The purchaser of a company through merger often argues in a subsequent appraisal action that the price paid was too high and that the dissenting shareholder should be paid a lower amount. Tactically, it is important for the purchaser to impress the dissenting shareholder with down-side risk in pursuing the appraisal. The resulting inference of such a position is that the acquirer must have “overpaid” for the asset. To justify such a position, the acquirer may argue that his purchase price included a payment for so-called “synergies” that must be excluded from the going-concern value of the company. However, true “synergies” should be rarely acknowledged and quantified in appraisal proceedings.
The plain language of the appraisal statute sets the stage for the “synergies” argument because it requires the Court to determine the “fair value” of the shares “exclusive of any element of value arising from the accomplishment or expectation of the merger.” 8 Del. C.§ 262(h). What exactly does this mean, however? Consider the following hypothetical: Suppose a Company owns vast proven oil reserves, but lacks the capital necessary to drill wells and exploit the oil fields. If the Company markets itself, all potential bidders will bid for the property based upon their expected returns after making the capital investments necessary to exploit the oil reserves. Are these capital investments “synergies” because they constitute value that will be achieved only “through accomplishment of the merger? The answer should be “no.” If the Company sold the oil fields it would obtain offers that reflect the market value of the assets to purchasers who would use them. Shareholders who own the Company should share in the value of those reserves. On the other hand, what if the acquirer is willing to pay more for the Company because it is vertically integrating in an industry and will be able to extract greater value from the assets than would otherwise be possible? In that case, there is no reason to believe that the “synergy” created should be considered part of the going concern value on the date of the merger.
Although the above examples illustrate the complexity of the problem, many appraisal cases involve business opportunities that could have been pursued by the Company but had not yet reached fruition at the time of the merger. To deal with these situations, the Delaware courts have developed the concepts of “undue speculation” and “operative reality”. According to the Delaware Supreme Court in Weinberger v. UOP, Inc., 457 A.2d 701, 713 (Del 1983), the intent of the statute is to exclude only “speculative elements of value that may arise from the ‘accomplishment or expectation’ of the merger.” It is a “very narrow exception to the valuation process designed to eliminate use of pro forma data and projections of a speculative nature relating to completion of a merger.” In contrast, the “operative reality” of a company includes all “future prospects” that are ‘known or knowable” at the time of the merger –whether or not they have been achieved. MRI Radiology Assocs., P.A. v. Kessler, 898 A.2d 290, 315 (Del. Ch. 2006). The value of such “future prospects” rightly belong to the dissenting shareholder who would have presumably shared in their exploitation and realization had he been allowed to continue as a long-term owner in the concern.
In light of these principles, so-called “synergies” should be a narrow, rarely invoked exclusion to going concern value. When the acquirer is an insider or an investment professional, one should be very suspicious about alleged claims of synergies that are only first identified post-closing to downgrade the valuation analysis. Most claims of synergy will likely be nothing more than the financial exploitation of known or knowable prospects — like the oil fields in the example above. In the case of strategic buyers — who are either vertically or horizontally related to the Company — claims of synergy may be real. However, many analysts and lawyers believe that in order for synergy claims to be credible in an appraisal proceeding, they must be opportunities that the Company could never have identified or implemented on its own and should be quantified and disclosed to shareholders before they vote on the merger.