Sporborg v. City Specialty Stores, Inc.

• Decision Date: 08 June 1956
• Citation: 123 A.2d 121,35 Del.Ch. 560
• Parties: William D. SPORBORG, Jr., Elizabeth S. Morse, Sidney N. Morse, Jr., Sidney N. Morse, Morton M. Adler, Helen Adler, Nathan Kelmenson, Austin Tobey, and Benjamin M. Gruenstein, Plaintiffs, v. CITY SPECIALTY STORES, Inc., a Delaware Corporation, Defendant. Daniel P. SHEPARD and Mary L. D. Shepard, Plaintiffs, v. CITY SPECIALTY STORES, Inc., a Delaware Corporation, Defendant.
• Court: Court of Chancery of Delaware

Page 121

123 A.2d 121

35 Del.Ch. 560

William D. SPORBORG, Jr., Elizabeth S. Morse, Sidney N.

Morse, Jr., Sidney N. Morse, Morton M. Adler,

Helen Adler, Nathan Kelmenson, Austin

Tobey, and Benjamin M.

Gruenstein, Plaintiffs, v. CITY SPECIALTY STORES, Inc., a Delaware Corporation, Defendant.

Daniel P. SHEPARD and Mary L. D. Shepard, Plaintiffs, v. CITY SPECIALTY STORES, Inc., a Delaware Corporation, Defendant.

Court of Chancery of Delaware, New Castle County.

June 8, 1956.

Frank O'Donnell (of Berl, Potter & Anderson), Wilmington and William D. Sporborg, Jr., Port Chester, N. Y., for plaintiffs, except Daniel P. Shepard and Mary L. D. Shepard.

George T. Coulson (of Morris, Steel, Nichols & Arsht), Wilmington, for defendant.

SEITZ, Chancellor.

As a consequence of a merger of Oppenheim Collins & Co., Inc. ('Opcol') and Franklin Simon & Co. into City Specialty Stores, Inc., certain owners of stock of Opcol dissented and requested an appraisal of their shares. The appraiser fixed the value at $30.61 per share as of January 30, 1953, the effective date of the merger. Both the corporation and the dissenting shareholders have filed exceptions to the report of the appraiser and this is the decision thereon.

Preliminarily, it is well established that in an appraisal proceeding under our statute the shares must be valued on a going concern basis. Tri-Continental Corp. v. Battye, 31 Del.Ch. 523, 74 A.2d 71.

Opcol was an old well established specialty sales business, dealing primarily in ladies' apparel and accessories. At the merger date it had about 15 retail stores located in several large and medium sized cities.

The following chart shows the results of the appraiser's findings:

                Value Elements  Values of Shares       Wgt. Given         Value attributable to
                                  Based on Element       Element            Element
                -------------------------------------------------------------------------------
                Assets          42.35                  40%                16.94
                Earnings        18.50                  25%                4.625
                Sales           25.27                  25%                6.318
                Market Value    27.25                  10%                2.725
                                                       Value of Share     30.608
                

I believe all exceptions can be determined under the headings which follow.

1. Did the Appraiser Err in Giving Market Value Independent Weight?

I agree with the appraiser that market value is one of the elements to be considered in this type of proceeding. However, after considering it, I do not think it should have been given any independent weight here because the evidence shows that there was no dependable market value at or about the effective date of the merger. Compare Tri-Continental Corp. v. Battye, above. Prior to January 31, 1950, City Stores or Bankers Security controlled 50.84% of Opcol stock. Thereafter additional purchases were made by them so that by January 30, 1953, they controlled 96.21%. For at least two years prior to the merger, City Stores (or Bankers Security, which is treated the same) maintained the market in Opcol with a bid of $27.25 per share, and virtually every transaction during that period was effected for their account. In the last calendar year, 1800 of the 1900 shares traded were purchased by them. Thus the purchases were made almost entirely at a fixed price and at a time when that Corporation was already its majority stockholder. The expert testimony also sustains the artificiality of the $27.25 market value attributed to the stock. Compare Sterling v. Mayflower Hotel Corp., Del.Ch., 93 A.2d 107, 38 A.L.R.2d 425.

The appraiser held that the situation here differs from the Mayflower case, saying:

'* * * for here the inference that the majority knew that the price it was paying was a fair price or better, is at least of equal validity to the inference that it was paying a greater price than would be justified in a more normal market. In the Mayflower Hotel case, the majority interests had just purchased a large single block of stock and wanted to avoid a charge that they gave 'special treatment' to one group.'

