In the recent case of Re Euro Accessories Ltd  EWHC 47, the High Court was required to interpret the articles of association of Euro Accessories Ltd (the “Company”) with respect to the meaning of “fair value” in the circumstances whereby the majority shareholder of the Company (Mr Gilsenan) could purchase a minority shareholder’s (Mr Monaghan) shares on a fair value basis.
THE FACTUAL BACKGROUND
Mr Monaghan joined the company as an employee in 2003, and subsequently in 2008 Mr Gilsenan transferred 24.99% of the issued share capital of the Company to Mr Monaghan. However, in 2010 the relationship between the two parties broke down and Mr Monaghan resigned from his position. Thereafter, there were ongoing negotiations for the purchase of Mr Monaghan’s shares in the Company, but these were never concluded. The relentless issue was around the price of the shares that Mr Gilsenan was willing to purchase them for. Mr Gilsenan believed the value of the shares to be £175,000, however Mr Monaghan believed the value to be £350,000, with a clear disparity in valuation expectations between the parties.
A few years later, Mr Gilsenan used his majority shareholding position to propose 3 special resolutions which were subsequently passed by him. The resolutions were as follows:
- designation of shares in the Company as A and B shares;
- converting Mr Gilsenan’s shares into A shares and Mr Monaghan’s shares into B shares; and
- including the right for A shareholders to require B shareholders to transfer all their shares upon written notice, and the consideration payable would be for fair value. In the event the B shareholder did not execute the stock transfer form, the B shareholder would be deemed to have irrevocably appointed any Director to be his agent and execute any necessary transfers on his behalf.
Once the changes were adopted, Mr Gilsenan sent notice to Mr Monaghan in order to exercise the option to acquire all of his B shares. Unsurprisingly, Mr Monaghan did not sign and return the stock transfer form, and as a consequence, Mr Gilsenan proceeded to execute the transfer form and transferred Mr Monaghan’s B shares to himself, along with sending a cheque of £175,000 for payment of the shares to Mr Monaghan. This process was repeated by My Gilsenan 3 times as the cheques were never cashed.
A couple of years later, Mr Monaghan presented a petition under section 994 of the Companies Act 2006, contending that the expropriation of his shares for £175,000 was at less than fair value. A chartered accountant was appointed by both parties to value the Company as at the agreed transfer date. The chartered accountant was asked to consider whether it was appropriate to value Mr Monaghan’s shares on a discounted basis to reflect a minority holding, assuming a sale in the open market on the transfer date. The chartered accountant’s conclusion was that the Company was worth £2.18 million as at 4 May 2016, so that on a pro-rata basis Mr Monaghan’s 24.99% shareholding was worth £545,000. But even if it were appropriate to apply a minority discount, with a 55% discount applied, the resulting figure was £245,000.
THE COURT DECISION
Ultimately, the petition was heard at court, the court reached a decision considering the following arguments:
- in interpreting the true meaning of provisions in the Company’s articles, the focus should be on the natural and ordinary meaning of the words used, the purpose of the articles in general, and any extrinsic facts about the Company that would be reasonably ascertainable by any reader of the Company’s constitution;
- on that basis, it’s clear that Mr Monaghan had become company secretary in 2007, second shareholder in 2008, and resigned as secretary in 2010. Furthermore, at the time the new set of special resolutions were passed, as Mr Monaghan’s signature didn’t appear on the resolutions lodged at Companies House, there could be an argument that he didn’t agree to the insertion of the new clauses and redesignation of his shares;
- the purpose of the new provisions inserted in the articles were clear, and “fair value” would reasonably be viewed as consideration payable for the sale of the shares, with a focus therefore on the value of such property owned by the minority shareholder which was to be transferred under the option;
- due to the fact that there were no provisions to the contrary, Mr Monaghan could not insist on payment for a proportionate part of the controlling stake which the acquiror thereby built up, or a pro rata part of the value of the Company’s net assets or business undertaking; and
- similarly, the circumstance that the articles in question focused on the value of the sale shares to be transferred strongly suggested that the fair value of that property should be one that was capable of being determined by reference to some objective criteria, with regard to the shares themselves at the date that the option notice was given.
As there were also no mechanisms provided in the articles to define and resolve the disputes that would inevitably arise, the judge declared that the consideration of £245,000 would have represented the fair value of the Mr Monaghan’s shares in the Company. As a result, the court dismissed Mr Monaghan’s claim that the price paid to him did not represent a fair value of his shares. Ultimately, this case confirms that where articles of association provide for shares to be compulsorily acquired at fair value, unless there is a contrary indication in the articles, a minority shareholder’s shares will be valued at discount to reflect that minority holding.
This case clearly reiterates that, when drafting company articles of association, it is paramount to:
- when using concepts such as “fair value” for valuation purposes, include a definition of fair value for absolute clarity;
- ensure there are mechanisms in place for shareholders to follow in the event of a dispute with respect to valuation (which ideally would involve an independent party); and
- include an expert determination clause to list criteria for the experts to consider when reaching their determination.
To review the details of the case, please click here.
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