“Appraisal after Dell” by Professor Guhan Subramanian has been published in the book “The Corporate Contract in Changing Times: Is the Law Keeping up?”  While the book covers a number of topics in recent corporate law, including challenges to Delaware primacy, activism, and disclosure-only settlements with respect to mergers, it also covers the oft-changing world of appraisal via Professor Subramanian’s article.  In “Appraisal after Dell” the Professor argues that Dell and other recent cases have swung the appraisal “pendulum” towards deal price.  Of perhaps more interest to practitioners and investors are the implications the Professor sees from Dell and recent cases: the creation of a “tactical choice” for sell-side boards to either have a “good” (i.e., Dell compliant) deal process, or the added risk of post-closing appraisal challenges – with the dissemination of Dell-compliant deal processes a slow process unless appraisal remains a meaningful remedy.  The Professor also examines the implications of the “who decides” aspect of the Dell decision – arguing that Chancery Court judges will seek to appeal-proof their decisions by finding possibly false clarity in otherwise shades-of-grey deal processes.  We note that the Professor was the expert for Dell in their appraisal case and has written on this topic before.

The article (and book more generally) set out a useful recounting of the potential questions remaining post-Dell.  But with the caselaw changing as fast as it is, no doubt yet additional academic commentary will be needed in the future.

JDSupra has published an article discussing recent valuation issues in five states: Louisiana, Georgia, West Virginia, Alaska, and Pennsylvania.

While each decision covered is worth discussion in its own right, a comparative analysis of this kind lends itself to highlighting the similarities and differences between the states.  In particular, how (and if) each state applies various discounts, including discounts for lack of marketability and minority discounts varies.  Thus, as an example, the Louisiana case highlighted explicitly disallowed marketability and minority discounts (commensurate with Louisiana law); in the West Virginia case, a juries rejection of marketability and minority discounts was sustained, but the door was at least open to a jury adopting such discounts in another case.  And in the Georgia case, it was the wording of the contract, along with the policy expressed in Georgia’s appraisal regime, that led the Court to uphold a decision providing no minority discount in that case.

Whether to apply minority, marketability, or similar discounts in an appraisal valuation is a critical topic in numerous appraisal jurisdictions – including ones we have covered previously like Iowa, Arizona, and the Cayman Islands.  Analysis of discounts can sometimes receive short-shrift in the broader world of appraisal as Delaware does not allow for a minority discount in appraisal.  Thus, we are often left looking to other states (and sometimes foreign jurisdictions) to understand how different courts treat such discounts in an appraisal proceeding.

In late March, Michigan Law hosted Professor Hidefusa Iida to discuss appraisal rights in Japan.  Professor Iida previously published on appraisal rights in Japan, including in a 2014 article “Reappraising the Role of Appraisal Remedy.” The basics of Japanese appraisal, from Professor Iida’s article and this analysis, are similar to Delaware. Shareholders who dissent from certain major corporate actions, in particular, mergers, can – as in Delaware – demand ‘appraisal’ of their shares, meaning that a Court will fix the “fair value” of the shares. Indeed, before appraisal rights in Delaware became a regular fixture of investor protection, some academics were already looking to Japan as a pro-investor forum, citing appraisal rights as one key facetOther commentary has also viewed the Japanese appraisal remedy as a critical minority shareholder protection (or weapon, as the verbiage may be).

We will continue to cover Japanese appraisal as further items develop.

Business divorce can arise in any privately owned business, often without warning. These can be divisive, long-lasting and expensive—straining both stakeholders and the business.

The business valuator must carefully scrutinize the characteristics in the interest being valued to determine stakeholder equity. This includes reviewing business information and assessing equity risk in order to produce a value conclusion addressing those risk factors.

Discounts may apply in some situations. Valuation discounts are essentially the difference between fair value and fair market value.  Discount applicability in a business divorce matters varies by state and alleged action.

The two main discounts considered in a business divorce engagement are a (1) discount for lack of control (DLOC); and (2) discount for lack of marketability (DLOM).

A DLOC is a reduction in an entity’s equity interest value due to a stakeholder’s lack of ability to exercise control. The value of an equity interest for a stakeholder in a minority position should have less monetary value than one with majority control.

A DLOC considers the benefits of control not available to a stakeholder’s minority equity ownership position and generally includes the ability to:

  • Change or appoint management.
  • Change the bylaws and articles of incorporation.
  • Influence and control the board.
  • Control management compensation.
  • Sell, recapitalize or liquidate the company.
  • Declare/pay shareholder dividends.
  • Lease, liquidate or acquire business assets.
  • Influence the company’s course of business.
  • Sell the entity.

A DLOM is a reduction in an entity’s equity interest value due to a stakeholders’ inability to convert or sell their interest quickly and with amount certainty. When quantifying a DLOM, the business valuator must understand the impact of these company characteristics:

  • If the equity interest is private or publicly owned.
  • Financial condition per the financial statements.
  • Dividend-paying policy and history.
  • Nature of the company, its history, industry position and economic outlook.
  • Control implicit in interest to be transferred.
  • Management depth and quality.
  • Restrictions on interest transferability.
  • Interest holding period.
  • IPO costs.

For both DLOCs and DLOMs, business valuators use various empirical studies to support the discounts chosen. Ultimately, business valuations are an estimate of value at point in time. They are based on information provided by both parties along with external and market sources. Therefore, if you choose not to retain a qualified professional to help with the business valuation process, you do so at your own peril.

** Lowenstein Sandler LLP thanks Hubert Klein of EisnerAmper LLP for his contribution to this blog. You can find more on Mr. Klein’s practice here.

As we have noted repeatedly, appraisal is a shareholder-protective remedy.  While much of the academic and media commentary on appraisal focuses on Delaware and appraisal in the context of large public mergers, appraisal exists beyond Delaware, and in contexts far removed from headline making mergers. For example, in New York, appraisal rights are afforded to minority members of an LLC when they are involuntarily cashed out of their LLC – often referred to as a freezeout. The relevant statutes, New York’s Limited Liability Company Law  §1005(b) and New York’s Business Corporation Law (BCL) §623, provide that when a former LLC member “disputes the company’s calculation of the fair market value of the former member’s interest, then a special proceeding must be commenced to fix its value” – i.e., an appraisal proceeding.

As with many appraisal regimes, the rights or appraisal come with a limitation: here, barring fraud or illegality in the freeze-out, appraisal is likely to be the sole remedy available to the disaffected minority member – in particular, if the majority members have followed the relevant corporate formalities and otherwise effectuated the freezeout within the confines of New York law. But, caselaw maintains an exception to the likely appraisal-only remedy: when a freezeout is effectuated for an improper purposes, done fraudulently, or does not follow New York law – then equitable relief may be available.

 

For a more extensive discussion of New York LLC appraisal, when it is the sole remedy, and when fraud or illegality may allow for other remedies or claims, see this New York Law Journal article.