The difficulty with this alleged distinction is that it ignores the fact of the absence of a market other than that made by one party in interest. The more reasonable inference is that the stockholder holding most of the stock desired to acquire 100% control and thereby remove the problems incident to minority stock ownership. I take judicial notice of the fact that such acquisitions are frequently made at premium prices. To the extent the offering price should be considered, I believe it is fairly reflected in the value elements hereinafter found.

I therefore conclude that the exception to the appraiser's use of market value should be sustained.

2. Did the Appraiser Err in His Computation of Earnings Value?

In arriving at the earnings value to be capitalized the appraiser considered only the fiscal year immediately preceding the effective date of the merger ($1.85). He compared such earnings with comparable stores and apparently concluded that the last year's earnings of Opcol were a reliable figure upon which to capitalize earnings. The appraiser thus appears to have rejected the principle that, rather than immediate prospective income, the average income to be expected over a reasonable period of time is the rule to be followed in making an appraisal. This principal is pointed out in In re General Realty & Utilities Corp., 29 Del.Ch. 480, 52 A.2d 6, 12:

'The stock market valuations are influenced appreciably by prospects for immediate increase and decrease in income; but the long-range prospects furnish the basis for sound valuation.'

In Vol. 1 Bonbright, Valuation of Property, p. 253, the author states:

'There is still an agreement among writers that a capitalization of average earnings over a period of 3 to 5 years (occasionally 10 to 15 years) is preferable, in most cases, to a capitalization of the earnings of any single year.'

True, the upward trend of this Corporation in the last fiscal year may suggest the likelihood that future earnings may be even greater than those of preceding years. But this does not justify the use of only a single year's earnings. I doubt that the stockholders would have urged the 1952 figures as the sole basis for future earnings' estimates if, instead of being a peak year, it had been an unusually poor one.

Defendant's exception on this point is sustained but as hereafter appears, the final earnings value price employed will be that suggested by defendant.

The defendant Corporation contends that the capitalization rate should have been five and not ten as used by the appraiser.

The task of finding a realistic capitalization rate is fraught with difficulties. Moreover, it can be misleading if the figures are used apart from the facts surrounding the particular corporation involved. Compare Cottrell v. Pawcatuck Co., Del.Ch., 116 A.2d 787; 1 Dewing, Financial Policy of Corporations, 5th Ed., p. 287 et seq.; 1 Bonbright, Valuation of Property, p. 262 et seq.

Mr. Dewing in his work on Financial Policy of Corporations describes the various rates and I believe that Opcol would come under the class discussed in the following quotation from Vol. 1, p. 390:

'Businesses, well established, but involving possible loss in consequence of shifts of general economic conditions. They are strong, well established businesses, but they produce a type of commodity which makes them vulnerable to depressions. They require considerable managerial ability, but little special knowledge on the part of the executives--15%, a value approximately seven times the net earnings.'

The capitalization rate of ten used by the appraiser is nearly the top value assigned to an individual business and very few are on this level. It embraces old established businesses with a minimum of risk. Certainly Opcol did not fit this classification. Rather, I believe Opcol optimistically falls within the six to eight capitalization range. The defendant Corporation concedes (brief p. 58) that the earnings value should be $13.00 on the basis of a price earnings comparison which takes into consideration the trend in 1952 and also the five year average.

Since this conceded figure is greater than that reached by capitalizing the average of five years' earnings based even on a multiplier of eight, I will adopt defendant's earnings figure of $13.00 per share.

3. Did the Appraiser Err in Considering 'Sales Value' or 'Investment Value' as an Independent Element of Value?

Apparently all parties agreed that 'Sales Value' or 'Investment Value' was a 'new' factor insofar as appraisal proceedings are concerned. The element involves the hypothesis that all earnings of a mercantile venture must come from its sales, and management 'can' convert an ascertainable portion of the sales into earnings, in this case 25%. Defendant describes it as a constructed market value based upon sales volume. Although, I agree with the appraiser's hypothesis, I do not believe sales value need be used as an independent element of value. It is in effect but another and even more theoretical method of determining earnings value. It thus duplicates that element in these proceedings without purpose.

I have seen no authority for its use as an independent element of value in an appraisal proceeding. New York cases ¹ talk of 'investment value' but they say:

'* * * investment value * * * takes account of such factors as the capitalization of the company, earnings and dividend record, position in the industry, prospects of the business and the industry, and the over-all value of its securities in relation to general market conditions and the market values of comparable securities.'

This is not the type of 'investment value' which plaintiffs and the appraiser had in mind. They relied upon a percentage of sales volume. While this may be a practical valuation process for some purposes, for...