, it is easy to justify conducting a new valuation now and lock in for the next twelve months a lower strike price on options granted to employees. Previous grants that may be under water could be cancelled and replaced with a fresh grant at a more advantageous strike price to employees. Employees can be kept whole on the vesting schedule by making the new grant equal in vested amount to the grant they are agreeing to cancel. Getting a new 409A can be relatively inexpensive and the benefit to employees can be significant when the company ultimately reaches a liquidity event.
The same is true of many private equity-backed companies that may be in an LLC structure and providing key team members with profits interests grants. A new valuation can be conducted to establish a lower threshold for profits interest grants. This is done in compliance with Revenue Procedure 93-27 as further clarified in Revenue Procedure 2001-43.
The cost of valuation work relative to the benefit to team members in these instances is likely a great tradeoff.
Estate Planning – Gifting of Equity
When values are down more volume of equity ownership can be gifted under lifetime gift limitations. For high value estates an environment with depressed asset values can be the exact right time to move assets. Additionally, volatility and uncertainty in the market tends to bring into sharp focus the need to have in place an effective and updated estate plan. It is also true that historic turmoil like today makes effective asset protection a critical part of any well-developed estate plan. Great Trust & Estate attorneys are also letting clients know that material changes in the Applicable Federal Rate may create opportunities for updates to existing estate plans or even considering advanced estate plans that might not have previously been a fit.
It would behoove great Trust & Estate attorneys to actively reach out to their clients during this time of disruption and those clients to actively reach out to their attorneys. Take advantage not only of the market and economic environment, but also likely the time they may now have to pause and think about planning and preparedness and get their house in order.