“All the world’s a stage…

This case before the First-tier Tribunal related to the 2007/2008 personal tax return of Mr Green and Gift Aid claims for £237,500 which he had made in that return. The case was heard in 2013 and reported in 2014.

It centred on a dormant company, Chartersea Limited. There were 16 shareholders, including Mr Green, owning a total of 9.6m ordinary shares of 0.1p. The total amount subscribed for these shares was some £1,703,000. Chartersea acquired the shares of a private home-improvements group, Warwick Management Limited (WML) for just over £4m, using a mixture of own funds, deferred consideration and senior debt. This transaction took place in March 2008. On 4 April 2008 the shares of Chartersea were listed on the Channels Islands Stock Exchange (CISX). The bid price was 95p and the ask price was 105p. The indicated market capitalisation was £9,648,000.

Almost immediately after listing there were two mystery share trades within one minute of each other: two parcels of 7,000 shares were traded at 101p and 100p by Brewin Nominees Limited and Giltspur Nominees Limited. At the time of the hearing there had been no other trades in the shares of Chartersea on the CISX.

On 4 April 2008 Mr Green made two Gift Aid donations of parts of his shareholding, to the National Eczema Society and the Alzheimer Society. The gifts were of a total of 237,500 shares. Mr Green made a Gift Aid claim for £237,500. The shares had cost him £60,800 (an average price of 25.6p per share) some three weeks earlier.

...And all the men and women merely players”

The challenge for the Tribunal was to discern what had happened to the value of Chartersea shares in the three week period from mid March to 4 April 2008. Its only material asset was WML, its wholly owned subsidiary, acquired for just over £4m using a mixture of own funds and debt. If the value of the shares in Chartersea had increased from the amounts subscribed of £1.7m to over £6.9m in a period of three weeks, what had been the cause of this sudden bounty?

Mr G. Johnson, the principal vendor of WML, gave evidence as to his motivations in this sale in March 2008. However, as the drama unfolded at the Tribunal hearing, the two main speaking parts went to the two valuation experts representing HMRC and Mr Green, respectively.

Mr Johnson gave evidence to the effect that he had been prepared to sell WML for a price which he considered to be well below its true value. The Tribunal disposed of his evidence briskly: “Having decided in 2008 that he was prepared to exit the business and sell his shares in WML, we do not find Mr Johnson’s evidence credible as to why he was prepared to agree a sale price that was said to be significantly lower than the price he might have achieved.”

The case for the taxpayer was weakened further by the discovery by HMRC, after some diligent detective work, that the buyers and the sellers of the shares in the two mystery trades, described by the Tribunal as “waiting in the wings” had business connections with Mr Green and other interested parties.

“Seeking the bubble reputation even in the cannon’s mouth”

There was some drama involving the experts.

• The HMRC expert had produced a preliminary report for his client before the one that had been produced for the Tribunal. Following an application by Mr Green’s advisers for disclosure, the Tribunal directed that HMRC should disclose this preliminary report. This had included both assumptions and unguarded terminology. The HMRC expert was therefore put to task to defend himself against a charge of bias (which he did successfully). 
• The taxpayer’s expert appeared to be uncertain as to who had instructed him, the terms of his engagement and by whom he was to be paid. He had to defend himself from a charge that his fee was contingent on the outcome of the hearing. 
• There was some uncertainty as to whether or not the “desktop” report presented by the taxpayer’s expert was to be his expert report upon which he relied. It had initially been produced for a different purpose, but he confirmed that he had adopted the report as an expert report for the purpose of the hearing. The HMRC expert, not holding back, regarded the appendices to this report to be muddled and incoherent.

Against the backdrop of these recriminations, each expert had issued at least one supplementary report which criticised the approach and methodology of the other in brusque and bruising terms.

The case was always likely to be determined by the credibility and experience of the two experts and their subjective assessment of appropriate multipliers. In consequence, Counsel for each side spent some time in probing and challenging the relevance of the experience of the other side’s expert.

