The Washington Court of Appeals has provided boards of directors, minority shareholders, and business appraisers with direction in their efforts to determine the "fair value" of dissenting shares.
Fair Value In Mergers and Acquisitions
Washington's Business Corporation Act requires the payment of "fair value" to dissenting shareholders who properly object to a corporate merger. In Matthew G. Norton Co. v. Smyth, decided on August 5, 2002, the directors of two closely held corporations agreed on a reorganization plan calling for the merger of one into the other. The corporations gave notice to their shareholders and scheduled meetings to vote on the proposal. The shareholders overwhelmingly approved the plan over the objections of one shareholder from each corporation.
The new company retained an accounting firm to value the shares of the two merged corporations for the purpose of calculating the "fair value" of the dissenters' shares. The accountants determined net values per share of each corporation, and the new company paid the dissenters accordingly. The dissenters objected to the accountants' methods, claiming their interests were undervalued by approximately 50%. The company filed suit to determine "fair value".
The trial court was asked to determine whether a lack of marketability discount and a built in capital gains tax discount should be considered in the valuation process.
Discounts May Not Be Appropriate
On appeal, the court stated that a "lack of marketability" discount may be appropriate in valuing assets at the corporate level but, absent extraordinary circumstances, no such discount may be applied at the shareholder level.
Determining Fair Value For Unwilling Sellers
The Court stated that if an arms-length buyer could reasonably demand a discount due to the lack of a market for illiquid shares of a closely held corporation, it might be appropriate to apply a lack of market discount. However, the court noted, dissenting shareholders are "unwilling sellers with no bargaining power." Accordingly, it is normally not appropriate to apply such a discount in determining "fair value."
No Built In Gains Discount
The court also held that it is not appropriate to apply a discount for the effect of capital gains taxes on appreciated corporate assets merely assuming the assets could be liquidated at an indefinite future time. If a particular asset sale is planned, such a discount may be appropriate."
In its ruling, the court made it clear that "fair value" is not the same as "fair market value."
Advice You Can Use
Perhaps the clearest message from Smyth is that, although "fair value" of a dissenter's equity stake may be proven by nearly any generally accepted appraisal technique, the determination of "fair value" requires the corporation to be valued as a going concern and corporate assets discounted, if at all, only at the corporate level and only with supporting proof.