closely business seminar december 4, 2013 · buyout 16 sale of the company definition sale and...

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Closely Held Business SeminarDecember 4, 2013

BDO USA, LLP, a Delaware limited liability partnership, is the U.S. member of BDO International Limited, a UK Company limited by guarantee, and forms part of the international BDO network of independent member firms. BDO is the brand name for the BDO network and for each of the BDO Member Firms.

Ownership Succession / TransitionClosely Held Business Seminar Sponsored by Maner Costerisan

Tom Ziemba, PhDBDO USA, [email protected]

December 4, 2013

2

Today’s Agenda

Ownership transition overview

Benefits of having an ownership transition plan

Transition alternatives

Factors that influence succession of transition alternatives


3

Principles

Effective ownership transition addresses owner specific issues, leadership succession, and comprehensive personal and corporate planning.

Ownership succession is accomplished by balancing the interests of all stakeholders to result in a win-win outcome.

Most businesses that do not have an ownership succession plan end up selling.

Ownership Transition

4

Value Creating Capabilities

Governance Leadership

StrategyExecutive

Compensation

An Integrated Solution

Owner Requirements

Strategic Goals

Leadership Succession

Alignment of Rewards


5

Eighty to ninety percent (80-90%) of privately held companies in the U.S. are family-owned.

The family ownership structure of less than 1/3 of these companies succeeds into the second generation and only 10% survive into the third generation.

(Source: www.forbes.com)

Fifty-nine percent (59%) of Company leaders anticipate or are considering transitioning out of their current positions within the next 5 years due to retiring “baby boomers.”

65-75% of small businesses will go up for sale in the next five to ten years.

More than half of companies have no exit or succession plan and there isn’t a sufficient planning horizon when the eventuality finally arrives.

30% of the time the Company is liquidated

48% of all family-owned companies collapse after the founder's death(Source: “Succession plans are essential for family businesses” (M. Hissam, 2013))

Privately-Held Companies

6

Its all about the people

Can the company thrive until the transition is completed?

Fourteen percent (14%) of companies report they are “well prepared” to deal with the sudden loss of a key member of the senior management team.

60.8% are “somewhat prepared”

21.8% say their companies are “not at all prepared” to deal with such losses

3.4% “don’t know”

Ninety-two percent (92%) recognize that it is highly or moderately risky to not have a succession plan. (Source: www.shrm.org)

Executive Talent Planning


7

Executive Talent Planning

0%

25%

50%

75%

100%

< $50M $50M -$500M

$500M +

Company Size

Percentage of Companies with a Succession Plan

3%

78%

16%

3%

Executive's Rating of Company's Succession

Plan*

Excellent

Good/VeryGoodFair

Poor

*of those that have succession plans

Source: Maxwell Locke, & Ritter“Succession planning seriously lacking at small businesses”

Larger companies are more likely to have a succession plan.

8

An effective ownership transition plan will result in the following benefits for current and future owners:

1. Promotes the development of a strong vision for the Company

2. Allows ownership to engage advisors (e.g., estate planning) at the right time and in the right sequence

3. Identifies the investment required to maximize ROI

4. Provides an opportunity to entertain multiple transition options

5. Reduces uncertainty and turnover of key management

6. Aligns key managers with ownership goals

7. Maximizes the realized value received by the owners

8. Overlays estate planning with company potential

9. Addresses family issues in an objective manner

Benefits of a Transition Plan


9

Ownership Transition Options

Owner

Options

Become an owner-investor

Liquidation

ESOP

Merger

Sale of the Company

Internal transfer/

Management buyout

10

Owner Specific

Owner’s net worth outside the

Company

Likely future tax positions

The ability of the Company to

succeed without the owner(s)

Family members’ (next

generation) interest in the

Company

Capabilities and demographics of

key stakeholders (non-owners)

Timeline

Key Considerations

Company Specific

The value of the Company

The strength of the business

model

The growth prospects for the

Company and the industry as a

whole

The capabilities of the leadership

team – excluding the owner

Top management’s interest in the

Company

Investment requirements


11

The Owner’s…

…desire for a legacy

…commitment to key people

…vision of their lives without the Company

…view and attitude toward risk

…trust in the key people

…knowledge about the options

Other Key Considerations

12

Become an Owner Investor

Definition

The owner transitions to a governance role and retains ownership. May add personal /borrowed capital to maximize ROI.

ADVANTAGES DISADVANTAGES

Owner(s) can choose to partially retire, switch to working part-time or fully retire

Top management team may not have capabilities

for this option

Allows the Company to continue with a potential for rejuvenation, new ideas, and redirection

Perceived risk increases when owner(s) relinquish

management control

Owner(s) can retain certain benefits, some compensation, and legacy/identity

Richer compensation package for key employees

Can be done without an internal transfer of ownership Must have viable growth oriented business model

Potential asset for family members Total value realized over longer time horizon

Owner

Options


Liquidation

ESOP

Merger

Sale of the Company

Internal transfer /

Mgmt. buyout


13

Liquidation

Definition

When a Company terminates operations and the owner(s)/shareholders receive the remaining market value of the Company’s assets less liabilities.


