On the 28th August 2015 the Grand Court of the Cayman Islands released its decision in In the Matter of Integra Group (Jones J).
This case is the first time the Cayman Islands court has ruled on what constitutes "fair value" in the context of a statutory merger under the Companies Law of the Cayman Islands (the Law).
The guidance provided in the case is particularly important as the statutory merger regime has been widely used since inception. In our view, its introduction was a significant facilitating mechanic in the spate of "going private" transactions we have seen in recent years in the USA involving Cayman Islands incorporated companies.
The popularity of the statutory merger regime for these types of transactions has been driven, to a large extent, by the significant certainty of outcome that has been afforded to bidders who are confident of their ability to reach the required shareholder approval threshold to effect the merger (ie a special resolution of the shareholders of each constituent company).
The corollary of this is that options available to minority shareholders in such circumstances are, on the face of it, limited.
Essentially, minority shareholders can either seek to frustrate the merger process (eg by mustering sufficient votes to prevent the merger being approved or by looking for procedural or other defects in the way the merger process has been conducted) or they can rely on the appraisal rights given to them under Section 238 of the Law. The latter provides that if a shareholder dissents to a merger its rights as a shareholder shall cease and shall be converted into a right to be paid "fair value" for their shares. The Law provides a mechanism for this to be determined by the Court if the shareholders and the company cannot agree.
Integra was an oil field services provider operating in the Russian Market which was incorporated in the Cayman Islands and listed on the London Stock Exchange. In December 2013, the management team presented an offer to purchase all of its outstanding shares for US$10 per share. The board resolved to establish a committee of independent directors empowered to accept or reject the offer. The independent committee engaged Deutsche Bank AG to produce a fairness opinion and they subsequently opined that the offer price of US$10 was fair. The offer price represented a premium of approximately 45 per cent over the average market price on the London Stock Exchange during the previous 30 days.
The deal was structured as a statutory merger under Section 233 of the Law. Three investment funds managed by the same investment manager holding, in aggregate, approximately 17 per cent of the issued shares dissented to the proposed merger in accordance with Section 238 of the Law and, ultimately, the Grand Court in the Cayman Islands was required to determine what constituted "fair value" for the dissenting shareholders shares.
The Court ruled in favour of the dissenting shareholders and held that the "fair value" of the shares at the relevant time was in fact US$11.70 per share.
THE COURT'S APPROACH
The judgment goes to great lengths to point out that assessing fair value is a fact-based exercise in each case, which requires an important element of judgment by the Court.
The Court considered and was guided by decisions and statute under Delaware and Canadian law as these jurisdictions have very similar statutory remedies.
KEY GUIDANCE FROM THE DECISION
Meaning of "Fair Value"
The Court held that fair value was a shareholder's pro-rata share of the value of the company's business as a going concern at the date of the extraordinary general meeting to approve the merger. Importantly, this amount should be without reference to any minority discount or any premium for the forcible taking of shares.
The Court stated that no value adjustment should be made for results attributable to the transaction from which dissenting shareholders have dissented, whether positive or negative.
In the context of a going private transaction, Jones J stated that "the cost saving of going private is an inherent result of the transaction from which the [dissenting shareholder] has dissented. In my view dissenting shareholders should not benefit from any enhancement in the value of their shareholding attributable directly to the transaction from which they have dissented".
The Law does not dictate any particular approach. The Cayman Court cited Canadian and Delaware jurisprudence which establishes that fair value should be proved by any techniques or methods which are generally considered acceptable in the financial community and are otherwise admissible in court. The parties' respective expert witnesses in this case agreed that there are three main approaches:
- the market approach – ie obtaining an indication of value by comparing the subject asset with identical or similar assets for which price information is available;
- the income approach – ie obtaining an indication of value by converting cash flows to a single current capital value; and
- the cost (or asset based) approach - ie obtaining an indication of value by using the economic principle that a buyer will pay no more for an asset than the cost to obtain an asset of equal utility.
In Integra, it was agreed that the cost (or asset based) valuation approach was not appropriate. The respective experts used different methodologies and came to different conclusions as to the fair value of the dissenters' shares. On the facts, the Court found in favour of the dissenters' expert's methodology, which was based on a combination of the income approach (conducting a discounted cash flow (DCF) valuation) and guideline public company methodology, while giving a 75 per cent weighting to the DCF valuation.
The Court ruled that the fact that a company's shares are listed on a major stock exchange will not lead the Court to determine that a valuation methodology based upon its publically traded price is necessarily the most reliable approach. Whether this valuation methodology is appropriate will depend on whether there is a well informed and liquid market with a large, widely held, fee float. It was concluded by the Court that this did not apply in the case of Integra.
The Court determined that the fair rate of interest to be paid by the company was the mid-rate between the company's assumed return on cash and its borrowing rate.
As noted above, the Integra case is the first time the Court has made a determination on "fair value" and as such is an important milestone. That said, cases of this type are very fact specific. The Court went to great lengths to make this clear.
In our view, the case should not be seen as something which will necessarily open the floodgates to a wave of dissenting shareholder petitions. The Court, citing a Canadian authority, made the point that "dissenting shareholders are not entitled to a better value than other shareholders simply because they are dissenting. The appraisal remedy is a "safeguard, not a bonus."
However, the approach taken by the Court should provide market participants, and in particular, minority shareholders, with significant comfort that the Cayman Islands Court will approach the appraisal process in a robust and sensible way.
In addition, boards of directors of companies involved in similar transactions should be on notice of the requirement to obtain (and be seen to be obtaining) fair value to protect against claims. To this end, it is likely that the processes they adopt in this regard will come under greater scrutiny (eg in the context of the establishment of independent committees to consider the merger and obtaining third party professional fair value opinions etc.)