                             COURT OF CHANCERY
                                   OF THE
 SAM GLASSCOCK III           STATE OF DELAWARE                   COURT OF CHANCERY COURTHOUSE
  VICE CHANCELLOR                                                         34 THE CIRCLE
                                                                   GEORGETOWN, DELAWARE 19947


                        Date Submitted: September 20, 2017
                         Date Decided: December 21, 2017

 Richard E. Berl, Jr., Esquire                  James D. Griffin, Esquire
 Berl & Feinberg, LLP                           Parkowski, Guerke & Swayze, P.A.
 Dartmouth Business Center―Suite 3              19354C Miller Road
 34382 Carpenter’s Way                          Rehoboth Beach, DE 19971
 Lewes, DE 19958

              Re: Kristen C. Wright v. Clinton A. Phillips, Civil Action No. 11536-
              VCG

Dear Counsel:

      This matter involves litigants, formerly husband and wife, who together own

a recycling and shredding business, pursued via three business entities. Each party

owns a 50% interest in each entity. The matter initially raised numerous legal and

equitable issues, but the parties—wisely, in my opinion—decided to settle the matter

via one co-owner buying out the other. Accordingly, this matter is before me on the

sole issue of a determination of the value of the half interest in the three companies

that one party will buy from the other. After a trial and post-trial briefing, I find the

combined pre-adjustment value of the entities is $1,767,465, with a pre-adjustment

half interest value of $883,733. This amount must be adjusted in accordance with

this Letter Opinion.
                                      I. BACKGROUND

       The parties each own 50% of DataGuard, Inc. (“DG Shredding”), DataGuard

Recycling, Inc. (“DG Recycling”), and CK Aurora Business Ventures, LLC

(“Aurora”).1 DG Shredding primarily shreds waste materials and DG Recycling

(together with DG Shredding, the “DG Companies”) recycles certain discarded

materials.2 Aurora’s “sole function is to own real estate located at 9174 Redden

Road, Bridgeville, DE 19933 [(the ‘Aurora Property’ or the ‘Property’)], and to lease

the Aurora Property to the two DataGuard businesses.”3 The Property is encumbered

by a mortgage, which amounted to $855,635 as of May 24, 2017.4 Both of the DG

Companies operate out of the Aurora Property and share some resources, including

personnel and equipment.5

       The Petitioner and the Respondent divorced in 2013 and jointly ran the

businesses until they reached an impasse in 2015.6 The businesses have done well,

and the Petitioner and the Respondent were together paid a total of $300,000 in

2016.7 The Petitioner initially filed a complaint alleging breaches of fiduciary duty

1
  Pre-Trial Stipulation and Order (“PTS”) 1.
2
   Id. at 1, 5 (noting that DG Shredding and DG Recycling are both Delaware subchapter S
corporations).
3
  Id. at 2.
4
  Id.
5
  Id.
6
  Id. at 3.
7
  Trial Tr. 148–49, May 24, 2017. The record states that this was taken in “salary” and as “Officers’
Compensation” but does not describe if the parties received any member draws, dividends or
otherwise, or detail from which entity the particular §payments came. These issues are not
pertinent to my decision here, except, as noted, to the issue of “synergies.”
                                                 2
by the Respondent and seeking his exclusion from the affairs of the business.8 The

parties each filed Motions for Order of Sale.9 Ultimately, the parties agreed that the

Respondent would purchase the Petitioner’s 50% interest in each of the jointly

owned businesses.10

       The parties disagree on the value of the DG Companies.11 The Petitioner

retained Charles Sterner to value the businesses.12 Sterner is a Certified Public

Accountant (“CPA”) and certified by the National Association of Certified

Valuation Analysts (“NACVA”).13 Sterner completed his first report in May 2016

for the period ending December 2014.14 He created an updated report in April 2017,

but noted that he lacked certain pertinent information.15 Sterner initially concluded

that the combined value of the DG Business was $1,671,675 but revised his April

2017 estimate to $1,359,000.16 The Respondent retained Dale Mitchell as his expert

witness. Mitchell is a former CPA but allowed his certification to lapse.17 He is a

