Valuation and the New Jersey Oppressed Shareholder Statute
It is always wise to advise someone investing in a small company that as a minority investor you have little or no control over the business. In addition, it is also wise to advise majority owners of a small company that minority investors do have some rights. Small business owners need to be very careful when bringing on investor partners who have an ownership stake in the company. It is always surprising to me how business owners who have built up a company over many years will simply give away a portion of the ownership in the company not realizing the risk they are taking.
A fair amount of our forensic accounting practice is devoted to preparation of reports and testifying in cases involving N.J.S.A. 14A: 12 – 7(1)(c), The New Jersey Oppressed Shareholder Statute.
Once oppression has been established, a judge can order dissolution of the corporate stock or sale of its stock. This act applies to corporations that have 25 or fewer shareholders.
The purpose of the act is to allow the oppressed party to receive a “fair and equitable value” for their stock.
The act does require the judge to obtain a “fair value” for the stock that will be used to either buy out the oppressor or the oppressed. This is where forensic accounting, litigation, and business valuation experts like us get involved.
Fair value of a stock in the state of New Jersey generally means valuation without any discounts. Typically, no discount for marketability or minority discount. By doing this it gives the judge more opportunity to evaluate both the oppressed shareholder and the oppressing shareholder. Once the judge has the fair value of the stock, they can then punish “bad actors “by taking marketability discounts. Marketability discounts can range from 20% to 45%. This means that the judge has plenty of opportunity to punish “bad actors” once they have all the facts.
The major cases that deal with handling business valuation issues in oppressed shareholder cases are, Balsamides v. Protameen “Balsamides” and Lawson Mardon Wheaton v. Smith “Lawson” There are other important cases, but these two will give you a good feel for what is involved from the point of view of the business valuation expert.
Balsamides is quite an interesting case because the oppressed shareholder actually ended up buying out the oppressor. The buyout was based on fair value with a 35% marketability discount applied. This meant that the oppressed shareholder actually came out way ahead assuming they wanted to stay involved in the company.
The same day as the ruling on Balsamides was decided Lawson was also decided. With Lawson the Supreme Court did not apply a marketability discount because they felt that it should only be applied in “extraordinary circumstances.” Lawson revolved around a family feud and the judge said that family feuds are not “extraordinary circumstances.”
The important thing to take away from this is that in addition to having a good lawyer it is critical that you have a business valuation expert with experience on how the Oppressed Shareholder Statute will be applied.Return to Video Gallery