Delaware Chancery grapples with sale price versus post-merger DCF

BVWireIssue #151-3
April 15, 2015

What’s more plausible: the merger price or the value derived from the discounted cash flow? This was the overarching question the Delaware Court of Chancery recently explored in a statutory appraisal action.

Backstory. Ancestry.com was a self-described “pioneer and the leader in the online family research market.” The company went public in 2009, when its shares traded at $13.50 each. After it became the sponsor of a popular NBC show, “Who Do You Think You Are?the price per share rose as high as $40. But its fortunes changed again, and its board decided to sell the company to a private equity investor for $32 per share. The merger price represented a 41% premium on the unaffected trading price of company stock. Ninety-nine percent of the voting shares approved of the transaction, but the dissenters asked the court for a fair value determination.

Both sides retained experts who agreed on the use of the DCF analysis but disagreed over key inputs. According to the Chancery, the petitioners’ expert “proved something of a moving target” in that he proposed at different points in the litigation that the company was worth as much as $47 per share and no less than $42.81. The company’s expert concluded the stock was only worth $30.63 per share. That price was actually below the value the buyer, a nonstrategic investor, was willing to pay, the court observed.

‘Riffs on market price’: Both experts were respected and well qualified, but their valuations were “less than fully persuasive,” the Chancery noted. The analyses were “result-oriented riffs on the market price.” By his own account, the petitioners’ expert “tortured the numbers until they confess[ed].” The company’s expert “candidly suggested” that if his valuation had been as far from the merger price as that of the petitioners’ expert, he “would have tried to find out a way to reconcile those two numbers.”

The Chancery said these statements showed the limited use of a post hoc DCF valuation. “If an analysis, relied upon to assess whether a sales price presents the fair value, in turn uses that very sales price as a check on its own plausibility, and if it must be revised if it fails that check, then the process itself approaches tautology.”

Instead of relying on either expert’s analysis completely, the court performed its own DCF, arriving at a value of $31.79 per share. But, since the sales process was “reasonable, wide-ranging and produced a motivated buyer,” the court decided it would be “hubristic” to elevate its DCF estimate of value over the value an entity “for which investment represents a real—not merely an academic—risk” placed on the company. Therefore, the Chancery found the $32 merger price best represented the fair value of company stock. The DCF value was useful as a check on the market-derived valuation, the court said.

Find a discussion of In re Ancestry, 2015 Del. Ch. LEXIS 21 (Jan. 30, 2015) in the May edition of Business Valuation Update; the court’s opinion is available at BVLaw.

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