Fair Value in Statutory Appraisal

Abstract

This presentation discusses ”fair value,’ which is the standard of value in statutory appraisals. Ir focuses primarily on determination of fair value by the Delaware Court of Chancery.

Full text

Value What? What Value?
Fair Value in
Statutory Appraisal
Gilbert E. Matthews, CFA
American Society of Appraisers
Advanced Business Valuation Conference
September 12, 2016

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FAIR VALUE – WHY DOES IT MATTER?
•
•
•
•
•
•
•
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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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What Is Statutory Appraisal?
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WHAT IS STATUTORY APPRAISAL?
 !
a limited legislative remedy which is intended to provide
minority shareholders who dissent from a merger
asserting the inadequacy of the [consideration received]
with an independent judicial determination of the fair
value of their shares [emphasis added].
"##$%%""&%"'($)**)+
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THE STANDARD OF VALUE IN
STATUTORY APPRAISAL IS “FAIR VALUE”
,(+&

 -
.
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WHEN APPRAISAL RIGHTS ARISE

/

00
!
1221

3

.4
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THE ROLE OF THE JUDICIARY IN APPRAISAL
0
5&
&
6
7070

610.&.
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PREEMINENCE OF DELAWARE
8
0
9.:$ $0
;5<

0=0
>55?7?
10
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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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What Is Fair Value
in an Appraisal?
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COMMON STATUTORY DEFINITION OF
FAIR VALUE
0
!
“Fair value” is defined as the value of the shares
immediately before the effective date of the corporate
action to which the dissenter objects, excluding any
appreciation or depreciation in anticipation of the
corporate action.
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FAIR VALUE IS
PROPORTIONATE SHARE OF EQUITY VALUE
/2
01
 54
=!
The basic concept of value under the appraisal statute is that the
stockholder is entitled to be paid for that which has been taken
from him, viz., his proportionate interest in a going concern.
@A$%@)&@%($)*"B+
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HOW FAIR VALUE DIFFERS FROM
FAIR MARKET VALUE (1)
The concept of fair value under Delaware law is not
equivalent to the economic concept of fair market value.
Rather, the concept of fair value for purposes of
Delaware's appraisal statute is a largely judge-made
creation, freighted with policy considerations.
 !"#&%BB"$5$<CD, "E($%"&%BB"+F)%
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HOW FAIR VALUE DIFFERS FROM
FAIR MARKET VALUE (2)
G1?1?
110&0
G1(
4+
$"$&1=&0

G-
;8
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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
DELAWARE FAIR VALUE ≠ FINANCIAL
CONTROL
H00
00&I
/
$"$&4=

,==
14


SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
DELAWARE FAIR VALUE ≠ FINANCIAL
CONTROL (2)
&0
/
60&
 =0/
.=02
&0/0
=0
15


SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
SOME STATES APPLY FINANCIAL CONTROL
VALUE
> J59!
the [fair] value of an enterprise ... is the price a knowledgeable
buyer would pay for the entire corporation.
%&$$#$&A*%K$C$%))%%&))%"(9$)*#'+
 && J5
9
/F
 '!&
5&G&,&,&9&6&
6
((((((((((((((((((((((((((((((((((((((((((((((((((((((((((((((((
)#*&% &'!+$&"'"$%**@&)BBA(9$)*#*+
16


SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
FAIR VALUE IS NOT STRATEGIC CONTROL
VALUE
G?

[M]inority shareholders have no legal right to demand that
the controlling shareholder achieve — and that they be paid
— the value that might be obtained in a hypothetical third-
party sale.
<$9<$&,*
&-.!.E)J$5$<))*&)"A
(%BB"+(5/+
17


SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
The Dell Decision
and Appraisal Arbitrage
18


SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
DELL HIGHLIGHTS FAIR VALUE AS NEITHER
FAIR MARKET VALUE NOR DEAL PRICE
L55
&-0&

<HMF
540NO'0
<HM1%B)E
50,LL<HM0
PPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPP
F#/0&#&%B)'$5$<CD, #)(9E)&%B)'+
19

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
DELL’S FAIR VALUE WAS 27% GREATER
THAN THE TRANSACTION PRICE
>?O)E$##
52?O)@$'%
&7-
0?/
7
3
1&
0
20

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
FAIR VALUE AND FAIRNESS OPINIONS
,0144

5!
[T]he [Special] Committee did not focus on fair value. In the proxy
statement, the directors disclosed that the “Committee did not seek to
determine a pre-merger going concern value for the Common Stock to
determine the fairness of the merger consideration to the Company's
unaffiliated stockholders.”
F*@2F*#
7!500
2
00
21