Maintain and control the Company until final liquidation event

Difficult to retain talent – requires special compensation plans

Often can wind down gradually or quickly, depending on ownership goals

Typically results in lower financial return to the owner(s) – (e.g., holding costs impact returns)

Compensation and benefits provided to owners as long as profitability and cash flow will support the expense

Owner(s) do not leave any legacy

Owner

Options


Liquidation

ESOP

Merger

Sale of the Company

Internal transfer /

Mgmt. buyout

14

Employee Stock Ownership Plan (ESOP)

Definition

Companies provide their employees with stock ownership, often at no up-front cost to the employees, as both a reward and motivational tool. ESOP shares are part of an employee’s compensation or retirement package. (Source: www.nceo.org)


Owner(s) do not have to sell a majority interest. Can be expensive to maintain

Allows owner(s) to cash out immediately or over timeRequires owner(s) to reduce pay to reasonable market levels if they are paid above market

Can be used in combination with other plansESOP Committee requirements

Tax advantage to the seller, depending on the type of ownership structure of the Company

Reduces the amount of money a Company can contribute to other qualified retirement programs

Allows employees to purchase Company with tax deductible contributions to the ESOP

Reduces the ownership opportunities for other buyers/investors

Employee-owned companies tend to perform wellRequires threshold cash flow and profitability to make an ESOP viable in the long-term

Owner

Options


Liquidation

ESOP

Merger

Sale of the Company

Internal transfer /

Mgmt. buyout


15

Merger

Definition

Merger happens when two firms, often of about the same size, agree to go forward as a single new company. Both companies' stocks are surrendered and new company stock is issued in its place.

Acquisitions involve one firm purchasing another -there is no exchange of stock or consolidation as a new company.


Continuity of the Company in some form within the context of the new entity

Talent retention and culture integration are issues

The post-merger entity will typically have greaterresources and a stronger business model

Move from a family/owner focused structure to a corporate organizational structure

Provides better retirement or return on capital if other alternatives are not attractive

Adjustments made to compensation and retirement

Facilitates the owner’s retirement or redefinition of his/her role

Increased formality in operating agreements, employment agreements, etc.

Owner

Options


Liquidation

ESOP

Merger

Sale of the Company

Internal transfer /

Mgmt. buyout

16

Sale of the Company

Definition Sale and transfer of total ownership to an outsider. Typically, the current owner has opportunities for larger financial gain.

An “outsider" refers to several types of potential buyers including: competitors, private equity groups, suppliers, individual investors, etc.


Maximizes return for the owner(s) Employment brand undergoes change

Potential continuity of the company and continued employment

Typically reduces compensation of current owner(s) during transition

Full exit opportunity, however, the future role of owners dependent on buyer interests

Requires multiple advisors to execute the deal

Satisfaction from building or managing an asset that is attractive in the marketplace

Change in culture from owner(s) to new owner(s)

Timing may not sync with retirement plan

Owner

Options


Liquidation

ESOP

Merger

Sale of the Company

Internal transfer /

Mgmt. buyout


17

BDO Capital Advisors: Target Market Sell-Side M&A Clients

Quality companies command higher multiples than in past years.

What are some key attributes?

- Good management

- Strong margins/greater than $2MM trailing 12-month adjusted EBITDA

- Stable to growing revenue and profitability

- Stable to growing industry-end markets

- Future earnings visibility

- Minimal customer, supplier concentration

- High-quality financial information/supportable EBITDA adjustments

- Minimal surprises – low/no contingent liabilities

- Strong competitive market position

- Well thought out growth strategy

Sale of the Company

18

Q2 2013 M&A Activity Up From Q1

Q2’13 transaction volume

increased 5.9% from the prior

quarter to 3,319 transactions,

although activity levels remain

below the flood of 2012 year-end

deal closings.

Deal values in Q2’13 increased

13.6% compared to the prior

quarter to $50 billion.

Average EBITDA valuation levels

dropped to 6.0x in Q2’13.

Average EBITDA margins in Q2’13

decreased 0.5% to 14.8%,

remaining relatively stable with

the prior period.

