The Idaho Supreme Court issued an opinion in Wagner v. Wagner affirming a District Court’s determination in the fair value of shares of Wanooka Farms, Inc. (“Wanooka”). This determination of fair value was a matter of first impression in Idaho. The District Court determined that neither a discount for lack of control (minority discount) nor a discount for lack of marketability (marketability discount) were appropriate in the determination of fair value. The Supreme Court in Idaho affirmed this conclusion.
Wanooka is a closely held family farming corporation in De Smet, Idaho (in the Idaho Panhandle). Wanooka was owned by members of the Arthur and Robert Wagner families. Its assets included a milling operation for processing lentils, 1,038 acres of land, a lake property, and homes. As early as 1998, the shareholders of Wanooka began attempting to split the corporation into two entities in a transaction designed to avoid tax consequences. These efforts proved unsuccessful. Finally, in August of 2013, the Minority (defined below) filed suit to have Wanooka dissolved. In response, the Majority elected to purchase the shares owned by the minority at their fair value per Idaho Code Section 30-29-1334(4).
The Minority consisted of Loren, Greg, and Dena Wagner, descendants of Arthur Wagner. They owned 28% of the 1,000 shares of Wanooka outstanding. Robert Wagner’s descendants owned half of the shares outstanding. They were joined by two shareholders from the Arthur Wagner Family. An appraisal was performed in September 2007 where Wanooka’s net assets were valued at $1.6 million (about $1,600 per share). A second appraisal was performed in June 2012, which also valued the net assets at $1.6 million (also about $1,600 per share). Both appraisals were based on the cost approach, rather than the market approach.
Wanooka hired an attorney, Dan Cadagan, to assist in crafting a 355 Split (26 U.S.C. Section 355). At a meeting held in July 2012, Cadagan presented a settlement proposal to the shareholders. He prepared a spreadsheet that, using the appraisals noted above plus information from financial statements provided by Wanooka’s accountant, that valued the business as a going concern at $3.4 million ($3,344 per share).
On August 22, 2013, the Minority filed a lawsuit calling for the dissolution of Wanooka. The Majority elected to purchase the shares owned by the Minority pursuant to the above-referenced Idaho code section at their fair value.
There was a four-day bench trial to determine the fair value of Wanooka’s shares that concluded in a memorandum decision dated November 19, 2014. The Minority hired Dennis Reinstein, a CPA and credentialed business appraiser. The Majority hired Paul Hyde, also a credentialed appraiser. Mr. Reinstein concluded that the fair value of Wanooka’s shares was $3,399 per share, while Mr. Hyde concluded that the fair value was $1,540 per share (and $1,490 for non-voting shares).
The district court concluded that the fair value of Wanooka’s shares was $3,344 per share (equal to attorney Cadagan’s conclusion), declining to apply minority and marketability discounts. The Majority appealed, contending that the district court’s conclusion was not supported by substantial and competent evidence and that the lower court erred in failing to apply minority interest and marketability discounts.
The Supreme Court’s Analysis
The Majority’s appeal was based on what they said was statutory direction to consider minority status in fair value determinations. The Supreme Court quoted a portion of the Model Business Corporation Act [bracketing relevant Idaho code sections]:
[Idaho Code section 30-29-1434] does not specify the components of “fair value,” and the court may find it useful to consider valuation methods that would be relevant to judicial appraisal of shares under [Idaho Code section 30-29-1330]. The two proceedings are not wholly analogous, however, and the court should consider all relevant facts and circumstances of the particular case in determining fair value. For example, liquidating value may be relevant in cases of deadlock but an inappropriate measure in other cases. If the court finds that the value of the corporation has been diminished by the wrongful conduct of controlling shareholders, it would be appropriate to include an element of fair value the petitioner’s proportional claim for any compensable corporate injury. In cases where there is dissension but no evidence of wrongful conduct, “fair value” should be determined with reference to what the petitioner would likely receive in a voluntary sale of shares to a third party, taking into account his minority status. If the parties have previously entered into a shareholders’ agreement that defines or provides a method for determining the fair value of shares to be sold, the court should look to such definition or method unless the court decides it would be unjust or inequitable to do so in light of the facts and circumstances of the particular case. (first emphasis in decision, second emphasis is added)
This quote provided the foundation for the Supreme Court’s decisions regarding both substantial and competent evidence and the district court’s not using minority and marketability discounts.