Certified Valuation Analyst.18        Mitchell used Sterner’s income figures and



8
  Id.
9
  Id. at 3–4.
10
   Id. at 1–2.
11
   Id. at 4.
12
   Id. at 77.
13
   Pet’r’s Opening Br. 12.
14
   Pet’r Ex. 3.
15
   Trial Tr. 97, 109.
16
   Id. at 98, 124.
17
   Id. at 227.
18
   Id. at 174, 177, 181–82. Mitchell does have business experience; he owned a large record
management business in the Seattle, Washington area for twenty years.
                                            3
assumptions in his calculations.19 Mitchell created an updated report after receiving

new information from Sterner’s April 2017 report.20 Mitchell valued the DG

Companies at $1,155,000.21

       Sterner and Mitchell have a number of discrete disagreements on how to value

the entities. The experts contest the applicability of marketability and brokerage

discounts, the role of certain synergies, and the proper valuation of Aurora.22 Sterner

accounted for the subchapter S corporation status of the DG Companies by applying

an individual tax rate of 14.5% instead of a C corporation rate of 31%, resulting in a

$204,000 valuation increase; Mitchell disagrees with this analysis.23

       The gap between the experts’ valuation of Aurora—the sole asset of which is

the Aurora Property—is wide. The parties purchased the Aurora Property in 2009

for $1,080,000.24 Community Bank retained Sue Parsons at the Trice Group to

perform a real estate appraisal of the Aurora Propety in 2015 (the “Trice Report”).25

Parsons has more than thirty years’ experience in property appraisal and holds the

highest level of real estate appraisal certification.26 Parsons’ analysis included both



19
   Id. at 183, 234.
20
   Id. at 184.
21
   Id. at 202–03.
22
   Pet’r’s Opening Br. 16; Resp’t’s Answering Br. 16–17.
23
   Id. at 203 (“So the difference between the 1,600,000 or 1,360,000 and . . . 1,155,000 is about
205,000 . . . [or] the difference using a different tax rate.”).
24
   Trial Tr. 31.
25
   Id. at 8.
26
   Id. at 6.
                                               4
a comparable sales method and an income approach.27 Parsons also assumed an

ongoing maintenance cost of $12,000 per year in repair expenses.28 She valued the

Aurora Property at $1,375,000 under a comparable sales valuation method, at

$1,425,000 under an income generation valuation method, and averaged the two to

conclude that the Property was worth $1,400,000 as of February 2015.29

       The Respondent retained Wesley Cox, a commercial real estate agent, to

provide an estimate of the potential value of the Property.30 Cox collected a series

of comparable properties and calculated an average listing price of approximately

$1,200,000 to $1,250,000, with a predicted sale price of $1,100,000 for the Aurora

Property.31 Cox did not use the income-generation valuation method, but conceded

that such an approach could yield a higher estimated value for the Aurora Property.32

       The Respondent also retained Gary Neal, a general contractor who previously

performed work on the Property, to provide estimates for Neal’s company to repair

or replace particular items identified by the Respondent.33 The total repairs came to

$92,000, although Parsons disputes the necessity and relevance of some of those

repairs.34 My analysis of the parties’ disputes follows.


27
   Id. at 11.
28
   Id. at 47–48.
29
   Id. at 19–22.
30
   Id. at 276–77.
31
   Id. at 275, 291.
32
   Id. at 296–97.
33
   Id. at 244–45, 259.
34
   Id. at 39, 47.
                                          5
                                         II. ANALYSIS

          A court of equity has authority to order the sale of a deadlocked company in

certain circumstances.35 Here, the parties have agreed to the sale of the Petitioner’s

half interest in the entities to the Respondent. Before me is the issue of the value of

that interest. I start by analyzing the value of the entities as going concerns. Because

Petitioner, via agreement, has agreed to give up, and the Respondent has agreed to

purchase, an interest in a going concern (the business or businesses represented by

the three entities), a fair value analysis by analogy to a Section 262 appraisal

valuation is appropriate here. This requires me to determine the fair value of the

three entities as going concerns as of the time of the transfer, using recognized

valuation techniques.36 The basic approach of the experts is to add the value of the

Aurora Property to a valuation of the DG Companies based on an income approach

analysis. I accept this methodology and address below only the parties’ disputes as

to valuation. I depart from appraisal action standards where, and to the extent that,

equity here requires.