Transaction Value ($bn)

Median EBIT

DA

Margins

U.S. Middle Market M&A Valuations (< $500mm)*

*Includes multiples < 10xSource: S&P Capital IQ

U.S. Middle Market M&A (< $500mm)*

Num

ber

of T

rans

acti

ons

EV/T

TM

EBI

TD

A

2,6292,5442,684

2,248

1,8281,8952,011

2,281

2,8552,9532,9273,0802,984

3,6823,6813,852

3,5393,4533,622

3,986

3,1343,319

$48 $55 $54

$25 $21

$25 $28 $36

$32

$43

$56 $55 $47

$71 $72 $70

$52 $56

$52

$66

$44 $50

$0

$20

$40

$60

$80

$100

$120

$140

0

500

1,000

1,500

2,000

2,500

3,000

3,500

4,000

Number of Transactions Transaction Value ($bn)

6.3x6.7x

6.5x

5.0x

5.7x 5.6x 5.7x

6.4x

4.8x

6.7x6.4x

7.0x6.7x 6.8x 6.8x 6.9x

5.9x

6.4x6.2x 6.2x

6.4x6.0x

11.8%

14.9% 13.5% 13.2%

18.1%

10.7% 11.3%

16.7% 15.0% 14.2%

15.3% 14.5% 16.7% 16.6% 16.9%

15.0%

12.4% 13.0% 14.6%

16.7% 15.3% 14.8%

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

40.0%

0.0x

1.0x

2.0x

3.0x

4.0x

5.0x

6.0x

7.0x

8.0x

EV/ TTM EBITDA Median EBITDA Margins

Sale of the Firm: Middle Market M&A


19

Although M&A activity has slowed from the tax-driven second half of 2012

levels, fundamentals point to a continued strengthening of the market.

Buyer appetite for quality companies is resulting in strong valuations for

sellers of those businesses

Private equity has over $300B in capital overhang available to be

invested within a limited time

Strategic buyers have record amounts of cash on their balance sheets,

and many are challenged to grow organically

As stock prices climb, companies have access to a favorable transaction

currency, a need to show earnings growth, and the ability to pay more

for acquisitions without suffering dilution

The debt markets are liquid, with increasing amounts of financing

available at record low costs

Sale of the Firm Middle Market M&A Summary Outlook

20

What is selling? Who is buying?

With regard to investments by industry, the largest percentage of private

equity fund managers identified manufacturing and technology (equally,

25 percent) as the industries that will provide the greatest opportunities

for new investments during the next 12 months.

There have been approximately 12,000 acquisitions of middle market

companies by strategic acquirers—larger companies, in the great

majority of cases—with an astonishing $1.13 trillion of total deal value. (Source: Headwaters MB LLC, September 2013)

Sale of the Firm


21

Definition

Provides an opportunity for the Company to continue by transitioning ownership to family members or existing management. Typically, the owner(s) have more control over the transaction, share distributions, and time frame of the takeover.

Internal Transfer / Mgmt. Buyout


Can phase out gradually or using benchmarks Need to share confidential financial information

Ownership control until ownership reduced to less than 50%

Requires strong talent or family executives

Retain reasonable compensation, benefits and perks during transition, i.e., car, health insurance, etc.

Owner(s) typically take a reduced price for the business over an external sale

Continue to be a resource for family membersThe financial security is less than an external sale if paid over time (assuming you can sell)

Retain key employees/managers (buyers) Financing is usually leveraged

Owner

Options


Liquidation

ESOP

Merger

Sale of the Company

Internal transfer /

Mgmt. buyout

22

1. Articulate owner values and perspective

Personal views

Stakeholder views

2. Create a vision and strategic plan

Company potential

Strategic investment assumptions

Competencies and differentiators

Competitive position

3. Determine the value of the Company

Current

Under strategic plan assumptions

Ownership Transition Plan


23

4. Build a capital plan

Investments

Operating requirements

Funding of owner requirements – family requirements

5. Update the wealth management plan

Personal assets versus company assets

Retirement income stream requirements

6. Develop succession/retention plans for key people

Employment Agreement that provides COC, severance, outplacement

Long-term incentives that align with interests of ownership

Executive team assessments, development, and succession


24

7. Create a governance or transition structure

Advisory Board – business and personal

Formal board

Family office

8. Establish benchmarks targets to trigger transition strategy

Strategic goal achievement

Macro economic issues

Business outlook/trends

Wealth management requirements

Family milestones



25

“What makes the most sense for my Company?”

Owner(s) Values

Ownership Transition Options

ESOPSale of the Company

MergerSale to Family/Management

Buyout

Owner-Investor

Liquidate

I want the transition of ownership to be gradual

I want my employees/family to collectively own the Company

I would like to maintain control of my Company

I am looking for the largestreturn possible

I want the ownership transition to be as simple as possible

It is important that my Company maintains its culture/identity

The value of the company is on the decline

Note: This list is intended only as a guideline. There are many other factors that come into play (value of business, taxes, spouses, willingness of buyers, etc.) when deciding on the best plan for your business.

26

Tom Ziemba, Ph.D.

EXPERIENCE SUMMARYTom Ziemba, Ph.D., is a Senior Director in BDO’s Strategic Services practice in Chicago. He has over 20 years of consulting and corporate experience in a number of industry segments.

