Only a few months after reversing the Delaware Court of Chancery’s DFC Global decision, the Delaware Supreme Court did it again. Last week, it overturned the Chancery’s controversial 2016 Dell opinion in which Vice Chancellor Laster found the deal price did not accurately reflect the value of Dell stock. To arrive at fair value, the Chancery relied on its own discounted cash flow analysis.
The impetus for this statutory appraisal action was the 2013 management buyout led by the company’s founder, Michael Dell. The deal price was $13.75 per share, a 37% premium to the company’s stock price. The court’s DCF value was $17.62 per share.
Problems related to the sales process caused a mispricing whose degree could not be quantified, the Chancery said. It noted a “valuation gap” between the company’s intrinsic value and its market value because the company’s investors were too focused on short-term profit. No strategic buyers participated in the sales process. The participating private equity bidders all used an LBO model to determine their bid price rather than valuing the company as a going concern. This pushed the deal price below fair value. Finally, MBO-specific problems also undercut the credibility of the deal price.
The Supreme Court found the Chancery’s decision not to assign any weight to the deal price was an abuse of discretion. “In fact, the record as distilled by the trial court suggests that the deal price deserved heavy, if not dispositive, weight.” The Supreme Court faulted the Chancery for “ignor[ing] the efficient market hypothesis long endorsed by the Court,” which “teaches that the price produced by an efficient market is generally a more reliable assessment of fair value than the view of a single analyst, especially an expert witness who caters her valuation to the litigation imperatives of a well-heeled client.” In disregarding the deal price, the Chancery overlooked the reality that, where Dell once was “a growth stock trading large multiples to its then-current cash flow,” the market in recent years simply no longer “bought Mr. Dell’s long-term vision,” the Supreme Court said.
Gil Matthews (Sutter Securities), an investment banker and close observer of the Delaware courts, calls the reversal “inevitable” after Chief Justice Strine wrote in DFC Global that "the fact that a financial buyer may demand a certain rate of return on its investment in exchange for undertaking the risk of an acquisition does not mean that the price it is willing to pay is not a meaningful indication of fair value." Matthews points out that the instant decision in effect says that, “DCF, even when properly performed, can arrive at a value that nobody would pay.” He continues: “I have been very concerned for years over the Court of Chancery’s almost automatic default to DCF. The court likes to rely on the supposed ‘precision’ of DCF, but I have always argued that DCF only gives an illusion of precision. We all know that a calculated DCF value can change materially with small changes in the inputs.”
An extended discussion of Dell, Inc. v. Magnetar Global Event Driven Master Fund Ltd., 2017 Del. LEXIS 518 (Dec. 14, 2017), and the court’s opinion will be available soon at BVLaw.Subscribers can find a digest as well as the court opinion for the DFC Global here.