The Valuation of Minority Interests in Forced Takings
"An extract from The Arbitration Review of the Americas 2014 - a Global Arbitration Review special report - www.GlobalArbitrationReview.com."
Valuation experts are often tasked with determining the value of an entire business enterprise, such as 100 per cent interest in the shares of a privately held company. While most dispute-related valuations in international arbitration involve the valuation of a 100 per cent interest or a controlling interest of less than 100 per cent, it is the valuation of minority interests that presents added complexity and requires special considerations.
Generally speaking, minority shareholders are unable to elect a majority of the board of directors, and depending on the nature of the relative shareholdings of other shareholders, may be subject to the will of majority shareholders (with some protections from various Corporations Acts depending on jurisdiction). Shareholder agreements can offer further protection to minority shareholders, but a lack of control can influence the value of the shareholding, and in some cases the effect on value can be material.
While it is the disputes involving controlling interests that garner the most attention due to the relatively higher values at stake of larger percentage ownership interests, minority interests should not be overlooked. This article examines the complexities and considerations faced by valuation experts in valuing minority interests in the context of forced takings in international arbitration.
Controlling interests v minority interests
The definitions of control and rights of shareholders will depend on the jurisdiction in which an entity is incorporated, and what corporate law statutes apply. A valuation expert should be aware of what percentage of shareholder votes are required for significant corporate actions, and the rights of majority and minority shareholders, as these considerations are relevant in determining whether a certain percentage shareholding represents a controlling interest or a minority interest.
For example, in Canada, the Canada Business Corporations Act (as well as the Provincial Corporations Acts) and income tax legislation generally define control and the rights of controlling shareholders. A controlling interest is defined as one having more than 50 per cent of the voting shares of a company. The rights and privileges of a controlling interest include:
- the ability to elect the majority of the board of directors, which allows for control through decisions that influence the strategic direction of the company;
- the ability to appoint themselves or others in senior management positions, which allows for control through operational decisions of the company;
- the ability to determine the timing and quantum of dividends, which allows for control of one’s return on investment;
- the right to determine the timing of the sale of the business, and the amount and form of consideration of the sale; and
- the right to liquidate the business and distribute the proceeds.