He assists clients in building governance capabilities, strategic positioning, succession and ownership transition planning, leadership team development, and designing executive and Board compensation programs. Dr. Ziemba has advised CEOs, Boards and executive teams on developing strategies to build organizational capabilities. Dr. Ziemba developed the value creating capabilities program to assist business owners in building an ownership succession strategy.

Prior to joining BDO, Dr. Ziemba held practice leader positions in national consulting firms including: McGladrey, the Mercer Consulting Group, and the Compensation and Performance Management Practice at KPMG.

He also held executive positions at BMO Harris Bank in Chicago, New Medico Rehabilitation Center, and the Campbell Soup Company .

PROFESSIONAL AFFILIATIONSWorld at WorkNational Association of Corporate DirectorsCEO NetworkSociety of Industrial/Organizational Psychologists

EDUCATIONPh.D., Organizational Psychology, Illinois Institute of TechnologyM.S.I.R. Loyola University, ChicagoB.S. Loyola University, Chicago

Senior DirectorStrategic Services

Telephone : 312-233-1888Mobile: 847-226-2228Email: [email protected]

Maner Costerisan2013 Closely Held Business Seminar

December 4, 2013

A look at individual and business issues under the ACA & the State of Michigan

To ensure compliance with Treasury Department regulations, we inform you that any tax advice that may be contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding tax‐related penalties under the Internal Revenue Code or applicable state or local tax law provisions or (ii) promoting, marketing or recommending to another party any tax‐related matters addressed herein.


December 4, 2013

US Supreme Court Upheld the law as a tax

IRS has said they will not police the lawBurden on Taxpayers

Burden on Preparers

2013 ChangesSchedule A Medical Expenses – 10% of AGI (up from 7.5%)

Max Section 125 Flexible Spending Account Election is $2,500

Above the Line (self employed deduction)Cannot take if spouse had the option to elect coverage for family (IRC Section 162(l)(2)(B))


December 4, 2013

2013 Medicare Tax (0.9% Tax)Wages & Self‐Employment Income over:

250k – Joint Return

200k – Single Return (note: Marriage Penalty)

125k – Married Filing Separate

Additional Tax on COMBINED wages (Joint Return)

Withholding is done on an INDIVIDUAL basis (examples ahead) on wages over 200k

2013 Medicare Tax (0.9% Tax)Additional Tax on SE income is NOT allowed for the AGI deduction

Employers cannot withhold extra even if Individuals request it

Employees must make up the difference


December 4, 2013

2013 Medicare Tax (0.9% Tax) ExamplesH & W each earned income of 200k

Withholding = $0 (neither over 200k individually)

Medicare Tax = $1,350 ((400k – 250k) * 0.9%)

H earns 50k, W earns 300k

Withholding = $900 ((300k‐200k) *0.9%)

Medicare Tax = $900 ((350k – 250k)*0.9%)

H earns 0, W earns $250k

Withholding = $450 ((250k‐200k) * 0.9%)

Medicare Tax = $0 ((250k‐250k) * 0.9%)

2013 Medicare Tax (0.9% Tax)Good News?

Tax on the amount over $250k

Phase‐In not a Cliff

Bad NewsPotentially require additional planning

Need to include SE Income as well

Schedule C losses could limit tax on return

Schedule E SE income


December 4, 2013

2013 Medicare Tax (0.9% Tax)Potential Planning Ideas

Increase Estimates (subject to penalties)

Increase withholding at y/e

Recognize Schedule C losses (Basis Limits)

Recognize Schedule E losses (Passive/Basis Limits)

Bite the bullet on April 15th

Net Investment Income Tax (3.8% Tax)Commonly know as a 3.8% Medicare Tax

Not really a medicare tax (funds don’t go back into medicare)

What is Net Investment IncomeInterest, Dividends, Royalties, Annuities

Rental & Other Passive Activities

Trading financial instruments/commodities

Net Gains from sales of non‐business property & gains from rental & passive activities


December 4, 2013

What is NOT Net Investment IncomeActive Trade or Business Income

1231 Property

Tax‐Exempt Muni Bonds

Tax Deferred non‐qualified annuities

Excludable gain on sale of principal residence

Retirement plan distributions (note: this does increase AGI)

Mechanics:Additional 3.8% Tax on the LESSOR OF:

Net Investment Income – OR –

Modified AGI in excess of:

250k (MFJ)

200k (S or H/H)

125k (MFS)

11,950 (estates & trusts)


December 4, 2013

Net Investment IncomeAllowable Deductions

Watch‐out for 2% AGI LimitationsFees that are not allowed on 1040 are not allowed in this calculation.

