Fair Value in New York Shareholder Actions
The standard of value in New York is defined in case law as fair value. Fair value is very similar to the fair market value standard as defined in the Treasury Regulations for federal estate and gift taxes except for two major differences. The first is the applicability of valuation discounts, namely discounts for lack of control and lack of marketability. The second is the ability of the court to look at post-valuation date factors related to the transaction giving rise to the appraisal action.
In New York, fair value in both oppressed shareholder and dissenting shareholder appraisal actions, under NY BCL § 1118 and § 623 respectively, does not allow for the application of a discount for lack of control, but does allow the appraiser to consider discounts for lack of marketability. This differs from the fair market value standard which allows for the application of both the discount of lack of control and discount for lack of marketability.
The seminal case Freidman v. Beway Realty Corp. sets forth a summary of the salient points regarding fair value in the State of New York. These points, quoted directly from the Friedman decision, are as follows:
- The fair value of a dissenter's shares is to be determined on their worth in a going concern, not in liquidation, and fair value is not necessarily tied to market value as reflected in actual stock trading (Matter of Fulton, 257 N.Y. 487, 492). "The purpose of the statute being to save the dissenting stockholder from loss by reason of the change in the nature of the business, he [or she] is entitled to receive the value of his [or her] stock for sale or its value for investment" (id., at 494 [emphasis supplied]).
- The three major elements of fair value are net asset value, investment value and market value. The particular facts and circumstances will dictate which element predominates, and not all three elements must influence the result (Matter of Endicott Johnson Corp. v Bade, 37 N.Y.2d 585, 587-588).
- Fair value requires that the dissenting stockholder be paid for his or her proportionate interest in a going concern, that is, the intrinsic value of the shareholder's economic interest in the corporate enterprise (Matter of Cawley v SCM Corp., 72 N.Y.2d 465, 474).
- By virtue of the 1982 amendment to Business Corporation Law § 623 (h) (4) (L 1982, ch 202, § 9), fair value determinations should take into account the subsequent economic impact on value of the very transaction giving rise to appraisal rights, as supplemental to the three basic value factors (net asset, investment and market values).
- Determinations of the fair value of a dissenter's shares are governed by the statutory provisions of the Business Corporation Law that require equal treatment of all shares of the same class of stock (Matter of Cawley, supra, at 473).
The Court in Friedman also explained that the rationale for disallowing discounts for lack of control as part of the fair value standard in New York is to protect minority shareholders from receiving unfair value (or less than pro rata value) for their shares while the controlling shareholders operate the company to their own liking.
While discounts for lack of control are not allowed under the fair value standard in New York, discounts for lack of marketability should be considered. The Court has the ultimate discretion on if the discount for lack of marketability should be applied, and to what extent it should be applied.
Recent Court decisions have shown that there is no "standard" that can be relied on with respect to applying a discount for lack of marketability and that such discounts will be applied on a case by case basis. For example, in October 2014, the Court in Zelouf International Corp. v. Nahal Zelouf decided not to apply a discount for lack of marketability. Several days later however, another New York Court in John M. Ferolito and JMF Investments Holdings, Inc. v AriZona Beverages USA LLC, AZ National Distributors LLC, AriZona Beverage Company LLC and AriZona International, LLC determined that a 25 percent discount for lack of marketability was applicable.
With respect to post-valuation date transactions, BCL § 623 was amended to allow the Court to consider the economic impact of the transaction giving rise to the appraisal rights. This is an important distinction from fair market value in which events occurring after the specified valuation date may not be considered. Analyzing the transaction that gives rise to appraisal rights, or the action that led to shareholder dissent, is a powerful tool enabling the Court to determine a fair result. If the transaction was unfair and was a result of bad actions by controlling shareholders, the Court will consider this in the decision. If the transaction appeared to be concluded at a fair price, this could be looked at as the true fair value for a company and could influence the Court's decision.
Overall, by disallowing the discount for lack of control but allowing the Court to consider a discount for lack of marketability and post valuation date events, the fair value standard for shareholder actions in New York allows the Courts to determine fair prices for buyouts of shareholder interests in litigation.