September 17, 2020

Indiana Court Holds that Marketability and Control Discounts Cannot Apply in Minority-to-Majority Sale

Holland & Knight Shareholder Rights Blog
Michael J. Zdeb
Shareholder Rights Blog

"Based on the foregoing, we hold that, as a matter of law, the value of shares under the buyback provision in the Shareholder Agreement, which required to apply the appraised market valuation, cannot be discounted for lack of marketability and control when the Company is required to purchase the shares."

Hartman v. BigInch Fabricators & Construction Holding Company, Indiana Court of Appeals, May 5, 2020

The Foregoing

In March 2018, Blake B. Hartman, a founder of BigInch Fabricators & Construction Holding Company, was involuntarily terminated as an director and officer. The involuntary termination triggered the provisions of the shareholder agreement, which provided that the company was required to purchase his shares at "appraised market value on the last day of the year preceding the valuation, determined in accordance with generally accepted accounting principles by a third-party valuation company."

An appraiser performed a valuation of the company. The engagement of the appraiser was to "estimate the fair market value of the property. … This valuation was performed solely to assist with the valuation requirement in a shareholder agreement due to a triggering event." The appraiser concluded a value with the application of discounts for lack of control (DLOC) and lack of marketability (DLOM) of the interest of the plaintiff.

The Dispute

Hartman argued that the application of the "fair market value" standard of value was not in accordance with the agreement. That standard of value anticipates an "open market" involving willing sellers and willing buyers. As such, the application of the DLOC and the DLOM is allowed. The reduction in value by those two discounts was substantial.

Both sides filed motions for summary judgment, asking the court to determine "as a matter of law" whether the two discounts could be applied. The trial court found that the discounts could be applied, and an appeal followed.

The Central Issue for the Court of Appeals

What was the intent of the parties with the use of "appraised market value" in the determination of the purchase price of the shares?

Did the phrase mean "fair market value" as applied by the appraiser? Fair market value as a valuation phrase is well known. In a variety of decisions, regulations and publications, "fair market value" is usually defined as the price at which property would trade between a willing seller and a willing buyer, neither under compulsion and with relatively equal access to information. In effect, it is a form of "open market" value. As a "open market" transaction, fair market value can include discounts for lack of control and marketability, in particular for a non-controlling, minority ownership position such as Hartman's.

Or, did the phrase mean "fair value?" Fair value, as a standard of value, is used in a variety of legal settings. Most commonly, it is used in appraisal proceedings related to dissenters' rights actions, buyouts in oppression actions and frequently in breach of duty cases. In these cases, the majority or the company is the purchaser.

The noteworthy aspect of the standard of "fair value" is the lack of applying the DLOC and the DLOM. While not universal, most jurisdictions will not apply the two discounts if the standard of value is "fair value." Since the application of the two discounts can reduce a proportionate value in the business between 25 and 40 percent, the impact is substantial and the subject of much litigation.

Analysis of the Court

Construction of the words of an agreement is seen as a "pure question of law" for the court to decide. If an agreement is ambiguous due to language used, rather than other facts, the construction of the language is purely up to the court. An agreement is not ambiguous, however, "merely because a controversy exists where each party favors a different interpretation." Ambiguity exists if the court finds the language is susceptible to more than one interpretation, and there is an honest difference regarding it.

In this case, the Indiana Court of Appeals found the language "appraised market value" essentially unambiguous. The court, therefore, had to resolve the differing interpretations of the parties.


The court noted that earlier decisions had found that "fair market value" and "fair value" were not the same. These earlier decisions involved both divorce cases and statutory "fair value" actions.

In those earlier cases, no market existed for the shares independent of the company or the parties themselves. Consequently, application of an "open market" standard of value was inappropriate.

The court noted, "it would be incongruous to discount the shares of the minority shareholder for lack of liquidity when valuation is being done in connection with a proceeding that creates liquidity."

In effect, allowing a minority or non-marketability discount to be deducted from the value would create a windfall to the majority shareholders. The majority shareholders could purchase at deep discounts to a proportionate value, and then sell the entity, thereby capturing the discount amount.

The court went on to rule that as a matter of law, under such circumstances, the phrase did not contemplate an "open market" transaction. With a mandatory transaction under the shareholder agreement, the "willing aspect" of the standard of fair market value did not exist, and the agreement created liquidity.


Frequently shareholder agreements are entered into at a time when investments are made based on proportionate values. The parties use valuation formula that are not carefully crafted regarding the subsequent use of any discounts.

The standard of value or the valuation formula used in any shareholder agreement is one of the most critical topics to consider. The language needs to be well thought out and clearly expressed, and to the extent possible, should anticipate changing circumstances, in particular the prospect of changes in circumstances that would impact the use of any such discounts.

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