High Court orders company to transfer four properties to director in lieu of share purchase price following deadlock.

NEUTRAL CITATION NUMBER [2012] IEHC 330

THE HIGH COURT

[2008 No. 402 COS]

IN THE MATTER OF CHARLES KELLY LIMITED

BETWEEN

EDWARD GERARD KELLY

PETITIONER

AND

WILIAM KELLY AND CHARLES KELLY LIMITED

RESPONDENTS

Judgment of Ms. Justice Laffoy delivered on 19th day of June, 2012.

1. Having on 9th February, 2011 found-

(a) that the first respondent had exercised his powers as a director of the company in a manner oppressive to the

petitioner within the meaning of s. 205(1) of the Companies Act 1963 (the Act of 1963), and

(b) that there had been a total breakdown in the relationship of the petitioner and the first respondent, that they were

deadlocked to the extent that they were incapable of running Charles Kelly Limited (the Company) properly together and

that the situation was irretrievable,

in my judgment of 31st August, 2011 (2010 IEHC 349), I outlined the orders to be made to remedy the situation. These included:

(i) an order that the Company purchase the 3,968 shares of the first respondent in the Company at fair market value and

that the share capital of the Company be reduced proportionately and the necessary consequential matters be

addressed, for example, the alteration of the memorandum and articles of association of the Company; and

(ii) subject to Deloitte & Touche being willing to take on the appointment, an order that Deloitte & Touche be appointed

to carry out a fair market valuation of the said 3,968 shares as at 31st August, 2011, the remuneration to be paid to

Deloitte & Touche for performing the said task to be discharged by the Company; and

(iii) an order that there be set-off against the value of the shareholding of the first respondent in the Company so much

of the sum of €180,000 taken by him from the Company to discharge legal fees as has not been reimbursed to the

Company, which in the event is the sum of €165,000, so that the purchase price to be paid by the Company for the said

shareholding of the first respondent will be the value so determined less the amount of the set-off; and

(iv) an order that the first respondent resign as a director of the Company forthwith, which has occurred.

2. Mr. David O'Flanagan, who is a Fellow of the Institute of the Chartered Accountants in Ireland and a Corporate Finance Partner in

Deloitte & Touche, assumed the task of carrying out a fair market valuation of the first respondent's beneficial shareholding as at 31st

August, 2011. He has furnished his report dated 1st May, 2012 to the Court. Mr. O'Flanagan, before finalising his report, had sent it in

draft form to the petitioner and the first respondent on 24th April, 2012 for their observations on its factual content and both the

petitioner and the first respondent responded to him with their observations. Those observations have been made available to the

Court.

3. The Court has had the benefit of written submissions on behalf of the petitioner and written submissions on behalf of the first

respondent and heard oral submissions on 22nd May, 2012. In reaching the conclusions hereinafter set out, I have taken account of

all of the submissions made by the parties.

4. The following general observations in relation to the overall approach adopted by Mr. O'Flanagan in his report are appropriate:

(a) I consider that Mr. O'Flanagan was correct in not applying a minority discount to the shares beneficially owned by the

first respondent. The reality is that the petitioner and the first respondent have had an equal beneficial shareholding in

the Company equivalent to 49.99% each of the issued share capital of the Company for approximately twenty years.

Further, in effect, as Mr. O'Flanagan pointed out, the business of the Company was operated as a quasi-partnership. I

have recently had occasion to consider the law in this jurisdiction in Skytours Ltd. [2011] IEHC 517, in which judgment

was delivered on 29th July, 2011, as to when the value of a minority shareholding should be discounted in the context of

an application under s. 205 of the Act of 1963. I am satisfied that, on the basis of the principles outlined in that

judgment, as a matter of law, for present purposes the value of the shareholding of the first respondent should not be

discounted on the basis that it is a minority shareholding.

(b) I consider that Mr. O'Flanagan's approach to the valuation of the shares of the first respondent was the appropriate

approach. In particular, having regard to the data available in relation to the business of the Company over the five years

prior to the valuation date, that is to say, 31st August, 2008, Mr. O'Flanagan was obviously correct in concluding, as he

has done in his report at para. 4.5, that there are limitations in valuing the Company using a methodology based solely on

current or future earnings. The Company has been loss making since 2006 and, as Mr. O'Flanagan has pointed out, due to

the continued uncertainty facing the construction sector, it is difficult to estimate when a return to profitability might

occur. Therefore, I consider that adopting an asset approach to valuing the Company, in order to assess what the

purchaser of the shareholding in the Company might pay by reference to the value of the assets on a going concern

basis, is the most reliable approach to valuing the Company, as a preliminary to valuing the shareholding of the first

respondent in it. In my view, the approach adopted by Mr. O'Flanagan is the approach which produces a fair and just

outcome as between the first respondent, on the one hand, and the petitioner, on the other hand.

