The Chancery Court case of Delaware Open MRI Radiology Associates, P.A. v. Kessler , download file, involved the squeeze-out merger of a closely-held private company made up of radiologists. The Court referred to the case as “another progeny of one of Delaware law’s hybrid varietals: the combined appraisal and entire fairness action.”
The Court addressed the principles that applied to both the appraisal claims under the appraisal statute and under the common law governing conflicting mergers, but the questions are the same for both claims: was the merger price fair, and if not, what was the extent of the underpayment to the minority stockholders?
This 85-page opinion is a veritable reference text for the analysis of fair price and valuation of closely-held businesses. Along the way, key fiduciary duty principles are explained. For example, the amount that the majority paid wholly-owned affiliates for services was governed by the entire fairness standard. See footnote 73 citing Telxon Corp. v. Meyerson, 802 A.2d 257, 265 (Del. 2002) (like any other interested transaction, the compensation that directors decided to pay themselves is outside the protection of the business judgment rule and where properly challenged, is subject to affirmative showing that the compensation arrangements were fair). At page 51 of the decision, the Court determined that the fees that the majority paid to its wholly-owned entity for services were above the market rate.
The Court also disagreed with the testimony of both valuation experts. One valuation expert used an analysis based on a “C” Corporation and the other expert used a valuation based on an “S” Corporation, but did not make a deduction for taxes. The Court found both approaches flawed and made its own independent valuation determination.
The Court noted that its determination of fair value based on the appraisal statute would also determine the award of damages for the purpose of the entire fairness claim. In analyzing the discounted cash flow method and the determination of terminal value, the Court cited to leading treatises in the area of corporate finance and business valuation, such as those of Shannon Pratt. See, e.g., footnotes 125 and 130. The Court concluded after very detailed and thorough analysis of the various valuation methods that the price paid by the majority for the ownership interest of the minority was unfairly low and thus, the Court calculated its own new valuation which was the basis for both the appraisal award and the award based upon the entire fairness claim.