June 2010 | Issue 46
The Delaware Court of Chancery focused on two frequently-encountered valuation issues in a recent appraisal action opinion, Berger v. Pubco Corp., et al. (C. A. No. 3414-CC; May 10, 2010). The parties to this case had agreed by stipulation to submit two valuation issues to the Court: the control premium issue and the capital gains tax issue.
Control Premium Issue
A control premium in a business valuation is an adjustment designed to incorporate into the valuation the increment of value attributable to a party’s holding a controlling interest in a company rather than a minority interest. Since the control premium represents the difference between the value of a minority interest and the value of a controlling interest, it is normally applied “on top of” a minority interest value.
In this case, the appraisers had utilized the discounted cash flow method and the book value method of valuation to value Pubco They had not used the comparable public company method. “Under Delaware law,” the Court said, “it is appropriate to add a control premium when appraisers use a comparable public company methodology.” Since the comparable public company method was not used by either appraiser in this case, the Court concluded that it was not appropriate to apply a control premium in this case. The Court went on to say that “cases decided in the Court of Chancery since Rapid-American 603 A.2d 796 (Del. 1992) have clearly held that the addition of a control premium to a discounted cash flow valuation, as here, is not appropriate.”
Capital Gains Tax Issue
The capital gains tax that was at issue in this case was imbedded in a portfolio of securities held by Pubco. The company owned a significant portfolio of securities, some of which had market prices on the valuation date that exceeded their purchase prices. It was the capital gains tax liability that might be incurred if these securities were sold and the effect that such tax should have on the valuation that was at issue between the parties.
The Court concluded that the value should not be adjusted downward to account for this latent tax liability. It came to this conclusion because Pubco had no particular schedule regarding the disposition of any securities in its portfolio. The Court cited Paskill Corp v. Alcoma Corp. 747 A.2d 549 (Del. 2000), a Delaware Supreme Court case, which held that it was improper to apply a deduction to an asset valuation based on speculative tax liabilities attributed to sales that were not specifically contemplated at the merger date. The Pascal holding was based on the principle of Delaware appraisal law that entitles the dissenter in an appraisal action to receive a proportionate share of the fair value in the going concern on the date of the merger, rather than the value that is determined on a liquidated basis. Since there was no evidence that any particular Pubco asset would be sold at any particular date, the Court declined to make an adjustment for the potential tax liability.