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You are here: BAILII >> Databases >> England and Wales High Court (Chancery Division) Decisions >> Blue Index Ltd, Re [2014] EWHC 2680 (Ch)) (29 July 2014) URL: https://www.bailii.org/ew/cases/EWHC/Ch/2014/2680.html Cite as: [2014] EWHC 2680 (Ch)) |
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CHANCERY DIVISION
COMPANIES COURT
IN THE MATTER OF BLUE INDEX LIMITED
AND IN THE MATTER OF THE COMPANIES ACT 2006
B e f o r e :
sitting as a Deputy Judge of the High Court
____________________
PAUL JOHN MURRELL |
Petitioner |
|
-and- |
||
(1) JAMES ERNEST SWALLOW (2) JAMES PAUL SANDERS (3) BLUE INDEX LIMITED |
Respondents |
____________________
Peter Knox
QC, instructed by St John Legal, appeared for the Petitioner
Mr. Mallin, instructed by Irwin Mitchell, appeared for the 1st and 2nd Respondents
Hearing dates: 9-11, 14-16 July 2014
____________________
Crown Copyright ©
(1) The issue of 1,000 shares in 2002 to Mr. Sanders and Mr. Swallow entailed a "deliberate" breach of their fiduciary duties as directors.
(2) The change to the articles of association in 2003 was "intended" by them to be prejudicial to Mr. Murrell's interests. Further, they were "motivated by a desire to destroy the value of [Mr. Murrell's] shareholding".
(3) No AGM has ever taken place, contrary to section 366 of the Companies Act 1985.
(4) "[T]he Petitioner cannot reasonably be expected to remain a member of the Company given the deliberately hostile nature of the unfairly prejudicial conduct [of Mr. Sanders and Mr. Swallow].."
The issues in this case
Valuation principles – discount for minority shareholding
"The court, in other words [so the respondents submit], is to be rigidly restricted, if it is to make an order under section [996(2)] at all, to making an order for a purchase at a market price of the holding being purchased, to be arrived at only by the ordinary valuation principles, which will take into account the proportionate size of the holding in relation to the issued capital as a whole and to the control of the company.
For my part I find myself quite unable to accept this submission. It seems to me that the whole framework of the section, and of such of the authorities as we have seen, which seem to me to support this, is to confer on the court a very wide discretion to do what is considered fair and equitable in all the circumstances of the case, in order to put right and cure for the future the unfair prejudice which the petitioner has suffered at the hands of the other shareholders of the company; and I find myself quite unable to accept that that discretion in some way stops short when it comes to the terms of the order for purchase in the manner in which the price is to be assessed." [page 669]
Thus, the task of the Court, in granting relief, is first to identify the unfair prejudice which has been established and then to fashion the relief so as to cure that prejudice. That principle must underlie the issue whether or not a discount for minority shareholding should be applied.
"The basis of the judge's valuation is to be found in two passages from the judgment, at pp. 429 and 430: and there is a further passage at p. 431. The judge said, at pp. 429-430:
"Although both sections 210" - which of course was the predecessor of section 75 [and 994] - "and 75 are silent on the point, it is axiomatic that a price fixed by the court must be fair. While that which is fair may often be generally predicated in regard to matters of common occurrence, it can never be conclusively judged in regard to a particular case until the facts are known. The general observations which I will presently attempt in relation to a valuation of shares by the court under section 75 are therefore subject to that important reservation. Broadly speaking, shares in a small private company are acquired either by allotment on its incorporation or by transfer or devolution at some later date. In the first category it is a matter of common occurrence for a company to be incorporated in order to acquire an existing business or to start a new one, and in either event for it to be a vehicle for the conduct of a business carried on by two or more shareholders which they could, had they wished, have carried on in partnership together. Although it has been pointed out on the high authority to which I will soon refer that the description may be confusing, it is often convenient and it is certainly usual to describe that kind of company as a quasi- partnership. In the second category, irrespective of the nature of the company, it is a matter of common occurrence for a shareholder to acquire shares from another at a price which is discounted because they represent a minority holding. It seems to me that some general observations can usefully be made in regard to each of these examples."
Nourse J. then referred to the well known passage from the speech of Lord Wilberforce in In re Westbourne Galleries Ltd. [1973] A.C. 360 , 379, and went on:
"His Lordship, having observed that it is not enough that the company is a small one, or a private company, identified three typical elements, one, or probably more, of which will characterise the company as a quasi-partnership. They are, first, an association formed or continued on the basis of a personal relationship involving mutual confidence; secondly, an agreement or understanding that all or some of the shareholders shall participate in the conduct of the business; and, thirdly, restrictions on share transfers. No doubt these three elements are the most familiar, and perhaps the most important, but they were not intended to be exhaustive. In my view there may be other typical and important elements, in particular the provision of capital by all or some of the participants."