Substantial and Competent Evidence
Regarding evidence and whether substantial and competent evidence was the basis for the district court’s decision, the Supreme Court wrote:
The Majority also contends the district court failed to take into account Hyde’s testimony that the lentil mill was in poor condition with many safety issues. However, this is not the correct inquiry. The issue is whether substantial and competent evidence supports the district court’s finding of value, not whether substantial and competent evidence supports Hyde’s conclusion. The district court had substantial reasons for refusing to accept Hyde’s opinion as to the value of the stock. Hyde was not a Certified Public Accountant. [he is a credentialed appraisal whose firm regularly provides business and real estate appraisals] Although his opinion was based on the mill having many safety issues, he was not an OSHA expert, and he could not identify specific code violations. The district court also faulted Hyde’s failure to include “numerous assets” and disagreed with Hyde’s “opinion that the value of Wanooka Farms, Inc. should not include the lentil milling operation as an ongoing business.
The Supreme Court sided with the district court judge’s judgment based on the evidence heard. Interestingly, the district court sided with Mr. Cagan, the attorney’s, “valuation,” even though he was clearly not an appraiser. The Supreme Court stated:
At oral argument, the Majority emphasized faults in Cadagan’s spreadsheet. Cadagan, when attempting to assist the parties in effectuating a 355 Split, prepared the spreadsheet and presented it at the July 9, 2012, meeting as a basis for settlement discussions. The spreadsheet valued each Wanooka share at $3,344. The spreadsheet may contain inaccuracies and is not the sort of appraisal that would ordinarily be presented at trial. However, it was not prepared in anticipation of trial. At trial, the Minority relied upon Reinstein’s appraisal [or $3,399 per share], which was based upon a more detailed analysis. Nevertheless, the district court selected the Cadagan valuation as the most credible presented in the course of the trial.
Reading between the lines, the district court must have relied on Cadagan because he did his work while the parties were negotiating. Suffice it to say that the district court had, according to the Supreme Court, substantial and competent evidence upon which to base its decision in the bench trial, and considered “all relevant facts and circumstances” in its determination of fair value.
Not Applying Minority and Marketability Discounts is Okay
The Majority argued that the district court erred when it declined to apply the “certain discounts” proposed by Mr. Hyde. The parties had apparently always shown their intent to divide the property between them in equal portions, or proportionate to ownership. The Majority also argued for a bright-line requirement that such discounts (i.e., minority and marketability) should be imposed as a matter of law.
The Majority relied heavily on the second emphasized sentence in the first quote above: “…In cases where there is dissension but no evidence of wrongful conduct, ‘fair value’ should be determined with reference to what the petitioner would likely receive in a voluntary sale to a third party, taking into account his minority status.” The Supreme Court did not find this language in the Model Business Corporation Act, which was not adopted by Idaho, as calling for mandatory minority treatment, stating:
The comment simply states fair value “should” be determined taking into account minority discounts. The word “should” is not mandatory.
The Majority cited a number of cases, including two New York cases, Matter of Seagroatt Floral Company, Inc. and Ferolito v. Arizona Beverages USA, LLC—a case I testified in and have written about—to suggest that minority and marketability discounts must be applied. It is my understanding of New York judicial interpretation of statutory fair value that it is not allowable to impose a minority interest discount in fair value proceedings. Further, as noted by the Supreme Court, the cited cases only suggest that a New York court “may” impose a marketability discount, but also may not. The Supreme Court concluded its analysis of discounts by stating:
The Majority has not shown that the district court committed legal error by failing to apply minority interest and marketability discounts.
The determination of fair value under the relevant Idaho statute was a matter of first impression in Idaho. The Supreme Court concluded that the district court did not err in not applying minority interest and marketability discounts. The door seems to be left open, however, for their application in future dissolution cases. Wagner v. Wagner was tried under Idaho Code Section 30-29-1434. A related statute, Code Section 30-29-1301, defines fair value as follows:
(4) “Fair value” means the value of the corporation’s shares determined:
(a) Immediately before the effectuation of the corporate action to which the shareholder objects;
(b) Using customary and current valuation concepts and techniques generally employed for similar businesses in the context of the transaction requiring appraisal; and
(c) Without discounting for lack of marketability or minority status except, if appropriate, for amendments to the articles pursuant to section30-29-1302(1)(e), Idaho Code. (emphasis added)
It is interesting that neither the district court nor the Supreme Court cited the related statute quoted above defining fair value as a value “without discounting for lack of marketability or minority status…”
Where does this leave the definition of fair value in Idaho? I’m a valuation guy and a businessman, not a lawyer. But it appears that Idaho could be in the no discounting camp with a door open for the consideration of discounts in dissolution cases under appropriate facts and circumstances. Nevertheless, with the sole decision finding for no discounts, it might be an uphill struggle to argue for discounts in other cases.
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