If 2% Floor cuts it, it is not allowed

If some of it is allowed – proration

MFJ – 40k of NII, Modified AGI is 300kCompare (Lessor of:)

40,000 of NII

50,000 of Excess Modified AGI (300k – 250k)

Tax is 3.8% on NII $1,520 (40k * 3.8%)

3.8% Tax is not imposed on other types of business activities of a proprietorship, partnership, or S Corporation. Surtax hits investment income

Income/Loss on Working Capital is subject to tax


December 4, 2013

Individual Mandate (2014)Required to have minimum essential coverage for themselves and their dependents

Penalty for no or poor coverage

Taxpayer claims dependent – the taxpayer is responsible

Example:Bob & Sue are divorced. Under the divorce decree Bob is required to provide health insurance for their two children. Susan is the custodial parent, and is entitled to claim the kids as dependents. Who is liable for the penalty if Bob fails to pay for health insurance coverage for the children?

What if one of the two kids are in juvenile detention?


December 4, 2013

ExceptionsBetween Jobs and w/o Insurance for 3 months

Religious Objections

Age 65+ covered by Medicare

Member of an Indian Tribe

In Jail

Undocumented Immigrant

Note:

Penalty calculated on a monthly basis

Health Insurance Premium Assistance Refundable Credit

IRS will not collect, but will w/h refunds

Penalty Greater of:2014: 1% of Family Income or $285 Family Max ($95/adult, $45/child)

2015: 2% of Family Income or $975 Family Max ($325/adult, $162.50/child)

2016: 2.5% of Family Income or $2,085 Family Max ($695/adult, $347.50/child)

Capped at Bronze Level plan (2016 – estimated 12,000 –12,500 per family)

Family Income is reduced by filing threshold


December 4, 2013

W‐2 Reporting Requirement250+ W‐2s – required to report Health Care (Code DD in box 12)

<250 W‐2s – requirement was delayed until 2013

0.9% Medicare Tax>200,000 of taxable wages, must w/h

Cannot w/h otherwise (even if you know both the employee and their spouse are over the threshold to pay the tax (250k MFJ)

Reporting Requirements Over $500k of annual revenue, you MUST:

Provide notice to all employees (full or part time) informing them of the existence of the Insurance Marketplace

That they may be eligible for a premium tax credit

If they purchase through the exchange, they may lose any employer contributions

Sent by October 1, 2013

DOL has two model notices (technical release 2013‐02)


December 4, 2013

Insurance Mandate for “Large” EmployersPushed back to months after 12‐31‐14

Penalty for large employersAverage 50 full time employees

Full time is considered 30 hrs/week (or may use 130 hours per calendar month)

MUST use FTE (Full‐Time Equivalents)

Average employee count across months in a year

Combine all employees of a controlled group or affiliated service group

Do NOT include leased employees

PenaltyDo NOT include sole proprietor, partners in a partnership, or >2% S‐Corp. Shareholder

FTEsCombine actual hours for part time employees (not more than 120 for any individual) and divide total hours of service by 120 (# hours worked per month/120)

Count all paid time (including vacations, sick time, holiday pay, jury duty, layoffs, military duty, leaves of absence)


December 4, 2013

Example:An employer with 40 full‐time employees (30 hrs/wk) and 30 half time employees – they have the equivalent of 55 full time employees (over 50! = potential penalty!!!)

Seasonal workers may be excludedEx: Holidays

May apply either a period of 4 calendar months or 120 days

Penalty for large employers not offering Minimum Essential Coverage (MEC) to full time employees and dependents (includes kids up to 26 years of age ‐ do NOT have to offer cover to your spouse)

Affordable (9.5% of household income) – self‐only coverage


December 4, 2013

PenaltyLarger Employers (50+ employees) must provide health insurance coverage for full‐time employees or will be subject to a penalty tax

Do Not Offer Coverage:

No FTE receive credits for exchange = NO PENALTY

1+ FTE receive credits for exchange ‐ Penalty = $2,000 x (# of FTE – 30)

Offer Coverage:

No FTE receive credits for exchange = NO PENALTY

1+ FTE receive credits for exchange = Lesser of:

$2,000 x (# of FTE – 30)

$3,000 x (# of FTE who receive credits)

Monthly Basis

ExampleIn 2014 Taxpayer C has household income of $47,000. C is an employee of Employer X which offers its employees a health insurance plan that requires C to contribute $3,450 for self only coverage for 2014 (7.3% of C’s household income)

Is it affordable? Yes (doesn’t exceed 9.5% of C’s household income)

Employer – no penalty

Employee – No premium subsidies on the exchange


December 4, 2013

Small Employer Health Insurance Credit2010 – 2013 = 35 % credit (25% tax‐exempt)

2014+ = 50% credit

Employer pays for at least 50% of single coverage

Employer pays a uniform percentage for all eligible employees

Reduced by:# FTE > 10 (up until 25)

Average Wages >$25,000 (up until 50k)

FTE ‐ # of hourse of service for which wages were paid to employees during the tax year and divide it by 2,080 (limit is 2,080)

Seasonal workers only included if they work over 120 days

Employee doesn’t include Self‐employed individual

5% owner (including attribution)

2% S Corp SH


December 4, 2013

Small Business Health Insurance CreditPer GAO:

