CASE LAWS ON VALUATION

Issues concerning exchange ratio in amalgamations

SUPREME COURT

1. In the matter of Hindustan Lever Employee’s Union (Supra) (1995) Supp (1) SCC 499, the Supreme Court dealt with the issue of what method should be adopted for arriving at a proper exchange ratio, and also discussed the problem of valuation in the case of amalgamation of two companies:

“This problem of valuation in the case of amalgamation of two Companies has been dealt with by Weinberg and Blank in the book “Take-overs and Mergers”, in which it has been stated that some of all of the following factors will have to be taken into account in determining the final share exchange ratio :

(1)   The Stock Exchange prices of the shares of the two companies before the commencement of negotiations or the announcement of the bid.

(2)   The dividends presently paid on the shares of the two companies. It is often difficult to induce a shareholder, particularly an institution, to agree to a merger or a share-for-share bid if it involves a reduction in his dividend income.

(3)   The relative growth prospects of the two companies.

(4)   The cover (ratio of after-tax earnings to dividends paid during the year) for the present dividends of the two companies. The fact that the dividend of one company is better covered than that of the other is a factor which will have to be compensated for at least to some extent.

(5)   In the case of equity shares, the relative gearing of the shares of the two companies. The ‘gearing’ of an ordinary share is the ratio of borrowings to the equity capital.

(6)   The values of the net assets of the two companies. Where the transaction is a thorough-going merger, this may be mere of a talking-point-than a matter of substance, since what is relevant is the relative values of the two undertakings as going concerns.

(7)   The voting strength in the merged enterprise of the shareholders of the two companies.

(8)   The past history of the prices of the shares of the two companies.

It will, therefore, appear that in case of amalgamation a combination of all or some of the methods of valuation may be adopted for the purpose of fixation of the exchange ratio of the shares of the two companies. It is to be noted that even in such a situation, the book value method has been described as “more of a talking-point than a matter of substance.”

It was held that since the valuer had adopted the combination of three well known methods of valuation of shares to arrive at the exchange ratio of the two companies and the financial institutions holding 41% of the shares of the transferor company and did not find any fault in the method of valuation of the shares, the Court should not interfere with such valuation.

2. The Supreme Court in Miheer H. Mafatlal vs. Mafatlal Industries Ltd. (1997) 1 SCC 579 held that once the exchange ratio of the shares of the transferee-company to be allotted to the holders of shares in the transferor company has been worked out by a recognized firm of chartered accountants who are experts in the field of valuation, and if no mistake can be pointed out in the said valuation, it is not for the court to substitute its exchange ratio, especially when the same has been accepted without demur by the overwhelming majority of the shareholders of the two companies or to say that the shareholders in their collective wisdom should not have accepted the said exchange ratio on the ground that it will be detrimental to their interest.

The High Court in sanctioning any scheme of merger or amalgamation has no jurisdiction to act as a court of appeal and sit in judgment over the informed view of the concerned parties to the compromise, as the same would be in the realm of corporate and commercial wisdom of the concerned parties. The High Court has neither the expertise nor the jurisdiction to delve deep into the commercial wisdom exercised by the creditors and members of the company who have ratified the scheme of merger by the requisite majority. Consequently, the company court’s jurisdiction to that extent is peripheral and supervisory and not appellate.

The Supreme Court in Mihir Mafatlal’s case, while dealing with an issue that the share exchange ratio was unfair and unreasonable, observed as follows: “….. It must at once be stated that valuation of shares is a technical and complex problem which can he appropriately left to the consideration of experts in the field of accountancy. Pennington in his ‘Principles for Company Law’ mentions four factors which had to be kept in mind in the valuation on shares:

(1) Capital Cover,

(2) Yield,

(3) Earning Capacity, and

(4) Marketability

For arriving at the fair value of share, three well known methods are applied:

(1) The manageable profit basis method (the Earning per Share Method)

(2) The net worth method or the break value method, and

(3) The market value method.”

The Supreme Court concluded that the exchange ratio was not unfair or unreasonable.