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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APPRAISAL ARBITRAGE
=0
,??041I
.
 /0
0
/027
0
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INCREASE CAUSED PRIMARILY BY
INTEREST ON APPRAISAL AWARDS
 %BB#&
H
"QG
0

•)&%B)'&
0
•5
1
•C-1
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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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Components of Fair Value
in Delaware
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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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GOING-CONCERN VALUE
?going-concern value
,&20!
=&

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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VALUE OF REINVESTMENT OPPORTUNITIES
IS INCLUDED
[G]oing concern value must include not only the
discounted free cash flow to be generated by the
corporation’s [existing] assets, but also the discounted
free cash flow to be generated by the reinvestment
opportunities anticipated by the corporation.
&/1"%
&"BH$5$<$L$)B%)&)B%%(%BB*+
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“OPERATIVE REALITY”
;200

0
&00-
(
=+
>
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DISCRETIONARY SPENDING IS OPERATIVE
REALITY
54.
=
$"&..0
4=

Because a reduction in R&D expense only could be made by a
new controller ..., adjustments to reflect those changes would
generate a third-party sale value, not going concern value.
/21%"$&%#$EAA%&A@)($5$
%B))+R-S
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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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FAIR VALUE INCLUDES CHANGES
CONTEMPLATED BY MANAGEMENT
[When] a controlling shareholder is acquiring the minority
shares, the courts have interpreted “fair value” to include
elements of value that arise from assets or plans that were not
in place operationally at the time of the merger.
T&-)"*
8=
•
•0/
•
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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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FUTURE PLANS ARE CONSIDERED
=
/0&=0

[I]f the concept of opening [additional MRI centers] was part of the
business plans of Delaware Radiology as of the merger date, then
the value of those expansion plans must be taken into account in
valuing Delaware Radiology as a going concern.
...
The expansion plans ... were clearly part of the operative reality of
Delaware Radiology as of the merger date and ... must be valued in
the appraisal.
+'/#/"3, #*#$%%*B&E)EE)'($5$%BB'+
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... UNLESS THEY ARE TOO SPECULATIVE
M&55.
.0!
I find that the Georgia Case was too speculative to be
included ... Just Care could not undertake the expansion
unilaterally without a decision by Georgia to move forward.
The fact that the Company ... had taken actions
in furtherance of that goal is insufficient to make
the Georgia Case part of Just Care’s operative
reality
45#$&%B)%$5$<CD, *)F%A
5002=
=01

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BENEFITS OBTAINABLE BY
CURRENT CONTROLLER ARE INCLUDED
,0/&
0/
The cost savings attributed to the consolidation were
properly includable ... because they were contemplated
well before the going private merger and could have
been achieved without it. [The controller] had the power to
accomplish those savings without a business combination,
such as by intercompany contractual
arrangements.
#$""#%,,!"
%BBA$5$<CD, @B(9E&%BBA+FA#?A*
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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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PROSPECTIVE IMPROVEMENTS NOT
DEPENDENT
ON TRANSACTION ARE INCLUDED
K22
5
1

[The expert] should have incorporated the effects of this
expected capital improvement in his projections.
#6%+"&%BB"$5$<CD, )(J&'&%BB"+F"'$
33

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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PLANS OF THIRD-PARTY ACQUIRORS
ARE NORMALLY NOT CONSIDERED
=0,
707
,=!
,I7
&"71"&
401
34

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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THE EXCEPTION TO THE RULE
 5)**'
0/101
07322F
74/0

>&00.
74&4
PPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPPP
F8,#'#A$%%#*&%*#2*($)**'+

35

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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EXCESSIVE COMPENSATION
C=0
0/
&& 5..
4=
[I]n the absence of a derivative claim attacking excessive
compensation, the underlying issue of whether such costs
may be adjusted may not be considered in an
appraisal proceeding [emphasis added].
4%",.,#@B)$%E"@&E'E
($)**@+
36


SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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IMPROPER BENEFITS TO CONTROLLER:
DOBLER V. MONTGOMERY CELLULAR
5'".
!
excessive management fees, an unexplained inter-company
loan, an unexplained corporate allocation, and an
overcharge by a vendor [as well as] the sale and
leaseback of Montgomery’s cell sites and towers
[which] was clearly an inappropriate exaction by [the control
party] due to its corporate control.
'"2"%BBA$5$<CD, )E*
(M$A&%BBA+F'*
37

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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A USURPED CORPORATE OPPORTUNITY:
ONTI V. INTEGRA BANK
5+#0
I732
8-11
0
5-!
I think it is clear that it is “not the product of speculation”
that the [subsequent] Transaction was effectively in
place at the time of the Cash-Out
Mergers.
+###" &@")$%*BA&*)@2)#($5$)***+
38

