This post was prepared by Brian E. O’Neill, Esq. of Eckert Seamans.
The Delaware Supreme Court recently declined to adopt a presumption in appraisal actions of deal price as fair value in a robust, market-driven sales process. In DFC Global Corporation v. Muirfield Value Partners, L.P., (Del. Aug. 1, 2017), the Delaware Supreme Court reversed and remanded the Court of Chancery’s ruling, finding that the trial court abused its discretion in allocating a diminished weight to the deal price.
Background: Petitioners, stockholders of DFC, an international, publicly-traded payday lender, sought appraisal rights in the Court of Chancery based on a “going private” sale of DFC at $9.50 per share. DFC sought to sell itself in 2012 as a result of regulatory pressure in the U.S. and abroad with respect to the practices of the payday lending industry. DFC, through its broker, contacted nearly forty potential buyers, drawing serious interest from three.
The three bidders made various offers for DFC common stock, ranging from $13.50 down to $9.50 per share. The decreasing bids were largely a result of worsening financial projections and performance of DFC during 2013 and 2014. After a robust, open market sales process, DFC was ultimately acquired by Lonestar, a private equity firm, for $9.50 per share in April 2014.
The Court of Chancery found, after trial, that the sale process was free from conflicts of interest and reflected a robust, multiple bidder transaction. The trial court employed three formulae to arrive at fair value of DFC’s common stock: discounted cash flow, comparable sales, and the deal price. The Court of Chancery accorded weightings of one-third to each method’s results, after finding flaws with the discounted cash flow and deal price methodologies, which required diminution of the weight of each method.
Chancellor Bouchard concluded that the fair value of DFC’s shares was $10.40, a nearly 10% premium over the deal price. DFC moved for reargument, claiming that the Court of Chancery had failed to apply the working capital figures previously adopted by the court in its discounted cash flow analysis. The Court corrected its arithmetic oversight, and then changed the perpetual growth rate from 3.1% to 4%.
Both parties filed appeals of the Chancellor’s ruling. On appeal, DFC argued for application of a deal-price presumption of fair value based on the robust, market driven sale process and the absence of any conflicts of interest. The petitioners, on appeal, argued for exclusive application of the discounted cash flow method, which resulted in the highest per share valuation.
Analysis: The Supreme Court reversed and remanded the Chancellor’s findings and ordered the Court of Chancery to explain its valuation approach based on the record evidence. The Supreme Court specifically rejected DFC’s argument for the creation of a deal-price presumption in appraisal actions. Although finding that the issue had not been properly presented to the trial court, the Supreme Court addressed the request at length, and held that such a presumption runs afoul of the broad language in the appraisal statute, which requires the trial court to consider “all factors’ relevant to valuing a company’s stock.
The Supreme Court found that the trial court had committed reversible error by only according a one-third weighting of the deal price to the valuation of DFC’s common stock. The Supreme Court noted that the sale process was a robust, open market process free from conflicts; thus, the deal price should have been accorded greater emphasis. The Supreme Court addressed at length the ability of the market, and prospective bidders, to digest and reflect regulatory impact on the stock price and explicitly rejected the trial court’s conclusions that regulatory upheaval justified a downward weighting of the deal price.
The Supreme Court also found error in the trial court’s revision of the perpetual growth rate, in its DCF analysis, from 3.1% to 4%. The Supreme Court noted that the payday lending industry, and DFC’s market presence, were mature, and the industry faced growing regulatory pressures. Accordingly, the trial court lacked sufficient evidence to conclude a growth rate 27% higher than the risk free rate of 3.14%, and significantly higher than the projected rate of inflation. In other words, it was error for the trial court to conclude that DFC’s value would continue to grow at such an aggressive pace.
The Supreme Court ordered the Court of Chancery to more fully explain its weighting methodology on remand. Specifically, the Supreme Court ordered the trial court to link DFC’s working capital figures to the outsized perpetual growth rate, and explain, if possible, how such capital could support a 4% growth rate. The Supreme Court did not retain jurisdiction of the matter and left to the discretion of the trial court whether to reopen the record to receive additional evidence and/or legal argument.
Takeaway: The Supreme Court declined to adopt a deal price presumption, finding that the appraisal statute does not permit such a presumption and noting that it would be difficult at best to define the parameters for when such a presumption would apply. Notwithstanding its rejection of a deal price presumption, the Supreme Court reversed the trial court for applying a relatively low weight to the deal price when the facts suggested a robust, market-driven sale process free from conflicts of interest.
It would appear that deal price remains a strong factor of valuation in such cases, and may on occasion serve as the actual valuation in an appraisal action. The deal price, however, may not serve as a conclusive presumption per se in appraisal cases.