Following the Cayman Islands Court of Appeal's recent decision in Re Shanda Games Limited (6 March 2018), dissenting shareholders will need to take into account the commercial impact of a minority discount on the value of their shares in a company subject to a merger, consolidation or take-private transaction under section 238 of the Companies Law.
Section 238 of the Cayman Islands Companies Law entitles a member of a company to "payment of the fair value of his shares" upon dissenting in a merger or consolidation. Until now, the practice of the Cayman Court to determine the "fair value of [a dissenter's] shares" has been to calculate the value of the company and award the dissenting shareholder an amount representing their proportionate share of that value, with limited adjustments. However, the Cayman Islands Court of Appeal has now reversed this approach and made clear that it is appropriate for a minority discount to be applied in determining the fair value of a dissenter's shares in a statutory appraisal case under section 238 of the Companies Law.
In order to quantify the consequences of this decision, it is worth bearing in mind that in Shanda Games the minority discount of 23% which the experts agreed should apply to the value of the dissenters' shares resulted in a reduction in the value of the dissenters' shares to the tune of $16.9 million.
The First Instance Decision
The Honourable Mr Justice Segal had followed the earlier decision of Jones J in Re Integra Group  1 CILR 192 (though it is important to note that the minority discount question was not argued before Jones J in Integra) and rejected the suggestion of a minority discount at first instance on the basis that, inter alia:
1. The Cayman Islands' statutory appraisal regime was based on the Delaware statute and in that jurisdiction, no minority discount is applied (nor is it applied in Canada which also has a statutory appraisal regime). Rather it is the practice in those jurisdictions to value a dissenting shareholders' holdings as a proportion of the value of the company. Thus, the Courts have rejected a market value approach to appraisal in Delaware.
2. The purpose of the s238 regime is to protect the interests of minority shareholders and applying a minority discount to the assessment of the value of their shares is inconsistent with this purpose.
3. The full value of a dissenting shareholder's interest includes a right to distribution of their share of the company's assets following a sale of the company's business, which is inconsistent with the application of a minority discount.
While Segal J reviewed comparable provisions and cases in England and Bermuda, he considered that they were distinguishable from the s238 cases that come before the Cayman Islands Court and that having regard to the origins of s238, it was more appropriate to follow the Delaware court.
The Court of Appeal's reasoning
In forming its view that a minority discount is appropriate and expressly rejecting the findings of Segal J in Shanda Games and Jones J in Integra:
1. The Court of Appeal looked to the English authorities on share valuation in the context of compulsory acquisition of shares by way of scheme of arrangement, "squeeze-outs" and unfair prejudice claims. The Court of Appeal considered that it would be "unlikely in the extreme" that the simplified merger and consolidation regime in section 238 was intended to depart from the approach adopted to squeeze outs and schemes of arrangement and opined that "it is to be presumed that the three mechanisms, contained in the same piece of legislation and capable of serving the same purpose in different ways, are to be construed from the same standpoint".
2. The Court formed the view that the Delaware jurisprudence should no longer be followed on this point in the Cayman Islands. In this regard the Court of Appeal pointed to Delaware public policy considerations which do not apply in the Cayman Islands and also pointed to the linguistic differences in the Cayman Islands and Delaware legislation. In Delaware, a dissenting shareholder is entitled to the fair value of their "shares of stock", being their proportionate share of the company's value. In contrast, section 238 entitles a dissenter to "the fair value of his shares" which instead focuses the appraisal exercise on the personal shares of the dissenting shareholder and any attendant rights and liabilities of those shares. The Court concluded that "there is nothing in the wording of the section that suggests that the focus is to be on the value of the company rather than on the value of the shares".
3. The Court of Appeal rejected the suggestion that the reference to Delaware law during the second reading speech in the Legislative Assembly, which introduced section 238 to the Cayman Islands Companies Law, indicated an intention that section 238 was intended to implement or follow the Delaware model in particular. In adopting this view, the Court had regard to the fact that that Delaware law was just one of numerous jurisdictions reviewed prior to the introduction of the statutory appraisal regime and observed that "the appraisal regime to which section 238 bears most similarity is that of Canada, but its legislation is not said to have been reviewed." The Court of Appeal accepted that Delaware jurisprudence can be of assistance to the Cayman Court but noted that it should not be determinative.
The dissenting shareholders tried to argue on appeal that the Court should follow the Privy Council decision in CVC/Opportunity Equity Partners Ltd v Demarco Almeida  2 BCLC 108 in which the Court assessed the appropriateness of a share buy-out offer in the context of an unfair prejudice petition. The Board determined that the minority shareholder was entitled to an offer that reflected his interest in the business as a going concern and was not subject to a minority discount. However, the Court of Appeal expressly rejected this submission on the basis that the cases in England and the Cayman Islands where the Court has not applied a minority discount (including in CVC/Opportunity) all involve circumstances where there is a relationship of trust and confidence, such as quasi-partnerships. Accordingly, it is currently the case in the Cayman Islands that in the absence of a quasi-partnership or other corporate structure which involves a relationship of trust and confidence, the Court will now apply a minority discount.
Impact of the Judgment
It should be assumed that the court will now apply a minority discount to s238 matters going forwards.
The impact of the minority discount on likely returns will therefore need to be an important commercial consideration for those inclined to dissent on the merger price moving forwards. However, the quantification of the minority discount was not addressed in the Court of Appeal's judgment (as the discount to be applied, if applicable, had been agreed by the experts), nor was it addressed in Segal J's judgment, nor by Jones J in Integra before him. Similarly, the English line of authority (including Irvine v Irvine (No 2)  1 BCLC 445) leaves the calculation of the minority discount to the valuers.
This is not to say, however, that there is no room for legal argument on how and when the minority discount may be applied going forwards. There is, for instance, a suggestion in the English authorities that there may be circumstances outside of the quasi-partnership scenario in which application of a minority discount would be contrary to the interests of fairness. This is therefore likely to be an area in which the jurisprudence will continue to develop in the near future.