It quoted and affirmed sections of the decisions in Hindustan Lever Employees’ Union & CWT vs. Mahadeo Jalan (Supra): “Before parting with the discussion on this point it would be apposite to refer to the decision of this Court in Hindustan Lever Employees’ Union (supra). In paragraph 41 of the Report Justice Sen speaking for himself and Venkatachaliah, CJ, and to which Sahai, J concurred has observed that the problem of valuation in the case of amalgamation of two companies has been dealt with by Weinberg and Blank in the book ‘Take-overs and Mergers’ in which it is stated that some or all of the 8 listed factors will have to be taken into account in determining the final share exchange ratio. The Court has also approved the fixation of exchange ratio of the shares of the companies on the basis of adoption of combination of two or more well-known methods of valuation of shares out of many such methods. In para 37 of the Report it has been observed that the question is what method should be adopted for arriving at a proper exchange ratio. The usual rule is that shares of the going concern must be taken at quoted market value. This principle was also recognised by this Court in the case of CWT vs. Mahadeo Jalan: [1972]86 ITR 621(SC). It is not the case of the appellant that M/s. C.C. Chokshi & Co. had not taken into consideration the quoted market value of shares of both the companies which were going concerns and which were subjected to the Scheme of Amalgamation in question. For all these reasons, therefore, there is no substance in this contention canvassed on behalf of the appellant that the exchange ratio was ex facie unfair to the equity share holders of the transferee-company”.

6. In the matter of Re: Brooke Bond Lipton India Ltd. [1999] 98 Comp Case 496 (Cal), the Calcutta High Court has held that in a scheme of amalgamation, if the ratio of exchange has been fixed by an experienced and reputed firm of chartered accountants, then in absence of any charge of fraud against them, court will accept such valuation and ratio of exchange. A mere allegation of fraud is not enough; it must be a proper charge of fraud with full particulars. In the instant case, there is no charge made or established.

7. The Division Bench of the Bombay High Court in Dinesh Vrajlal Lakhani vs. Parke Davis (India) Ltd. [2005] 124 Comp Case 728 (Bom) ruled that the Court will not for instance interfere only because the valuation adopted by the valuer may have been improved upon had another method been adopted. The Court is neither a valuer nor an appellate forum to reappreciate the merits of the valuation. What the court has to ensure is that the determination should not be contrary to law or unfair to the shareholders of the company which has been merged.
8. The Supreme Court in the matter of Renuka Datla vs. Solvay Pharmaceuticals B V (supra) has held that the valuer approached the question of valuation having due regard to the terms of settlement and considered from all appropriate angles. No case has been made out that any irrelevant material has been taken into account or relevant material has been eschewed from consideration by the valuer. The plea that the valuation is vitiated by fundamental errors cannot but be rejected.
9. L. Sultania and Another Vs. The Securities and Exchange Board of India – 16.05.2007
10. We have only referred to some of the objections raised by the appellants and we must observe that several other similar objections were raised by them. We have also noticed the reply of the respondents and in most cases the observations of the valuer. It appears to us that the appellant expects this Court to act as an expert itself. This, we are forbidden from doing. Unless it is shown that some well accepted principle of valuation has been departed from without any reason, or that the approach adopted is patently erroneous or that relevant factors have not been considered by the valuer or that the valuation was made on a fundamentally erroneous basis or that the valuer adopted a demonstrably wrong approach or a fundamental error going to the root of the matter, this court would not interfere with the valuation of an expert. As noticed in Miheer H. Mafatlal (supra), valuation of shares is a technical and complex problem which can be appropriately left to the consideration of experts in the field of accountancy. So many imponderables enter the exercise of valuation of shares.
11. Having considered all aspects of the matter, we are satisfied that the valuer, Patni & Company have not committed any such error which may justify our interference. They have considered all the factors relevant under Regulation 20(5)) of the Takeover Code and have adopted a reasonable approach which does not call for interference by us. It may be that views may differ and it is no gain saying that even experts may differ in their conclusions or even reasoning. The court must take notice of this fact and must not interfere unless there are compelling reasons to upset the finding of the expert valuer on grounds such as those enumerated in the earlier part of the judgment or other similar grounds.
12. We are then left with the valuation reports of two other Chartered Accountants submitted by the appellants before the Board, namely reports of M/s. Sanjay Bajoria & Associates and M/s. Anand K. Associates. Sanjay Bajoria & Associates valued the shares of the target company at Rs.590/- per share while the other Chartered Accountant valued the shares at Rs.408/- per share. The Board, in our opinion, has given good reasons for rejecting those reports. It is noticed that the shares were valued at abnormally high rates and as between the two reports there was a vast different (Rs.182/- per share). This great disparity itself furnishes a good ground for rejecting these reports particularly, when the valuation reports of three other valuers had valued the shares at much lower rates. It is not as if the regulator, namely, the Board did not take notice of these reports. On the contrary, having noticed the objections of the appellants it decided to appoint its own valuer to value the shares of the target company. Ultimately the report of the valuer appointed by the Board was accepted by the acquirer and that value was permitted to be incorporated in the offer document by the Board.

