Just as there is an infinite variety of ways in which majority shareholders in a company can mistreat a minority shareholder, the court also has creativity at its disposal when determining the appropriate remedy. It is tempting to dismiss share valuation as the province of expert valuers. However, this is to under-estimate the important questions of legal principle which can have a large bearing on the outcome of the dispute.
In this article, prompted by the recent quantum decision in Re Edwardian Group Ltd  EWHC 873 (Ch) Helen Evans and Anthony Jones of 4 New Square consider the range of valuation approaches available to a judge when ordering a share purchase.
Where does the court’s power to order a share purchase come from and what does it comprise?
Given the range of conduct giving rise to unfair prejudice petitions, the court’s power to grant an appropriate remedy is suitably broad. S. 996 of the Companies Act 2006 (“the 2006 Act”) permits a court that has found for the minority shareholder to “make such order as it thinks fit for giving relief in respect of the matters complained of”. In Re Bird Precision Bellows Ltd  Ch 658, Oliver LJ pointed out that the aim of s. 996 is to “confer on the court a very wide discretion to do what is considered fair and equitable in all the circumstances of the case, in order to put right and cure for the future the unfair prejudice which the petitioner has suffered at the hands of the other shareholders of the company”.
The most common order is a share purchase at a fair value, and this remedy is expressly listed at s. 996(2)(e) of the 2006 Act. However, even when making this order, the court has to ensure that it appropriately marks the wrongdoers’ conduct and compensates the petitioner. The main way in which it does this is by tailoring the value attributed to the shares.
Aren’t petitioners always hit with a minority discount?
One of the main problems with s. 996 from a petitioner’s perspective is that a minority discount is usually applied to the value of the shares. The extent to which this is a general rule is a matter of controversy (see article by Hugh Jory QC and Matthew Bradley on Re Blue Index Ltd  EWHC 2680 (Ch)).
A “minority discount” basis of valuation is shorthand for the market value of the minority shareholding, valued separately. This is generally less (and sometimes significantly less) than a pro rata percentage of the total value of the shares to reflect the size of the minority shareholding. A “non-discounted” basis of valuation is shorthand for a valuation of the entirety of the company, which is then apportioned pro rata between the shareholders.
Minority discounts can be an appropriate way to reflect a range of matters which disadvantage minority shareholders, including their lack of control over the strategy of the company (and its dividend policy) and the difficulty in marketing a small stake, particularly if the remainder of the shareholding is largely retained by a single “camp”. However, experts frequently disagree as to how to weigh these factors and what discount should result(see the recent quantum judgment in the Re Edwardian case  EWHC 873 (Ch) at p. 94 ff).
Minority shareholders often feel unduly penalised by the discounts applied to their shareholding. It should be plain that a minority discount can make a large difference to the outcome (particularly in small companies with no realistic market for the shares). It is for this reason that minority shareholders are often keen to argue that the company was a quasi-partnership (see article by Tom Ogden and John Williams). The general rule in such cases is that no minority discount is imposed on the petitioner (unless, for instance, he has acted in such a way to deserve being excluded from the company).
However, the inability to persuade the court that the petitioner should be treated as a quasi-partner does not deprive the court of ways in which it can adjust the valuation of the shares in order to compensate him more fairly.
Re Edwardian Group Ltd  1 B.C.L.C. 171 is a case where the petitioners were unable to prove that what had started out as a family hotel company but expanded significantly over the years was a quasi-partnership. However, Fancourt J identified a variety of methods to adjust the valuation of the shares to reflect more accurately the unfairness they had suffered.
What valuation approaches can the court use to assist petitioners?
Below- and inspired by Re Edwardian- we give two examples of ways in which courts can adjust the valuation basis in order to ensure a fair outcome.
The starting point is that the court can order wrongdoers to pay (or repay) sums to the company to mitigate the effect of their misconduct. In the liability decision in Re Edwardian, Fancourt J found that the majority shareholder had wrongfully derived profits from other companies and received excessive pay. He concluded that requiring these sums to be repaid would undo the particular prejudice caused by those breaches of duty. However, this would not wholly compensate the petitioners because the value of the shares would still be affected by the fact that the company had proved itself willing to engage in prejudicial conduct and lacked appropriate restraints on pay. Indeed, Fancourt J concluded that the “cumulative effect of the unfairly prejudicial conduct means that the shares must effectively be unsaleable in the open market.”