          A. The Corporate Tax Status

          The Petitioner argues that the DG Companies’ status as S corporations adds

value beyond that of a Delaware C corporation. The Respondent disputes that the




35
     See, e.g., In re TransPerfect Glob., Inc., 2017 WL 3499921, at *1 (Del. Ch. Aug. 4, 2017).
36
     See, e.g., In re of SWS Grp., Inc., 2017 WL 2334852, at *1 (Del. Ch. May 30, 2017).
                                                  6
S-corporation status adds value cognizable here.37            The Petitioner points to then-

Vice Chancellor Strine’s explanation of the value of subchapter S status to justify

the addition of 4.08% to the capitalization rate in Sterner’s reports. In Kessler, this

Court stated that:

               Assessing corporate taxes to the shareholder at a personal
               level does not affect the primary tax benefit associated
               with an S Corporation, which is the avoidance of a
               dividend tax in addition to a tax on corporate earnings.
               This benefit can be captured fully while employing an
               economically rational approach to valuing an S
               corporation that is net of personal taxes.38

To illustrate this principle, then-Vice Chancellor Strine created a chart to show that

the amount of after-tax dollars returned to stockholders was greater under an S

corporation than a C corporation in those circumstances.39

       I find that the DG Companies’ status as S corporations has a discrete value

applicable here.      Accordingly, I find that the amount attributable to the DG

Companies’ status as S corporations―$204,000―should be included in the DG

Companies’ valuation.

       B. The Sterner Reports

       The Respondent and his expert disagree with the Sterner valuation of the DG

Companies in three particulars: (i) the addition of $40,000 in Sterner’s revised

37
   Pet’r’s Opening Br. 10–11; Resp’t’s Answering Br. 13–15.
38
   Del. Open MRI Radiology Assocs., P.A. v. Kessler, 898 A.2d 290, 328–29 (Del. Ch. 2006).
39
   Id. at 329 (highlighting that, with a hypothetical $100 investment return, stockholders would
receive $51 post-tax dollars from a C corporation and $60 post-tax dollars from an S corporation).
                                                7
report; (ii) Sterner’s failure to apply marketability and brokerage commission

discounts; and (iii) Sterner’s addition of certain “synergies” of the transaction to

overall value.

       First, the Respondent argues that Sterner added $40,000 to his revised report

with respect to one of the entities due to a transcription error in calculating the

figures.40 The Petitioner argues that any error is harmless because it is offset by a

devaluation of the other entity; essentially, any error is a wash and does not change

the cumulative value of the two DG Companies.41 Because my examination of the

record confirms that any error is indeed a wash, no adjustment for the transcription

error is warranted here.

       Second, Mitchell applied a 20% marketability discount, including a 10%

brokerage commission, because doing otherwise would “result in the Petitioner

receiving the full benefit for the value of her shares but would result in passing her

50% share of those unrecognized costs on to the Respondent, who will pay 100% of

those costs when he sells the entities to a third party.”42 Mitchell testified that the

costs must someday be incurred and that those costs should be shared equally

between the parties at the current time.43 The Petitioner contends that, because this




40
   Resp’t’s Answering Br. 17.
41
   Pet’r’s’ Reply Br. 7–8.
42
   Resp’t’s Answering Br. 19.
43
   Trial Tr. 214–15.
                                          8
transaction is between a known buyer and seller, I should not consider the transaction

costs of an uncertain future transaction.44

       I find that a lack of marketability is part of the operative reality of the entity,

half of which is being purchased by the Respondent and sold by the Petitioner here.45

While this court-enforced sale does not involve marketing the businesses, a lack of

marketability is inherent in the property the Petitioner owns, and not accounting for

such would result in a windfall here. I therefore include a 10% marketability

discount. However, I reject the additional 10% discount that Mitchell ascribes to a

brokerage commission and other costs as too speculative to be justified.

       Finally, the experts agreed that the DG Companies could realize additional

value through “synergies” found in the combined entity.46 Most significantly,

Sterner includes the value he opines will be attributable to the absence of his client

from the business in his overall valuation.47 The Respondent, however, argues that

increasing the valuation to represent certain synergies arising from the sale is

inappropriate because the DG Companies already share a single facility and other



44
   Pet’r’s Reply Br. 4.
45
   Nonetheless, I reject the trial testimony that Bridgeville, home to the businesses here, is a
“remote” small town. It may be remote to Washington, Baltimore, and Philadelphia, as those
metropolises are remote to it; it is convenient, however, to Greenwood, Cannon, and Federalsburg,
among many others. It is the former home of a renowned Vice Chancellor in this Court, now sadly
removed to New Castle County. And as those unfortunate enough to live elsewhere learn when
they visit, if they lived in Bridgeville, “[they] would be home now.”
46
   Trial Tr. 147–48, 237–38.
47
   Id. at 95–96, 237–38.
                                               9
costs, and thus will not recognize any true increase in value from the consolidation

of ownership.48

       There is a certain irony in the Petitioner’s insistence that her removal from the

businesses she helped to build should increase their value, in an amount of which

she is entitled to half. In my view, addition to the value of these businesses of any

savings from the discharge of the Petitioner is too speculative to include here. This

is true particularly in light of the state of the record, which provides the amount the

parties are “paid” as “Officer Compensation,” but little detail about how the

Petitioner’s compensation is determined, the exact nature of the compensation, or

what she was “paid” for. The Sterner valuation, therefore, must be adjusted to deduct

from income the amount attributed to the removal of the Petitioner as a principal of

the companies.

