Carl Icahn urged shareholders of Dell Inc. to start preparing appraisal rights for their shares in his latest announcement. According to Steven Davidoff, professor at the Michael E. Moritz College of Law at Ohio State University, appraisal rights may not be a good option for investors.
He explains, “That’s because of the way appraisal works and the risks involved.” Appraisal rights are determined in a judicial proceeding, and the court determines the fair value of the shares seeking appraisal.
Icahn’s ultimate goal is to get a potentially more lucrative option than the $13.65 a share that Michael Dell and investment firm Silver Lake are offering. However, in Delaware (where Dell is incorporated) it can take years for the court to determine the fair value of the shares during the appraisal process.
Many of the Delaware appraisal proceedings have shown that the judge splits the decision. Judges typically award a value that falls between the expert’s recommendations and give shareholders a decent return for exercising their rights.
Davidoff said, “But the possibility of receiving less would probably be a bigger issue in Dell’s case than in other appraisal proceedings.” He explains that Chancellor Leo E. Strine, Jr. the judge in the shareholder litigation over the Dell buyout is also likely to hear the appraisal proceedings. Chancellor Strine has already given the Dell sale process praise. At a June hearing, he said, “I do not see any plausible, conceivable basis in which to conclude that it is a colorable possibility that you could deem the choices made by this board to be unreasonable with all the different safeguards.”
Davidoff feels that even though appraisal looks at the value of shares and not the sale process, “it’s possible the process used here will affect the judge’s determination.” Davidoff advises the possibility of a “built-in bias” against the substantially higher award than the amount currently being offered.
To go even further, fair value for appraisal is assessed at the time of the merger, and not the time the deal was cut. Also, since February when the deal was first announced, Dell’s business has been deteriorating. This could lead to Silverlake and Dell arguing that they are actually paying above fair value presently.
Basically, in an appraisal proceeding, Icahn faces the strong possibility of receiving less than $13.65 a share. There’s also another hurdle to the appraisal proceeding in the Dell case. Until the appraisal proceeding is over, Icahn would not receive his money, which would result in approximately $2 billion in capital being tied up for two or more years.
What kind of return would Icahn get for tying up billions of dollars? In a presentation to Dell, Icahn and Southeastern Asset Management, stated that the fair value of shares is approximately $23 a share. In any award in appraisal rights proceedings, shareholders are also entitled to interest, which is the federal discount rate plus 5 percent from the time the merger occurs until the award is paid. At present, this would be 5.75 percent.
So, if the litigation was to take three years, the most Icahn could make would be approximately 25 to 30 percent annual return. However, that’s the best case scenario. When you adjust the figures for the risk of losing, he may be looking at negative returns. This is especially true when you take into account that he could’ve been earning returns with this money.
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