Estimated 1.4 – 4 million employers eligible

Approx. 170,000 claimed

Of the 170k, only 28.1k (17%) claimed the full credit

Why?Most small employers don’t offer health insurance

Credit only exists for 6 years (2010 – 2015)

Complex Rules to calc FTEs and wages

Amount of time needed to calc credit

Personal Property Tax Reform – End of 20122014

Property of taxable value less than 40,000 is exempt (80,000 assessed value)

File affidavit w/ city/township you are exempt by February 20th

Township to Township

City to City

Know your classification

Careful with changing classification


December 4, 2013

Effective 1‐1‐16Industrial Property

All property purchased prior to 2006 is exempt

All property purchased after 2012 is exempt

Eligible Property (Industrial Processing or Directly Integrated)

Earliest year is dropped off (so for 2017, 2007 is exempt)

All property is exempt as of 1‐1‐2022

File 1 time affidavit by February 20, 2016

Subject to voter approvalAugust 2014 primary

Deals with replacement revenue

Unclear on what happens if voters do not approve the bill

All businesses are subject to the tax

How do the cities and townships value property then

Commercial Property is still subject to the tax ‐regardless


December 4, 2013

Matthew C. Latham, CPA

[email protected]

Ph: 517‐323‐7500


December 4, 2013

HEALTH CARE REFORM, EXCHANGES, AND DEFINED CONTRIBUTION MEDICAL PLANS…CLOSELY HELD BUSINESS SEMINARDecember 4th, 2013

© 2013 MercerThis is for informational purposes only, and is not intended to be used as legal advice.

Discussion Topics

• What is happening in 2014?

• Employer strategies for 2014 and beyond.

• Closing thoughts on employer strategies and health care transformation

• Q & A


December 4, 2013


Employer Requirements in 2014

Pla

n D

esig

n R

equ

irem

ents • Maximum 90 day

waiting period.• No limits on pre-

existing conditions or essential health benefits.

• Limits on out-of-pocket maximums; counting copayments against OOP max.

• Expansion of Wellness incentives.

• Coverage for clinical trial related services.

Taxe

s an

d F

ees • PCORI.

• Temporary Reinsurance Fee.

• Health Insurer Fee.

Com

mu

nica

tions • SBCs.

• W-2 reporting of health care costs.

• Exchange Notice.

2


3

New in 2014: Individual Mandate

All individuals must have health coverage

Pay penalty

2014Greater of $95 (single) | $285 cap (family)

or 1% of household income

By 2016Greater of $695 (single) | $2,085 cap (family)

or 2.5% of household income

OR


December 4, 2013


Single individual

Family of four

% of FPL** Annual household income

Household income >400% of FPL not eligible for subsidy through

marketplace

400% $45,960 $94,200

300% $34,470 $70,650

200% $22,980 $47,100

150% $17,235 $35,325

138% $15,856 $32,499

100% $11,490 $23,550

* Not all States have agreed to expand Medicaid to 138% of FPL** Based on 2013 FPL

4

Public Programs in 2014Medicaid and Public Exchanges

Expanded to anyone below 138% federal poverty line

Not all states have agreed to expand coverage

• In these states, federal subsidies may be available for certain people to buy coverage

• Those ineligible for Medicaid or federal subsidies may have no option for subsidized coverage other than employer plan (if available)

Insurance plan options available on exchanges that are operated by states or federal government (or a state/federal partnership)

• Exchanges will conduct open enrollment: Oct 1, 2013 to Mar 31, 2014

• If household income is between 100%/138% and 400% of federal poverty level – and individual does not have access to affordable employer coverage that provides minimum value– federal government will provide subsidies to buy insurance on exchanges

Medicaid Expansion Public Exchanges

Public Programs in 2014Medicaid and Public Exchanges


5

What do the public exchanges do?

Provide financial management

Ensure plan accountability

Assist consumers

Determine eligibility, enroll individuals

Manage plan activities


December 4, 2013


2014: Products Offered In ExchangesExchange Products Will Differ From Group Plans

Plan options in public exchange are named after metals

Public exchanges ER | Group

Bronze Silver Gold PlatinumCatastrophic

age <30 and those eligible for a hardship waiver

Plan design1Features

Plan value 60% 70% 80% 90% under 60% >60%

• Silver – second-lowest cost plan – is baseline for calculating government subsidy

• Government subsidy and member contribution requirement calculated based on income, vary by level between Medicaid eligibility and 400% FPL

• Once subsidy determined for silver plan, can use for gold plan (pay more) or bronze plan (pay less)

• No subsidies are available for catastrophic coverage

6

1.Some provisions apply differently for grandfathered and non-grandfathered plans. Employer plans generally must offer coverage of at least 60% value to full time employees to avoid shared responsibility penalties.