HIGH COURTS

1. In Bengal Tea Industries Ltd. & Ors. v. Union of India (Company Appeal No. 418/1986 decided on 25.08.1987), a Division Bench of the Calcutta High Court held that in a scheme of amalgamation of two companies, it is not necessary in law to call for a meeting of the creditors and obtain their views on the scheme. Regarding objection raised by the Regional Director, Govt. of India that the exchange ratio of the shares between the Transferor Company and Transferee Company as provided in the scheme was unfair to the shareholders of the Transferor Company, the Calcutta High Court held that when no complaint was raised on behalf of the shareholders, Regional Director was not entitled to raise objection as to fairness or unfairness of a proposed exchange ratio of shares in an amalgamation of two companies which is a matter concerning only the shareholders of the companies involved. Valuation is ultimately a matter of expert opinion. There are more than one method of valuation of shares and valuation would vary if different methods are adopted. While observing that the shares are the properties of the shareholders and they are the ultimate and the best judge of the value which they would put on their shares, it was however stated that in the best interest of all concerned and to prevent controversy, a proper basis of valuation should be recorded. The Division Bench of the Calcutta High Court put in a caveat that in the event any shareholder of the Transferor Company had appeared before the Court and had objected to the valuation of the shares or to the exchange ratio, the matter would have taken an entirely different complexion and the Court would have been inclined to probe further into the question of exchange ratio to ensure that shareholders were not treated unfairly. In the absence of any challenge from any of the shareholders of the Transferor Company, the Court declined to interfere in the matter at the instance of the Regional Director.
2. Division Bench of the Gujarat High Court in the case of Jitendra R. Sukhadia v. Alembic Chemical Works Co. Ltd. (1987) 3 Comp LJ 141 : (1988) 64 Comp Cases 206. This was also a case of amalgamation. In the case, it was held that the exchange ratio of the shares of the two companies, which were being amalgamated, had to be stated along with the notice of the meeting. How this exchange ratio was worked out, however, was not required to be stated in the statement contemplated under Section 391(a).
3. In Swift Formulations Private Ltd., In. re (2004) 121 Comp Case 27 (Punjab and Haryana), held that where the shareholders of two companies in their collective wisdom had accepted the share exchange ratio worked out by experts and if no mistake was pointed out then it was not for the court to interfere with the decision of shareholders.

4. In Gulmohar Finance Limited, In.re., (1995) 5 SCL 207 (Del) Delhi High Court held that valuation and exchange ratio can be accepted if the shareholders, creditors and liquidation etc., have approved the scheme, even when central Government has raised objections to exchange ratio.

COMPILED BY-

CA ANKIT GOEL

B. COM(H), LLB, FCA, DISA (ICAI), RV (SFA), ID (IICA).

With experience of more than 9 years in valuation, he has managed valuation of assets having a book value of more than 25000 crores. He is an active speaker on valuation, Insolvency, Forensic audit and other subjects at many RVOs and at events organized by other Professional organizations & industry associations.., etc.