Next comes a passage which I think has assumed some importance in the argument, so perhaps it is worth reading:
"I would expect that in a majority of cases where purchase orders are made under section 75 in relation to quasi-partnerships the vendor is unwilling in the sense that the sale has been forced upon him. Usually he will be a minority shareholder whose interests have been unfairly prejudiced by the manner in which the affairs of the company have been conducted by the majority. On the assumption that the unfair prejudice has made it no longer tolerable for him to retain his interest in the company, a sale of his shares will invariably be his only practical way out short of a winding up. In that kind of case it seems to me that it would not merely not be fair, but most unfair, that he should be bought out on the fictional basis applicable to a free election to sell his shares in accordance with the company's articles of association, or indeed on any other basis which involved a discounted price. In my judgment the correct course would be to fix the price pro rata according to the value of the shares as a whole and without any discount, as being the only fair method of compensating an unwilling vendor of the equivalent of a partnership share. Equally, if the order provided, as it did in In re Jermyn Street Turkish Baths Ltd. [1970] 1 W.L.R. 1194 , for the purchase of the shares of the delinquent majority, it would not merely not be fair, but most unfair, that they should receive a price which involved an element of premium."
Then, Nourse J. said, at p. 431:
"Next, I must consider the example from the second category of cases in which, broadly speaking, shares in a small private company are acquired. It is not of direct relevance for present purposes, but I mention it briefly in order finally to refute the suggestion that there is any rule of universal application to questions of this kind. In the case of the shareholder who acquires shares from another at a price which is discounted because they represent a minority it is to my mind self-evident that there cannot be any universal or even a general rule that he should be bought out under section 75 on a more favourable basis, even in a case where his predecessor has been a quasi- partner in a quasi-partnership. He might himself have acquired the shares purely for investment and played no part in the affairs of the company. In that event it might well be fair - I do not know - that he should be bought out on the same basis as he himself had bought, even though his interests had been unfairly prejudiced in the meantime. A fortiori, there could be no universal or even a general rule in a case where the company had never been a quasi-partnership in the first place." Nourse J. said, in summary, that there is no general rule and then comes the passage to which particular criticism has been directed:
"On the other hand, there is a general rule in a case where the company is at the material time a quasi-partnership and the purchase order is made in respect of the shares of a quasi-partner. Although I have taken the case where there has in fact been unfairly prejudicial conduct on the part of the majority as being the state of affairs most likely to result in a purchase order, I am of the opinion that the same consequences ought usually to follow in a case like the present where there has been an agreement for the price to be determined by the court without any admission as to such conduct. It seems clear to me that, even without such conduct, that is, in general, the fair basis of valuation in a quasi-partnership case, and that it should be applied in this case unless the respondents have established that the petitioners acted in such a way as to deserve their exclusion from the company."
"In the first place, the offer must be to purchase the shares at a fair value. This will ordinarily be a value representing an equivalent proportion of the total issued share capital, that is, without a discount for its being a minority holding. The Law Commission (paragraphs 3.57–62) has recommended a statutory presumption that in cases to which the presumption of unfairly prejudicial conduct applies, the fair value of the shares should be determined on a pro rata basis. This too reflects the existing practice. This is not to say that there may not be cases in which it will be fair to take a discounted value. But such cases will be based upon special circumstances and it will seldom be possible for the court to say that an offer to buy on a discounted basis is plainly reasonable, so that the petition should be struck out." : at 1107D-E.
"However, in relation to the first question, in Re Bird Precision Bellows Ltd. [1984] Ch. 419; (1984) 1 BCC 98,992 Nourse J. stated at p. 431; 98,997 that there was a general rule in a case where the company is at the material time a quasi- partnership and the purchase order is made in respect of the shares of a quasi- partner and that rule is that the aggrieved quasi-partner should not be bought out on a basis which involves a discounted price but should receive a pro rata price as being the only fair method of compensating an unwilling vendor for the equivalent of a partnership share. Nourse J. contrasted such a case with that where the holding to be purchased is that of a shareholder who at a later date than incorporation buys a minority holding at a discount to reflect the fact that it is a minority holding. In the latter case he suggested that it might be fair that the shareholder be bought out at a discount even if the company is a quasi- partnership. Mr. Davis submitted that the present case is one of a quasi- partnership or akin to such a case and that the pro rata basis is therefore appropriate. Mr. Crow submitted that the present case fell within the second category of cases to which Nourse J. referred and that a discount basis is appropriate. There is no valuation evidence before me on which I could safely reach any conclusion on whether or not Mr. Harries acquired his shares at a discount to reflect his minority holding in 1977. Nor does it seem to me that after August 1982 it would be right to treat the company as being in any sense a quasi- partnership company. Mr. Harries might at that date have sought relief from the court on the footing that the company was a quasi-partnership. He elected not to do so and instead chose to sit it out as an ordinary minority shareholder. Accordingly I am not prepared to apply Nourse J.'s general rule.
