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High Court determines the meaning of “fair value” in a Company’s articles of association
The recent High Court judgment in Euro Accessories Limited  EWHC 47 (Ch) has shed some light on the interpretation of “fair value” for a compulsory transfer initiated by a majority shareholder.
The Petitioner in the case, Mr Monaghan, joined Euro Accessories in 2003 as a sales representative. In 2008, its founder, Mr Gilsenan, voluntarily transferred 24.99% of the then issued share capital of the company to Mr Monaghan, whilst retaining the majority of the shares (75.01%).
However, in 2010, the relationship between Mr Monaghan and Mr Gilsenan broke down and Mr Monaghan resigned. Discussions between the parties followed regarding the purchase of Mr Monaghan’s shares by Mr Gilsenan. Mr Monaghan’s valued his shares at a region of £350,000 but Mr Gilsenan was only prepared to offer £175,000 and the discussions failed.
Sometime later, Mr Gilsenan used his power as the majority holder of the voting rights to propose special resolutions and amend the company’s articles of association. This involved the insertion of a number of new articles to redesignate the majority shares as A shares and the minority shares as B shares and to provide an option for the A shareholder, by giving prior notice, to acquire the B shares at a fair value.
There was no disagreement over the sale in principle but over the question of the price to be paid for the B shares.
The Court was asked to determine the meaning of “fair value” in the articles and, more specifically, Mr Monaghan’s primary contention was that the context required an interpretation of “fair value” as meaning a value representing an equivalent proportion of the total shareholding (in other words, that no discount should apply to the value of the minority shares). In the event of “fair value” being determined against Mr Monaghan, the Court was also asked to decide whether the expropriation of his shares at a value which does not represent an equivalent proportion of the total shareholding was a conduct unfairly prejudicial to his interests as a member.
In his Judgment, Mr Justice Snowden considered some previous case law dealing with the interpretation of a contract and “fair value” whilst noting that there were a number of obvious and important differences between a private contract and a company’s articles of association which require some modification to the ordinary principles that apply to the interpretation of any written contract:
- that the articles of association are generally not the product of a process of negotiation leading to a meeting of minds or consensus between all the shareholders; and
- that the articles of association of a company are required to be registered as a public document at Companies House. Thus, unlike a private contract, the articles of association are not addressed to a specific counterparty or counterparties, but have to be understood by anybody who inspects the register at Companies House, either with a view to becoming a party to the statutory contract by buying shares, or simply to deal with the company. Once concluded, these features have an important impact by way of limitation on the admissible background against which the articles of association can be construed.
The result was that the process of interpretation to arrive at the true meaning of a provision in a company’s articles of association must concentrate on:
- the natural and ordinary meaning of the words used, when viewed in light of the scheme and
purpose of the articles in general;
- any extrinsic facts about the company or its membership that would reasonably be ascertainable by any reader of the company’s constitution and other public filings at Companies House; and
- commercial common sense
The Court noted that what had to be “fair value” was the consideration payable for the sale shares (i.e. the B shares), and that the focus was therefore on the value of the identified property owned by the minority shareholder which is to be transferred under the option.
The Court also highlighted the general principle that unless there are indications to the contrary in the relevant instrument establishing the right of compulsory acquisition, the general principle of share valuation which must be given a “fair value” is that which is being compulsorily transferred. Consequently, unless there is a contrary indication, the transferor cannot insist on being paid by the transferee for something to which his shares did not entitle him and that he did not own. He therefore could not insist on payment for a proportionate part of the controlling stake which the acquirer thereby builds up, or a pro rata part of the value of the company’s net assets or business undertaking.
There was also a consideration of the definition of the International Valuation Standard Council (IVSC 2013) raised by the Petitioner to support his claim but the Judge stated that there was no indication in the relevant Article of any intention to incorporate that definition, as opposed to any other definition. The Judge also held that it would be unreasonable to suppose that any general reader of the relevant Article would know of the 2013 IVSC’s definition so as to make the connection with it.
The Court also held that as the majority shareholder acted in accordance with the terms of the articles, no unfair prejudice took place.
The decision in this case reinforces the existing principles for the interpretation of “fair value” in contracts and clarifies that articles of associations are a somewhat different contract which should be interpreted in light of what a third party reading them should or could be expected to know. Unless specifically mentioned to the contrary in the articles, the general principle was that a “fair value” must be given to what was actually being compulsory transferred. In this case, it was a minority shareholding with less control over the company and therefore less valuable than a majority or equal shareholding. It is therefore vital to specify in the articles of association how shares are to be valued and whether or not a minority discount should apply.