Exit remedies for minority shareholders in close companies (IVOR nr. 82) 2011/3.3.6.1.2:3.3.6.1.2 New trend:• expanded Delaware block method

Exit remedies for minority shareholders in close companies (IVOR nr. 82) 2011/3.3.6.1.2

3.3.6.1.2 New trend:• expanded Delaware block method

Documentgegevens:

dr. Q. Wang, datum 02-05-2011

Datum: 02-05-2011
Auteur: dr. Q. Wang
JCDI: JCDI:ADS402991:1
Vakgebied(en): Ondernemingsrecht (V)

In Weinberger v. UOP, the Delaware Supreme Court admitted the limitations of the conventional approach and expanded the traditional block method. The Delaware court gave the reasoning supporting a new and liberal valuation approach in Weinberger v. UOP:

“… however, to the extent it (block method) excludes other generally accepted techniques used in the financial community and the courts, it is now clearly outmoded. It is time we recognize this in appraisal and other stock valuation proceedings and bring our law current on the subject.

….. accordingly, the standard Delaware block or weighted average method of valuation, formerly employed in appraisal and other stock valuation cases, shall no longer exclusively control such proceedings. We believe that a more liberal approach must include prooi' of value by any techniques or method, which are generally considered acceptable in the financial community and otherwise admissible in court, subject only to our interpretation of 8 Del. C. s. 262 (h), infra...."

This new trend casts aside the exclusivity of the block method in valuation and allows for the use of many other sophisticated methods and models to determine price in the appraisal remedy. Since Weinberger, the Delaware court has increasingly turned to a discounted cash flow (DCF) technique which focuses on the future prospects of the business to determine the value of a corporation.1 The DCF method will be explained in the next subsection. Whatever method is employed, valuation is not a science, but a good guess for the future, so a judicial determination of value entails uncertainty.2

The RMBCA and the Principles adopt the prevailing provision in Delaware law and specify that in appraisal, the court should use customary and current valuation concepts; techniques generally employed for similar businesses.3 None of these statutes or recommendations tries to formulate a single standard in determining fair value in all contexts. It is recognized that sensible elements for calculation in one case would be inappropriate if used in other cases.4

The business judgment rule,5 does not allow judicial determination of fair value to substitute for judgments made by the board, except onder special circumstances. The Principles specify in 7.22 (b) and (c) that in the absence of a conflict of interest, the decision made by a disinterested board should be deemed more appropriate than a court valuation unless the plaintiff can show by clear and convincing evidence that the board has undervalued the firm.6 When a transaction is self-interested,7 according to the Principles, the court should give substantial weight to the highest realistic price that a willing, able, and fully informed buyer would pay for the corporation in its entirety. Consequently, when a merger is self-interested, there is a hierarchy of valuation methods in the Principles. The primary consideration is an offer by an unaffiliated and willing party. If such an offer is not available, the customary methods apply. This viewpoint may be backed up by the common sense that the value of an asset is whatever someone is willing to pay for it,8 and anything other than an actual bona fide third-party sale is only a good guess.9

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John J. Andaloro, et al. v. PFPC Worldwide Inc., A.2d, 2005 WL 2045640, (Del.Ch.2005) ('The DCF model of valuation is a standard one that gives life to the finance principle that firms should be valued based on the expected value of their future cash flows, discounted to present value in a menner that accounts for risk. The DCF method is frequently used in this court and, I, like many others, prefer to give it great, and sometimes even exclusive, weight when it may be used responsibly.'); see also Donald J. Wolfe, Jr. & Michael A. Pittenger, Corporate and Commercial Practice in the Delaware Court of Chancery, § 8-10[d], 8-161 (Release No. 5, 2004). ('Since Weinberger, nearly all appraisals have utilized some type of DCF methodology....'). A general introduction of this method is in section 3.3.6.1.3.

Arthur R. Pinto & Douglas M. Branson, op cit., p. 128. See also Matter of Shell Oil Co., 1992, 607 A. 2d 1213: 'Valuation is an art rather than a science in appraisal proceedings for minority shares.'

The Principles, 7.22 (a): Fair value should be determined using the customary valuation concepts and techniques generally employed in the relevant securities and fmancial markets for similar business in the context of the transaction giving rise to appraisal. RMBCA 13.01 (4): 'Fair value' means the value of the corporation's shares determined: (i) immediately before the effectuation of the corporate action to which the shareholder objects; (ii) using customary and current valuation concepts and techniques generally employed for similar businesses in the context of the transaction requiring appraisal; and (iii) without discounting for lack of marketability or minority status except, if appropriate, for amendments to the articles pursuant to section 13.02(a)(5).

In the Matter of Endicott Johnson Corp. v. Bade, 37 N.Y. 2d 585, 376 N.Y.S. 2d 103, 338 N.E. 3d 614, 1975.

The business judgement mle presumes that 'when corporate directors make a business decision, they act independently, on an informed basis, in good faith, without abusing their discretion' (Melvin Aron Eisenberg, Corporations and Other Business Organizations, Eighth Edition, Foundation Press, 2000, p. 455.), and thus, 'unless shareholders can dislodge the rule's presumption by showing that management violated its duties of care or loyalty, shareholders are precluded from second guessing the wisdom of their directors' business decisions.' (Melvin Aron Eisenberg, Corporations and Other Business Organizations, Eighth Edition, Foundation Press, 2000, p. 455.) Consequently, where the court usually stands is: even though it is plain that what the directors have done is unwise and a better policy could have been applied for a more successful result, the court will not question that and will not substitute its judgment for the policy and business decisions made by the directors which are intended for the common and general interests of the corporation. (Pollitz v. Wabash R.R. Co., 207 N. Y. 113, 124, 100 N.E. 721, 723-24 (1912). Wheeler v. Pullman Iron & Steel Co., 143 III. 197, 207-208, 32 N.E. 420, 423 (1892).)

Principles of Corporate Governance: Analysis and Recommendations, American Law Institute, 1994. Part VII, Chapter 4, The Appraisal Remedy, p. 319.

ALI 7.22. The conflicted situation in this article specifically embraces: transfer of control in which a director or principal senior executive is interested, or transaction in control involving corporate combinations to which a majority shareholder is a party.

See Glenn M. Desmond & Richard E. Kelley, Business Valuation Handbook 1 (1988).

However, when applying this standard, one should give considerations to the following factor: Third-party sales value should apply with respect to a sale of the corporation as a whole, and not to a sale of the discenting shareholders' minority interest.