Eligibility for Exchange Premium Tax CreditsBased on Second-lowest Cost Silver Plan in 2014

% Poverty level

Annual household

incomePlan value with

cost-sharing credit

Maximum monthly employee contribution in exchange

% Household income Dollars

<100% <$11,490 Medicaid / Access gap N/A N/A

<138% <$15,856 Medicaid (if expanded) N/A N/A

138% $15,856 94% 3.00% $40

150% $17,235 87% 4.00% $58

200% $22,980 73% 6.30% $121

250% $28,725 70% 8.05% $193

300% $34,470 70% 9.50% $273

400% $45,960 70% 9.50% $364

>400% >$45,960 70% No maximum Full cost

Individual in 2014 (Based on 2013 FPL of $11,490)

7


December 4, 2013


8

Healthcare.gov


Employers and Public ExchangesHow will it work when employees apply for subsidies?

Individual applies to Exchange

Provides & attests to certain info, including:

• Income and family size.

• Lowest cost employer plan option that meets minimum value (employee only cost).

Exchange verification

• Verifies income and other information.

• Verification process for employer coverage (statistical sample only).

• Individual can enroll during verification process.

Exchange Eligibility Notice

• Notice to individual of eligibility determination after verification complete.

• Notice to employer if individual determined eligible for exchange subsidies after verification complete.

1 2 3

Employer Appeal IRS reporting & reconciliation

After close of calendar year, IRS has at least three sources of info to confirm subsidies were provided correctly:

• Employer reporting.

• Exchange reporting.

• Individual tax filing.

• Employer requests appeal within 90 days of notice described in step 3.

• Exchange tells employee of appeal request.

• Written appeal decision w/in 90 days of receipt of appeal request.

IRS Employer Shared Responsibility

process

IRS has said, after employee tax returns for coverage year are due:

• IRS will contact employer about possible liability.

• Employer response.• IRS notice & demand for

payment.

4 5 6

9


December 4, 2013

© 2013 MercerThis is for informational purposes only and is not intended to be used as legal advice.

EMPLOYER STRATEGIES FOR 2014 AND BEYOND


Employers React to HCR Pressure in 2014 and Make the News…

UPS drops coverage for working spouses and estimates covering children to age 26 will cost $60M

Starbucks announced that it will not be cutting benefits for spouses/partners or

reducing hours for workers so that they do not qualify for benefits

Darden and Sears joined a fully insured private exchange and Darden stopped

offering full time qualifying hours to many employees

Delta Airlines faces an increase of $100M in medical costs in 2014 between normal trend and ACA requirements (appears to

be at least 38% of the increase)

Xerox is increasing their working spouse surcharge to $1,500 annually in

2014

Walmart has been focusing on hiring temporary employees to manage

healthcare costs under ACA

The Hamilton School District in Trenton, NJ will be limiting substitute teachers to 4 days per week to avoid

30 hour per week threshold

Clothing retailer Forever 21 (27,000 employees total) announced

reclassification of non-management positions from FT to PT effective Sept. 1, 2013 based on a reduction of hours to a

maximum 29.5 hours per week11


December 4, 2013


Employers Taking Steps Now to Avoid the Excise Tax in 2018

39%

4%

6%

28%

48%

54%

Introduce a CDHP or take steps to increase enrollment in an existing CDHP

Drop a higher-cost health plan

Add or expand health management programs

Eliminate health care FSAs

Unbundle dental and medical plans

Other change(s)

Based on the 36% of respondents who say changes they are making for 2014 are influenced by their concerns over the 2018 excise tax

12Source: Mercer’s Survey on Health Care Reform: The Road to Implementation, 2013


13

Employer Strategies: Resetting Benefit ValueCDHPs, HSA-compatible near 60% plans

Median cost sharing* amounts for…

60%plan** PPO HMO

HSA-eligible CDHP

Deductible $3,500 $500 $500 $1,500

Hospital coinsurance 20% 20% 20% –

Out-of-pocket maximum $6,000 $2,250 – $3,000

Annual cost per employee

$10,007 $10,167 $7,833

* Cost sharing for individual, in-network coverage

** One of the three proposed minimum value safe harbor designs

For large employers, health reform sets bar for plan value at 60% of covered expenses – lower than for most employer-sponsored plans


December 4, 2013


Spousal Surcharge

Larger Employers More Likely to Require a Surcharge Than to Exclude Spouses With Other Coverage Available

Source: 2012 National Survey of Employer Sponsored Health Plans14


15

Aligning Other Program Elements With Choice, Accountability, Value

• Health incentives

• Telemedicine

• Transparency

• Voluntary Benefits


December 4, 2013


Employers are now focused on building employee engagement – and are seeing results