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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TAXES ARE CONSIDERED ONLY IF
THEY ARE “OPERATIVE REALITY”
‘
8=1

> 5
==
!
[S]ale of its appreciated investment assets was not part of
Okeechobee’s operative reality on the date of the merger.
Therefore, the Court of Chancery should have excluded any
deduction for the speculative future tax liabilities.
 &@A@$%"A*&""%($%BBB+
39

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
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Valua@on Methods in Delaware
40


SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
WEINBERGER V. UOP, INC.
 549"!
[F]air value [should] be determined by taking into account
all relevant factors. ...
[A] more liberal approach must include proof of value by
any techniques or methods which are generally considered
acceptable in the financial community and otherwise
admissible in court. ...
9"6+#$&A"@$%@B)&@)%2)E($)*#E+
41

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VALUATION METHODS NOW GENERALLY
ACCEPTED BY DELAWARE COURTS
80
!
•U
•50
•507
o50(+

42

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
THE DELAWARE COURTS FAVOR DCF
85G
5.
0
5G..70&"!
Because I have little confidence in the reliability of
[the projections], I conclude that a DCF analysis is
not the appropriate method of valuation in this case.
2:#;,3<#%B)E$5$<CD, %'*(K$)&%B)E+FE"
5=
43

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
OTHER METHODS
50
/0
50
.


L0
44

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
NORMALIZING
,03=

K3.
=0&0
55=3
!
The earnings figures used to derive the earnings base should be
adjusted to eliminate non-recurring gains and losses.
/21%"A@B
45

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
SOME RECENT DECISIONS HAVE
CONSIDERED TRANSACTION PRICE
:&

&/55
(&&+
42F
(((((((((((((((((((((((((((((((((((((((((((((((((((((((((((((((((((((
)2:#3<#$&%B)E$5$<CD, %'%(K$)&%B)E+V:;&%B)"
$<CD, @@(G0$)%&%B)"+
#/&#&%B)"$5$<CD, %)(J$EB&%B)"+
'!#&#&%B)"$5$<CD, )%#($EB&%B)"+
!",!!/#$&%B)"$5$<CD, )@@(JEB&%B)"+
'!'%=.#%B)"$5$<CD, %'"(M$%)&%B)"+
46

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
47
Discounts and Premiums


SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
MOST STATES REJECT BOTH
MINORITY AND MARKETABILITY
DISCOUNTS
AT THE SHAREHOLDER LEVEL
G=1
10
8
1?

10
.1

48

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
DISCOUNTS WOULD PENALIZE
MINORITY SHAREHOLDERS
=10


&
7&.
0/
,&0
32

49

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GIL@SUTTERSF.COM
NO DISCOUNTS IN DELAWARE APPRAISALS
 5=0F
03
910

KW1&&<M9
A discount for lack of marketability is properly factored into the
equation because the shares of a closely held corporation cannot
be readily sold on a public market.
'&  "&)B@$$%)E*&)A*(K$W$$)*#"+
(((((((((((((((((((((((((((((((((((((((((((((((((((
)+2"'A$%))E@&))A"($)*#*+

50

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
DELAWARE GENERALLY REJECTS
CONTROL PREMIUM AT PARENT LEVEL (1)
TO THE VALUE OF SUBSIDIARIES
.
& 5)**%
0
40
,55
20
2/'BE$%@*'&#BA($)**%+

0)**B&0
51

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
DELAWARE GENERALLY REJECTS
CONTROL PREMIUM AT PARENT LEVEL (2)
TO VALUE OF SUBSIDIARIES
55=0
0!
It seems a fine point to conclude that the value of the entity as a
going concern includes the potential to sell controlled subsidiaries
for a premium but not the potential to sell the entity itself.
":'@*)$%##B&#*#$A"($5$%BB)+
o>265 &":&
5J 5
52

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
Two States Do Not Use
the “Fair Value” Standard
53

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
OHIO’S UNFAVORABLE STANDARD IN
APPRAISALS
M4?&
1
,1&M0
1
9&10.
1
54

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
OHIO DISSENTERS ARE HARMED
M5

!
[Appraisal] is likely to produce a fair cash value to be paid
[to] dissenting shareholders different from that received
by assenting shareholders unless the
fundamental corporate change is found to have had absolutely no
effect on the market price of the stock, an
unlikely possibility.
"',+$&"#EK$C$%A'%&A'@(M$)**B+
55

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
CALIFORNIA IS ALSO UNFAVORABLE
FOR DISSENTERS
51
,0/

,=

;/&
5
&5
56

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
Summary
57

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
SUMMARY
G2
G0/
0
G1
,&110

 
8
0
58

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SUTTER SECURITIES INCORPORATED GILBERT E. MATTHEWS
GIL@SUTTERSF.COM
>7.
59