David Bell: Accounting issues in unfair prejudice claims
David Bell considers unfair prejudice claims in business disputes and how the role of the forensic accountant can play a part in resolving these.
There has been an increase in unfair prejudice claims in the last few years and they always bring out interesting and challenging issues from a forensic accounting perspective.
The questions of a forensic accountant
These claims are often multi-faceted for forensic accountants as there will be more than one issue to grapple with. The two most commonly asked questions we have to report on are:
- What is the value of the alleged actions that were prejudicial to the minority shareholder?
- What is the value of the minority shareholder’s interest in the business with and without the alleged prejudicial conduct?
These sound straightforward enough, but the journey to get to the right answer can be fraught with challenges.
To discount or not to discount
There will be the issue of whether or not a minority discount requires to be applied in valuing the minority holding – is the business a quasi-partnership? Is there a shareholders’ agreement in place, if so does it impact the valuation approach? If it’s appropriate to apply a minority discount then what level of discount should be applied? This question alone can be the ground for disagreement and debate, a black and white answer here is rare.
Family businesses and emotional relationships
With statistics showing that only 30 per cent of family businesses survive through the second generation there are often fall-outs between directors, shareholders and family members. It’s fair to say that the majority of unfair prejudice claims we’ve been involved in are within family businesses, and separating emotions from commercial decisions is not easy for the disputing parties. It can sound cold-hearted but leaving the emotions to one side and anchoring on the facts, the financial information and the evidence is an important role of the forensic accountant. However, playing the role of a counsellor may be required while obtaining the necessary financial information and evidence.
The availability of financial information
When allegations date back many years it can be challenging to locate the accounting records and financial information on which to quantify a claim. This becomes even more relevant when acting for the minority shareholder. When there are allegations of trade and profits being diverted to a different entity there is the issue of quantifying the missing profits, often challenging and requiring the use of investigative skills to look at business intelligence searches and relationships of key people and entities.
What is a successful remedy?
After an often-soul-destroying war of attrition between parties the remedy often preferred by the courts is a clean break with the minority shareholder disposing of their shares at value. Surprisingly, it has also been seen, particularly where a successful mediation has taken place, that family relationships have become far healthier at the end of a lengthy dispute. Happy families may be a stretch too far, but allowing the company and the individuals to move forward and focus on the future is a good start.
David Bell is assistant director, forensic & integrity services at Ernst & Young