27%

39%

33%

45%48%

62%

All large employers Employers with 5,000 ormore employees

2010

2011

2012More employers are driving engagement

through financial incentives, most often cash or contribution

reductions

46%

24%

40%

53%

26%

50%

27%

17%17%

Health assessment completionrate

Lifestyle management program* Validated biometric screeningrate

All employers offering program

Employers offering incentivesEmployers not offering incentives

Large employers using incentives report higher participation rates

*Average % of identified persons actively engaged in program


4% 4% 4%

6%

9% 9% 9%

18%

Body massindex

Cholesterol Bloodpressure

Any

2011

2012

9%10%

12%

15%

2009 2010 2011 2012

Sharp growth in use of outcomes-based incentivesMore large employers linking incentives to what employees do about their health

Offer lower premium contributions to non-tobacco users

Provide incentives for achieving or maintaining health status targets


December 4, 2013


$10,337$11,226

PPO/POS cost per employee

4.4%

5.9%

PPO/POS cost per employeeAnnual total health benefit cost per employee in 2012

Change in cost from 2011

Analysis shows employers are successfully controlling cost through use of best practicesEmployers with 1,000+ employees

Employers that use the greatest number of best practices have lower costs and lower cost increases.

Employers using the most best practices

Employers using the fewest best practices

Source: 2012 National Survey of Employer Sponsored Health Plans


19December 9, 2013

Growing Interest in Private Health Care Exchanges

About a Third of Respondents are Considering Switching to a Private Exchange to Deliver Benefits to Retirees or Actives Within Two Years –and More Than Half Would Consider Switching Within Five Years

35%

22%18% 16%

57%

47%

31%

24%

In 2 years

In 5 years

Active employees Pre-Medicare-eligible retirees

Medicare-eligible retirees

Considering private exchanges for either

actives or retirees

Source: Mercer’s Survey on Health Care Reform: The Road to Implementation


December 4, 2013


20

How Does Defined Contribution Relate To Exchanges?

With private exchanges, employers can successfully implement defined contribution

• Offer employees an array of choices • Encourage employees to “buy down” to lower-cost medical

coverage and use remaining dollars for other purchases

Best achieved when employees can purchase other attractive products (life, accident, disability, critical illness, auto, etc.)

• Better meets employees’ personal needs • Helps manage their benefit spend

Defined contribution = Funding arrangement where employers manage their year-over-year increase in health and welfare benefits spend to a pre-defined amount


How Do Private Exchanges Work?

21

Election data

Funding

DC or DB

Employee communications

& education

• Online

• Call center

• Print & email

Administration

• Eligibility determination

• Data-driven events

• Election management

• Contribution calculation

Enrollment

Carriers

Payroll

HR Professionals

Deductions

Reporting & premium data

Standard plan designs

Choice among multiple, pre-

screened plans


December 4, 2013


Where are you?

The 60% minimum value plan is the new benchmark plan – how do your plans compare?

Employers started making dramatic changes to their medical benefits in 2010 for 2011…and have continued to do so…have you kept pace?

This is the “calm before the storm” – likely intense confusion based on public/press information. Do you have a communication plan?

Still waiting on reporting and disclosure requirements… in the meantime, do you have systems and tools in place to track employee hours and maintain records?

Compliance with the ACA is complex and requires cross-organizational effort and coordination. Are you ready?

Health care delivery is undergoing transformation – are you aware of the changes in your locations? Are you poised to take advantage of new opportunities?

22


CLOSING THOUGHTS ON EMPLOYER STRATEGIES AND HEALTH CARE TRANSFORMATION


December 4, 2013


24

Health Care Reform Will Drive Shifts in Heath Care Delivery and Employer Strategies

Today … In the future …

Defined benefit approach to medical. Defined contribution.

Self-insured medical plans sponsored by employers.

Private exchanges offering insured and self-insured medical options.

Large networks of providers, care is impersonal and illness focused.

Small networks providing more personalized care; quality focused.

Very little pricing transparency. Multiple ways to access pricing for medical care.

Small steps to make consumers accountable.

Greater accountability for health habits and health status.

Looming provider capacity and access crisis.

Provider system integration and re-ordering of care delivery model; use of

nurse practitioners matures.

Threat of excise tax; desire to avoid Material reduction in plan sponsor medical benefit design values.


Closing Thoughts…

• Short term – Employers focused on cost management and ACA compliance

– Expanded eligibility, minimum plan design, and affordable contributions in 2015.

– Excise tax in 2018.

• Still some unknowns about the ACA

– Auto-enrollment.

– Reporting and disclosure.

– Could there be more delays?

• Longer term – things will change!

– New products/approaches.

– Funding changes.

– Delivery system transformations.25


December 4, 2013

QUESTIONS?

E.J. [email protected]

MERCER

Mercer is not engaged in the practice of law and this presentation, which may include commenting on legal issues or regulations, does not constitute and is not a substitute for legal advice. Accordingly, Mercer recommends that employers secure the advice of competent legal counsel with respect to any legal matters related to this report or otherwise.

The information contained in this document and in any attachments is not intended by Mercer to be used, and it cannot be used, for the purpose of avoiding penalties under the Internal Revenue Code or imposed by any legislative body on the taxpayer or plan sponsor.

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