5. Turning to the specifics of the valuation, the crucial table in Mr. O'Flanagan's report is Table 6.1 (on page 28), which contains a

Summary Balance Sheet as at 31st October, 2011, to which, some adjustments have been made to adjust the value of fixed assets

to market value and to roll back to the date fixed by the Court for the valuation, that is to say, 31st August, 2011. In addition, Mr.

O'Flanagan has tabulated contingent assets and contingent liabilities in Table 6.3 (at page 38) and has addressed those issues in

paragraphs 6.32 to 6.41 (at pages 35 to 38) of the report.

6. The area of contention between the first respondent and the petitioner which has the greatest impact on the outcome of the

exercise of valuing the shareholding of the first respondent relates to the valuation of the various properties owned by the Company.

7. As I recorded in my judgment of 31st August, 2011, there had been put before the Court prior to the delivery of that judgment a

comprehensive report of 14th March, 2011 prepared by Trevor Porter of Property Partners Paul Reynolds & Co. Ltd., Auctioneers,

Estate Agents and Valuers (Property Partners), a firm carrying on business in Letterkenny, which put an aggregate value of

€4,314,000 on the twelve properties owned by the Company. I am somewhat perturbed by the fact that the petitioner, in his

observations stated 27th April, 2012 on Mr. O'Flanagan's draft valuation report, stated that Property Partners had kept the March

2011 valuation on the "high-side" at the time, given that they would be used in a viability review of the Company. That valuation was

put before the Court on the basis that it represented the true market value of the properties.

8. In any event, a further report was obtained from Property Partners valuing the twelve properties as at 31st August, 2011 and the

total value put on the twelve properties was €3,958,000. Mr. O'Flanagan retained CBRE to carry out "desktop" valuations of the

twelve properties as of 31st August, 2011. The report of CBRE is appended to Mr. O'Flanagan's report as Appendix 3. CBRE put a

value of €2,213,000 on the twelve properties, which is €1,745,000 less than the valuation of Property Partners on the same day. In

the written submissions on behalf of the first respondent, it is stated that there has been a recent valuation of the twelve properties

by GVA Donal O'Buachalla, which was commissioned on behalf of the first respondent by his current solicitors, Purdy FitzGerald, and

that that valuation valued the twelve properties, excluding the effect on valuation of special purchasers, as between €3,525,000 and

€3,600,000. That valuation was proffered to the Court. However, it was submitted on behalf of the petitioner that the Court should

not have regard to it. The property valuations set out in Table 6.2 of Mr. O'Flanagan's report (at page 29) differentiate between

properties which are core to the business of the Company and properties which are non-core to the business. Of the difference of

€1,745,000 between the CBRE valuation and the Property Partners valuation as at 31st August, 2011, €902,000 is attributable to the

two properties in Letterkenny and one property in Ramelton which are core to the business of the Company.

9. Another area of contention is the treatment of contingent assets and contingent liabilities. The only contingent asset is the

amount payable to the Company by Donegal County Council on foot of a compulsory purchase order made in relation to land near

Letterkenny as long ago as 1999. The amount ascribed by Mr. O'Flanagan in respect of the compensation is the figure €232,500 put

on the property by a chartered valuation surveyor in a letter dated 10th December, 2010. The first respondent contended that the

compensation will be higher and that, in addition, interest will be payable to the Company, which proposition, I assume, is based on

Donegal County Council having taken possession of the property. It may be that the compensation which will eventually be

forthcoming will exceed €232,500. As regards contingent liabilities, these are based primarily on potential claims which the Company

may have to deal with in the future in relation to -

(a) the termination of the employment of former employees on reaching normal retirement age,

(b) redundancy costs in respect of employees made redundant in April, 2012,

(c) the cessation in October 2011 of salary payments to one employee who had been on sick leave since April 2010, and

(d) the making of the first respondent redundant.

Mr. O'Flanagan has estimated the liability which may arise from these claims as somewhere between €146,000 and €346,000.

