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Valuation Standards in Appraisal Proceedings — a Reply to Steve Bainbridge

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Steve Bainbridge was a good sport, as usual, and shared with me his recent comments on DGCL § 262(h)’s exclusion of value arising from the accomplishment or expectation of the merger. I sent him a few reactions, more or less as set forth below:

1. You say “I have always assumed that Weinberger thus allowed the chancery court to consider evidence of, among other things, control premia paid in comparable acquisitions.” As Professor Wachter and I approach it (I think our most recent article — 50 B.C. L. Rev. 1021, 1038, 1052-53 — does a better job of explaining all this), we see it differently: control has a distinct value to the person who owns or acquires it, and it cannot be viewed as belonging to dispersed public shareholders or minority shareholders. Accordingly, and in light of the statutory exclusion, and UOP’s ambiguity notwithstanding, we believe that it’s a mistake to appraise fair value under the Delaware appraisal statute by reference to transactions that reflect payment of a premium for control.

2. You also say that “The real issue, after all, ought to be whether the dissenting shareholders received a fair premium over market. In order to answer that question, one must start with the price paid in the merger and, if appropriate, work up from there.” Again, we would respectfully disagree: for one thing, and as we point out in our most recent article (50 B.C. L. Rev. at 1034), most appraisal cases arise where there is no meaningful market for the shares being appraised. We also doubt that share prices in efficient markets necessarily and systematically yield prices below “fair value,” measured by the “going concern value” standard.

3. You ask “given that appraisal is now a crap shoot in which one can end up with less than the price offered in the merger, why would any sane investor invoke appraisal rights?” Preliminarily, this isn’t the first time that an appraisal award has been less than the merger consideration. I’m too lazy to dig out earlier examples right now, but it’s definitely happened before. Anyway (and don’t blame Wachter for this opinion), I think the far greater obstacle to appraisal as a useful remedy are the procedural hurdles (opt in, no $$ until the bitter end) rather than the substantive valuation standards, which have given quite a few shareholders a real and surprising boon (windfall?).

4. Finally, you say “Likewise, the policy of giving dissenting shareholders a fair price for their shares calls for taking synergistic elements into account, while the policy of giving the shareholders the fair value of their stock in the company as a going concern calls for excluding such elements.” We’re with you 100% on the second part of this sentence, and we think that’s the governing legal rule. Again, though, we would disagree with the first half of the sentence: disaggregated shareholders don’t have control, and fairness doesn’t require that they be paid for what they don’t own.

And just a quick update: Steve’s response to this post asks how one can distinguish between future value permissibly taken into account in determining “fair value” from future value that is synergistic and disqualified for consideration. Here’s what I wrote back to him:

Fair question — I’ve always conceived of UOP’s principal contribution as overcoming a long held (and not altogether closely reasoned) antipathy to use of projections. In short, no DCF before UOP; post-UOP, practically always used. Future value encompasses the range of opportunities available to the stand-alone firm, and value of the future returns associated with those opportunities (as long as they’re not “speculative,” whatever that means — not reasonably foreseeable?). But the key words are “available to the stand-alone firm” — once the opportunity for future returns depends on a combination with a merger partner (i.e. is a synergistic value), that’s when I think 262(h) operates to require excluding any additional value associated with that opportunity.

Thanks for the opportunity to put off some more grading.

And here’s some more explanation from my co-author Professor Wachter:

Let me add to Larry’s remarks. In Corporate Finance (at least the finance of corporate finance) we teach that the value of the firm is the value of the discounted free cash flows of its current assets plus the PVGO (present value of future growth opportunities). The PVGO, particularly for firms in appraisal is often the larger of the two. I think of it as the corporation’s existing corporate policy which normally includes several years of continuing investments. The more specific the existing corporate policy, the more likely that the petitioner can get those values included in the appraisal. The respondent can question the value of these future opportunities, but they do indeed belong to the corporation at that time. These opportunities are distinct from synergies resulting from a merger. I use the stock market’s valuation of Amazon as an example. That company’s valuation is mostly the present value of future growth opportunities.

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