Our client is the (slightly) minority shareholder of a two shareholder corporation. He is also the CEO. Under the corporate documents, he receives a salary for his role as CEO. Our client feels he might be forced to sell his shares back to the company. He has no expectation of profit from the shares (they aren’t worth much). He feels, however, that the shares are worth something because of the power and decision-making ability with the company that they represent. Our client also feels that his employment contract is worth something and he should be bought out of it.
If the court forces a buyout of a slightly minority shareholder, how would the court value the shares if the shareholder has no expectation of profit?
If the shareholder gets a salary for his role as CEO, is his employment contract a valuable asset that our client must be compensated for?
Valuation of the Shares
Generally speaking, the shares of a corporation that is not publicly held are valued at their fair market value at the time the action for a buy-out motion is commenced unless the bylaws or Articles state otherwise.
If the bylaws or Articles give a valuation, the value in the bylaws or Articles shall be the price paid for the shares.
If the parties are unable to agree on fair value within 40 days of entry of the order, the court shall determine the fair value of the shares using any factors the court finds relevant to assess their value. The statute does not list any specific factors. Minn. Stat. Ann. § 302A.751 (West)
The Minnesota Supreme Court in U.S. Bank N.A. v. Cold Spring Granite Co., 802 N.W.2d 363, 368 (Minn. 2011) weighed the value of the shares of stock from a reverse stock split in which minority shareholders were forced to accept cash in exchange for their shares. The Court examined the value of the share using three different scenarios:
- market approach,
- the income approach, and
- the net asset value approach.
In this case, the court held that there is no “bright-line” rule for valuation, and the court will consider any valuation method that is generally accepted by the community as a whole.
Buyout of Employment Contract
As a general rule, an employment contract creates a property interest and an expectation of compensation. A person who holds such a contract and is terminated must typically be compensated for the remaining portion of the agreement.
In some situations, a closely-held corporation will call for its shareholders to hold officer positions in a the bylaws or within the membership agreement. In such a case, Minnesota courts have held that this creates a lifetime employment expectation. Pedro v. Pedro, 489 N.W.2d 798, 800 (Minn. App. 1992). In this case, the wrongfully terminated stockholder/employee was paid his lost wages (wages he would have expected to make) until the age of 72.
In relation to the valuation of the stock shares, the court will use its discretion to determine the value of the stock. This means that the court will need to assess a value to shares that return no profit. To place a value on the shares, the parties will likely need to proffer an expert witness to determine: (1) the business’s value, (2) growth projections of the business, and (3) determine what “power” is worth. For example, how much would the other shareholder pay to have complete control? How much would someone else pay to have complete control?
Courts are typically fairly flexible when it comes to determining value and they carefully weigh all factors involved before placing a value on stock shares.
Furthermore, a person with a lifetime employment contract might be entitled to any lost wages he would have made until he reaches the formulaic “retirement age.”