Against this backdrop, the petitioners in Re Edwardian sought to persuade Fancourt J to proceed on the basis of a non-discounted valuation (i.e. applying a pro rata share of the overall value of the company rather than by applying a minority discount). He declined to do so, but focused instead on the particular value that the minority shareholding had to the particular respondents. He found that it was wrong to proceed on the basis that the shares were being sold on the open market when in fact they were being acquired by the majority shareholder or the company itself. The shares were very much more valuable to those potential purchasers than they would be to an ordinary investor.
Fancourt J therefore found that the appropriate remedy lay in recognising the “marriage value” or “control premium” of the shares (by which he meant “the additional value created by putting two interests, properties or shareholdings together, rather than valuing them individually as separate holdings”). The consequence of this type of approach is to add a premium on top of the value of the minority shares. Indeed, the formula applied by Fancourt J expressly recognised that the aggregate value of the shares after the minority shareholding was acquired by the respondent was worth more than simply the sum of the majority and minority shareholdings pre-purchase.
However, there are restraints on the latitude allowed to minority shareholders in setting the formula for marriage value. In his quantum judgment in Re Edwardian, Fancourt J rejected a suggestion from the petitioner that a chance of achieving above-market prices should also be taken into account, rejecting the application of “loss of a chance” often found in professional negligence claims.
Date of valuation
The date at which the shares are to be valued is another variable that can be used to achieve a fair result. The starting point is that shares are usually valued as at the date of judgment, being the date on which the shares are ordered to be purchased: Profinance Trust SA v Gladstone  1 WLR 2014. However, the court is able to substitute a different date where that is more appropriate.
There are cases in which petitioners are able to persuade the court that by the time of the hearing, the value of the company has been significantly eroded by the wrongdoers (and an earlier valuation date should therefore be used). It is not difficult to imagine how wrongdoers might achieve their aims: diverting the company’s business or overpaying directors are just two methods that spring to mind. Although Profinance makes clear that a court will not choose an earlier date just to give the petitioner “the most advantageous exit from the company” it explains that adjusting the date of valuation may even be necessary if there has been a fall in the market (particularly if the wrongdoers’ conduct has been egregious).
What about respondents?
So far, we have been considering the position of petitioners. The flexibility in the approach to valuation described above is not however a one way street. Otherwise, it would prove tempting to petitioners to hold back commencing proceedings where a company is thriving and its value likely to rise.
Indeed, in Re Edwardian Fancourt J chose the date of valuation to suit the respondents rather than the petitioners. Although most of his criticism was focused at the main petitioner’s brother (the majority shareholder and one of the respondents), Fancourt J found that the petitioner had unreasonably delayed in bringing his petition. Such delay was “calculated” and “tactical”. The petitioners could and should have brought his case sooner, and the shares were accordingly valued at a date some 4 years earlier than the judgment.
We note in passing that the ability to adjust the valuation date to protect respondents is a powerful reason for respondents to consider making a suitable offer to buy out the shares at an independently valued sum (O’Neill v Phillips  1 WLR 1092 and Profinance).
What does all of this tell us?
The different approaches set out above are but some examples of the ways in which a court can adjust the approach to valuing the shares in order to ensure fair recompense for a petitioner. They demonstrate that valuation is not merely a matter for expert witnesses, but an essential part of the case strategy that must be identified and pursued by the legal team. Lawyers fail to spend sufficient time on the legal principles underpinning valuation at their peril.
Helen Evans and Anthony Jones
4 New Square
About the authors
Helen Evans (2001) is recognised in the directories as a leading junior in professional negligence, professional discipline and insurance. In May 2019 she was named by Who’s Who Legal as one of the two most highly regarded juniors in the professional negligence field. She has a particular interest in cases involving directors, shareholders and valuation. She is the co-author of the solicitors and barristers negligence chapters in Jackson & Powell on Professional Liability.
Anthony Jones (2011) practises across a broad range of commercial litigation, with a particular focus on company disputes and investment claims. He was recently junior counsel in the seven-week Re Edwardian unfair prejudice petition.