10. The Summary Balance Sheet, prior to adjustment, is based on the audited accounts of the Company for the twenty two month

period to 31st October, 2011, which were eventually produced. The adjustment made by Mr. O'Flanagan to roll back the balance

sheet to 31st August, 2011, the date of valuation stipulated by the Court, is €120,000, that is to say, €60,000 in respect of October

2011 and €60,000 in respect of September 2011. I am satisfied to rely on Mr. O'Flanagan's expertise in assessing the appropriate

figure for roll back, although I note that paras. 6.42 to 6.43 referred to Table 6.1 are not in his final report.

11. The "bottom line" of the adjusted balance sheet in Table 6.1 shows net assets of the Company at €613,226 as at 31st August,

2010. The make up of that figure includes:

(a) the CBRE valuation of the twelve properties which replaces the book value in the accounts as at 31st October, 2011;

(b) the sum of €165,000 which the Court ordered the first respondent to repay to the Company, which appears as a debt

due to the Company; and

(c) the sum of €120,000 representing the roll back to 31st August, 2011.

12. The valuation put by Mr. O'Flanagan on the beneficial shareholding of the first respondent as at 31st August, 2011 is €250,000,

which after the set-off of €165,000, would leave a balance of€85,000 payable by the Company to the first respondent. The figure of

€250,000 is based on the net asset value of the Company being €500,000 as at 31st August, 2011. That represents a reduction of

approximately €113,000 from the net assets after roll back as shown in the Summary Balance Sheet (€613,266). Mr. O'Flanagan has

explained this reduction on the basis that he has allowed some reduction in his valuation for a level of compensation for future losses.

Mr. O'Flanagan had the benefit of the management budget for the Company for the year ended 30th December, 2012. In considering

the question whether a buyer would need some compensation for likely future losses incurred until the Company should return to

break even point, he stated that he considered that any buyer of the shares of the first respondent would only become involved if

the losses could be stemmed more quickly than shown in the 2012 budget, in all probability through a combination of revenue

generation and cost reduction measures. I consider that it is appropriate for the Court to defer to Mr. O'Flanagan's expertise on this

point.

13. That leaves the matter of contingent assets and contingent liabilities. As I have already indicated, the first respondent contends

that the figure (€232,500) ascribed to contingent assets is too low, whereas it was submitted on behalf of the petitioner that the

Company's contingent liabilities in respect of the matters to which I have referred earlier will, in reality, be much higher than Mr.

O'Flanagan's assessment. While the true position in relation to the contingent asset (the CPO compensation) is easily ascertainable,

the estimation of the contingent liabilities is much more difficult. The approach adopted by Mr. O'Flanagan was based on the

proposition that a purchaser of the share capital of the Company would place some weight on the potential contingent assets and

contingent liabilities and that he would assess, as best he could, the probabilities of different contingent gains and losses arising and

in all likelihood he would assign different probabilities to each. Mr. O'Flanagan then stated:

"In my judgment, having considered the different nature and quantum of the contingent assets and liabilities in this case,

I believe a buyer might reasonably offset the contingent gain against the contingent liabilities. As such I make no

adjustment for these matters in arriving at my valuation opinion."

Given the imponderable nature of the contingent liabilities, that pragmatic approach seems to me not to be unreasonable. Further, I

am of the view that it is the approach which it is most probable will give rise to a fair and just outcome in valuing the beneficial

shareholding of the first respondent in the Company.

14. However, there is a further major imponderable in this matter, which is more likely to impact on the ultimate fairness of the

outcome of this matter, that is to say, the property valuation and, in particular, whether the difference between the CBRE "desktop"

valuation, which Mr. O'Flanagan properly had regard to, on the one hand, and the Property Partners valuation, on the other hand, is

justifiable. For instance, there are four non-core properties situate in Ramelton (Nos. 8, 10, 11 and 12 in Table 6.2 at page 29 of the

report) which are valued at €640,000 by Property Partners at 31st August, 2011, whereas they are valued by CBRE on a "desktop"

basis at €339,000. I have come to the conclusion that justice and fairness as between the petitioner and the first respondent would

be best achieved if those four properties were transferred by the Company in specie to the first respondent as consideration for the

shares of which he is beneficial owner, subject, however, to the first respondent remitting the sum of €165,000 to the Company.

15. That means that, while I am wholly in agreement with the approach adopted by Mr. O'Flanagan in his thorough and comprehensive

report, to take account of the imponderable in relation to the property values, I am valuing the beneficial shareholding of the first

respondent at €339,000 as at 31st August, 2011 on the basis that giving the first respondent such value is effected by transferring

those properties to him in specie.