The Short and Puzzling Life of the 'Implicit Minority Discount' in Delaware Appraisal Law
Lawrence A. Hamermesh
Widener University Delaware Law School
Michael L. Wachter
University of Pennsylvania Law School - Institute for Law and Economics
February 27, 2007
University of Pennsylvania Law Review, Vol. 156, p. 1, 2007
U of Penn, Inst for Law & Econ Research Paper No. 07-01
Widener Law School Legal Studies Research Paper No. 08-15
The implicit minority discount, or IMD, is a fairly new concept in Delaware appraisal law. A review of the case law discussing the concept, however, reveals that it has emerged haphazardly and has not been fully tested against principles that are generally accepted in the financial community. While control share blocks are valued at a premium because of the particular rights and opportunities associated with control, these are elements of value that cannot fairly be viewed as belonging either to the corporation or its shareholders. In corporations with widely dispersed share holdings, the firm is subject to agency costs that must be taken into consideration in determining going concern value. A control block-oriented valuation that fails to deduct such costs does not represent the going concern value of the firm. As a matter of generally accepted financial theory, on the other hand, share prices in liquid and informed markets do generally represent that going concern value, with attendant agency costs factored or priced in. There is no evidence that such prices systematically and continuously err on the low side, requiring upward adjustment based on an implicit minority discount.
Given the lack of serious support for the IMD in finance literature, this Article suggests that the Delaware courts may be relying on the IMD as a means to avoid imposing upon squeezed-out minority shareholders the costs of fiduciary misconduct by the controller. Where either past or estimated future earnings or cash flows are found to be depressed as a result of fiduciary misconduct, however, or where such earnings or cash flows fail to include elements of value that belong to the corporation being valued, the appropriate way to address the corresponding reduction in the determination of fair value is by adjusting those subject company earnings or cash flows upward.
This approach to the problem of controller opportunism is more direct, more comprehensive in its application, and more in keeping with prevailing financial principles, than the implicit minority discount that the Delaware courts have applied in the limited context of comparable company analysis. The Delaware courts can therefore comfortably dispense with resort to the financially unsupported concept that liquid and informed share markets systematically understate going concern value.
Number of Pages in PDF File: 62
Keywords: corporations, corporate appraisal, implicit minority discount, IMD, control shares, valuation, fair value, controller opportunism
JEL Classification: K22
Date posted: February 6, 2007 ; Last revised: April 6, 2009