Holy Writ

There were several technical points of interest which are summarised below. (In testing the approach and definitions used by each of the experts, the Tribunal made extensive use of “Practical Share Valuation” by Nigel Eastaway and Others (Eastaway). The decision of the Tribunal includes extended quotations from this justifiably well-known work, notably in the definition of various valuation terms).

• The first valuation approach used by the HMRC expert was essentially the cost approach: he considered that a sound assessment of value was the cost of the components of Chartersea which had been so recently constructed. Despite heavy criticism from the taxpayer’s expert, this approach unsurprisingly found favour with the Tribunal. They saw this as an obvious and easy starting point for the assessment of the possible market value. 
• The HMRC expert also used discounted cash-flow (DCF) techniques as a check on value. He maintained, under fire, the suitability of this method. This was in the context of it being one of three methods which he had employed, all of which delivered values for the shares in the range from 25p to 30p. He acknowledged that Eastaway had noted that no UK valuation cases had yet been determined using DCF as the determining method. However, it was commonly used in North America and was consistent with the use of single-period multiples: it was not some alien construct. 
• The expert for Mr Green was charged with using language in a confusing way, with enterprise value, business value and price/earnings ratio (PER) being given unexpected meanings. Some of the flavour of this is given by this extract from the written decision of the hearing: Mr Green’s expert “…concluded in the 2010 Report that an appropriate range of P/E multiples based upon research and personal experience of the type and size of business, given the market conditions in March 2008, might be 8 to 13 to illustrate Chartersea’s Enterprise Value.”

The figures

Although price/earnings was not his preferred method, the HMRC expert considered that an appropriate post-tax multiple was 6 and that this should be applied to maintainable post-tax profits of £520,000 in order to derive a value for WML.

Mr Green’s expert considered that the multiples should be 8 to 13 as referred to above and that the pre-tax profit range should be £948,000 to £983,000.

In order to give readers a flavour of the potential valuation range, the results for the three years and nine months to 31 March 2007 of WDL (the trading subsidiary of WML) are given below. There was no balance-sheet data provided in the Decision, but it was stated that the level of interest-bearing debt in WML was not significant. (It was noted, however, that there were high debt levels in Chartersea)

Different vistas

The HMRC expert produced a third valuation report, based on a late discovery of a private equity takeover of a company called Vista Group plc, an AIM company, in March 2008. In his view the degree of similarity between Vista and WDL was “remarkable”. Both businesses were based on Merseyside and were engaged in the sale of uPVC windows and doors. Added to this was the fact that Mr G. Johnson, the main shareholder in WML and Tribunal witness, was (until 27 March 2008) Chairman of Vista. Both companies used the same team of advisers, and Mr Green’s valuation expert had advised on the Vista transaction. Here was a parallel play with a virtually identical cast.

The offer was 19.5p per share which valued Vista at approximately £3m and represented a premium of 25.8% to the AIM closing price of 15.5p per share on 3 March 2008. The PER implied in the deal was therefore 5.63. The HMRC expert emphasised that these figures were “entirety values” and that his 30p per Chartersea share made no allowance for minority status; the reciprocal of Vista’s premium of 25.8% was a discount from entirety value of 20.5%, which by his illustration reduced 30p to 23.85p per share. In his view Vista provided clear support for his valuations and illustrated that the range of multiples of Mr Green’s expert was plainly excessive.

Mr G. Johnson and Mr Green’s expert both stressed the differences between Vista and WML. They considered the surface similarities to be illusory. That was the reason given for Mr Green’s expert not including this transaction as an appropriate comparator in his report.

“They have their exits and their entrances”

The Tribunal found that the value of the shares of Chartersea on 4 April 2008 was 35p (which some readers may find rather generous).

The Tribunal made comments on both experts in their findings: the HMRC expert should not have concluded as he had in his preliminary (confidential) report regarding the nature of the two mystery share transactions and the status of Chartersea on the CISX market.

The Tribunal was startlingly gentle in their comments made of Mr Green’s expert, and the episode involving Vista: “In particular, we think that, consistent with his obligations as an expert assisting this Tribunal, [he] in a separate report should have properly addressed the Vista transaction and explained why, in his view, it did not affect his valuation of Chartersea.”

Andrew Strickland
Valuation Group, March 2015