I approach the matter somewhat differently. Mr. Harries is a minority shareholder seeking a fair price for his shares. In the absence of any special features the value of his shares must reflect the fact that his holding is only a minority holding, though an important minority holding enabling the holder to block all resolutions other than one requiring a bare majority of votes. I cannot see that after his election he could have obtained a winding-up order in order to receive a rateable share of the company's assets. Neither the previous history of the company nor the parties' conduct requires as a matter of fairness a sale on the pro rata basis, given the fact of his election. Accordingly in my judgment the discounted basis of valuation is appropriate." [emphasis added]
"… Shares are generally ordered to be purchased on the basis of their valuation on a non-discounted basis where the party against whom the order is made has acted in breach of the obligation of good faith applicable to the parties' relationship by analogy with partnership law, that is to say where a "quasi-partnership" relationship has been found to exist. It is difficult to conceive of circumstances in which a non-discounted basis of valuation would be appropriate where there was unfair prejudice for the purposes of the 1985 Act but such a relationship did not exist. However, on this appeal I need not express a final view on what those circumstances might be."
But this passage is plainly obiter. It is far from clear what conclusion Arden LJ would have reached had it been necessary for her to decide the issue.
"…. [T]he effect of the oppressive conduct which has occurred [should be disregarded.] This is non-contentious. This approach was echoed by Young J in ES Gordon Pty Ltd v. Idemeneo (No 123) Pty Ltd where a further qualification was noted that in determining value, if there was any uncertainty then any erring should be 'on the side of the oppressed'."
But this should not in my view be carried too far. Minority shareholders may be tempted to view the future prospects of businesses through rose-tinted glasses and underestimate the risks attendant in any business venture. In my view this is of particular relevance to a business such as the present one. Those who make a lot of money quickly with a simple business model in a services field, like Mr. Sanders and Mr. Swallow, are undoubtedly very gifted but they tend to attract the attention of other equally able and younger and hungrier entrepreneurs eager to emulate their success.
The facts
The valuation of Mr. Murrell's 3% s hareholdi ng
Discount for minority shareholding
Valuation generally
(i) Commercial level of remuneration = £228,000
(ii) Multiplier = 18
On this basis he valued the Company as a whole at about £16.5 million, of which 3% is about £495,000.
(i) Commercial level of remuneration = £765,000
(ii) Multiplier = 11.3
On this basis he valued the Company as a whole at about £5.94 million, of which 3% is about £178,000. In other words, he valued the Company as a whole at about a third of Mr. Faull's figure.
(i) An applied dividend pay-out rate of 70% of profits.
(ii) An applied dividend yield of 10% (i.e. x10), reached from the starting point of 5.1% (i.e. x20) from listed comparables and effectively halved to take into account the additional risk factors which Mr. Cottle lists at paragraphs 7.5 to 7.10 of his first report assuming minimal dividend headroom on the basis that the directors' remuneration is assumed to be of the order assessed by Mr. Cottle (i.e. £765,000): this crucial component of Mr. Cottle's calculation is explained at length, and I may say lucidly, at paragraphs 7.4 to 7.21 of Mr. Cottle's 1st report.
(1) In the year ended 30 September 2003, when they proceeded on the basis that they were 100% owners of the Company, they paid themselves about 10% of the turnover for that year.
(2) Even Mr. Cottle thought it right to express a commercial level of remuneration as a percentage of turnover. In my view, this reflected the business model of the Company, namely payment solely by reference to profits.
The appropriate compensation for remuneration wrongly paid to the directors
(1) Assume that directors' remuneration, including pension contributions, equalled 10% of turnover for the year in question, i.e. what I consider to be a fair commercial level of remuneration.
(2) Calculate what additional dividends would have been declared in these years which would have left the same amounts by way of retained (i.e. undistributed) profits shown for each of these years. In other words, the amount of the excessive remuneration, plus whatever is saved in tax by assuming lower directors' remuneration, is assumed to have been distributed as dividends.
(3) Mr. Murrell is assumed to have received 3% of those additional dividends.