       C. The Valuation of Aurora

       The parties dispute the valuation of the Aurora Property, and by extension,

Aurora. Sterner used the Trice Report and the existing mortgage debt to value

Aurora.49 The Petitioner argues that the Trice Report is the most credible valuation

because it was performed by an independent appraiser hired by a bank, in contrast

to a real estate agent hired directly by an interested party.50 The Petitioner also


48
   Resp’t’s Answering Br. 23.
49
   Trial Tr. 78.
50
   Pet’r’s Opening Br. 21–23.
                                          10
argues that Parson’s use of an additional valuation method in creating the Trice

Report, the income approach, increased the accuracy of the valuation.51                         The

Petitioner attacks the Respondent’s hiring of Neal (who opinioned on the cost to

make certain repairs) as an “obvious . . . attempt by the Respondent to reduce the

amount he will have to pay” by deducting substantial but spurious repair expenses

to decrease the value of the property.52

       The Respondent points out various minor errors made by Parsons during trial

and disputes the useful economic life assigned to the Aurora Property, the difference

between the list and sale price, the relative familiarity Parsons with the particular

comparable properties, and the timeframe and choice of comparable properties used

in the Trice Report.53

       Despite the Respondent’s efforts, I find the Trice Report, performed by an

appraiser and commissioned by a non-party, to be representative of the fair value of

Aurora at the relevant time. I find that the addition of the income generation

valuation method used in the Trice Report makes it more likely an accurate indicator

of the value of the Aurora Property than the Cox estimate. Finally, I find the




51
   Id. at 21.
52
   Id.; Trial Tr. 40 (“I would think they would try to use [Neal’s estimate] as a negotiating tool on
price.”).
53
   Resp’t’s Answering Br. 26–29, 31; Trial Tr. 42.
                                                 11
maintenance cost estimate in the Trice Report reasonable, and do not, therefore,

discount the value for the repair costs testified to by Neal.

                                III. CONCLUSION

      In summary, I apply a fair valuation analysis here by analogy to Section 262.

I find that the tax status of the DG Companies is relevant to their valuation, giving

them an underlying value of $1,359,000, consistent with the Sterner report but

subject to the adjustments below. First, the Sterner valuation must be recalculated

to remove from income the amount Sterner ascribed to savings from the discharge

of the Petitioner, which I have found both inappropriate and speculative. Obviously,

this will reduce the value of the DG Companies to some extent. Because the record

is insufficient for me to do this adjustment, I leave this calculation to the parties.

Next, I find a 10% marketability discount is appropriate. Applying the 10%

marketability discount to the pre-adjustment amount described above, $1,359,000,

results in a fair value of the DG Companies of $1,223,100 (less the other adjustment

described).

      I note that the valuations employ a hodgepodge of valuation dates. Valuation

should be done as of the transfer date, which I deem to be the date of this Letter

Opinion (the “Transfer Date”). That will require the parties to reconcile the

valuations, either by bringing them up to the Transfer Date or agreeing that for

purposes of an order in this matter, the valuations shall be deemed unchanged.


                                          12
        To repeat, the DG Companies’ valuation amount of $1,223,100 is subject to

the following adjustments in accordance with this Letter Opinion: (1) recalculation

of value after deduction from income of the amount of assumed avoided payments

to the Petitioner, included as “synergies”; and (2) any minor adjustments required to

accord with the parties’ future agreement regarding alignment with the Transfer

Date.

        Lastly, I find the Trice Report of $1,400,000 to be representative of the fair

value of Aurora as of February 2015. Subtracting the mortgage amount of $855,635

as of May 24, 2017, the net pre-adjustment value of Aurora is $544,365. This

amount should also be adjusted to account for (1) any changes to the mortgage

amount to accord with amount of the outstanding mortgage as of the Transfer Date;

and (2) the parties’ future agreement regarding alignment with the Transfer Date.

        Taken together, the combined pre-adjustment value of the DG Companies and

Aurora is $1,767,465, with a pre-adjustment half interest value of $883,733.

        The parties should confer and submit an appropriate Form of Order based on

this Letter Opinion. To the extent issues regarding the timing and method of

payment remain, the parties should so inform me.

                                               Sincerely,

                                               /s/ Sam Glasscock III

                                               Sam Glasscock III

                                          13
