[2011] UKFTT 87 (TC)

TC00964

Appeal number: SC/3062/2009

Capital Gains Tax; share valuation; private limited company; price to earnings ratio; discount for lack of marketability, dividend, and re-sale; Taxation of Capital Gains Act 1992 ss35, 272, 273, 275.

FIRST-TIER TRIBUNAL

TAX 

	S PATRICK ERDAL	Appellant

	- and -

	THE COMMISSIONERS FOR HER MAJESTY’S
	REVENUE AND CUSTOMS	Respondents

TRIBUNAL JUDGE: 	J. GORDON REID Q.C., F.C.I.Arb. 
(Member):			R CRAWFORD B.A., C.A., C.T.A	

Sitting in public at George House, 126 George Street, Edinburgh EH2 4HH on 11 and 12 November 2010

The Appellant in person

Ian Artis, Advocate, instructed by the Solicitor to HM Revenue and Customs, for the Respondents

© CROWN COPYRIGHT 2011

DECISION

Introduction
1.	This appeal concerns the valuation of shares held in a private limited company as at 31 March 1982.  The company is Tullis Russell & Company Limited (the “Company”).  The shares to be valued are 17,131 Ordinary Shares and 53,476 “A” Ordinary Shares, held by the Appellant.
2.	A Hearing took place at Edinburgh on 11 and 12 November 2010.  The Appellant represented himself, gave evidence and led the evidence of his brother David.  Both produced witness statements.  The respondents (HMRC) were represented by Ian Artis, Advocate.  Mr Artis led the evidence of Angela Hennessey C.A., an expert in share valuation.  She produced two reports.  Both the Appellant and Mr Artis produced skeleton arguments.  A Joint Bundle of documents was also lodged.  A Statement of Agreed Facts was also produced and we have incorporated these into our findings of fact.
The Appeals
3.	The Appellant appeals against an amended assessment issued in respect of chargeable gains made in the year 1995/1996, 2000/2001, and 2001/2002.  He also appeals against a notice of surcharge for late payment of tax.
4.	The amounts said to be due are £18,468,80 (1995/96), £28,744.20 (2000/01), and £8,628.40 (2001/02).  There are also surcharges for late payment of tax.
The dispute
5.	The Appellant initially contended that the shares be valued at £4 each but by the end of the Hearing his figure was £3.29.  HMRC contend that the Ordinary Shares be valued at  somewhere between £1.20 and £1.25, and the “A” Ordinary Shares at somewhere between £1.10 to £1.15.  We are asked to provide a decision in principle on the question of share valuation.
The Legislation
6.	Section 35 of the Taxation of Chargeable Gains Act 1992  (“TCGA”) applies to the disposal of assets held on 31 March 1982.  It requires us to determine the market value of the asset on that date.  Section 272 defines market value as the price which the assets in question might reasonably be expected to fetch in the open market.  No reduction is to be made on account of the whole of the assets being placed on the market at the same time.  In relation to unquoted shares, it is to be assumed that in the open market, there is available to any prospective purchaser of the asset in question. 
all the information which a prudent prospective purchaser of the asset might reasonably require if he were proposing to purchase it from a willing vendor by private treaty and at arm’s length. (TCGA s273(3)).
Valuation Principles
7.	It is often said that valuation is an art and not a science.  It does not admit of precise scientific or mathematical calculation.  The question is what the hypothetical purchaser would pay.  Although the sale is hypothetical, the open market is not.  Thus, restrictions which prevent shares being sold in the open market are disregarded so far as the assumed sale is concerned, but such restrictions and any others attaching to shares, which one might find for example in the company’s Articles of Association, are taken into account in the valuation exercise, as they may affect the price which the shares might reasonably be expected to fetch in the open market.
8.	It is well known and accepted that a majority holding is usually worth more than a minority holding.  Views differ as to what the discount or premium should be in any given case.  Where the shares relate to a family controlled company, this too may affect the valuation.
9.	It is also an accepted principle of valuation that the valuer stands at the valuation date looking forward into the future with reasonable foresight, rather than looking back today with hindsight at the valuation date.  However, regard may be had to later events for the purpose only of deciding what forecasts could reasonably have been made on 31 March 1982.  The question of reasonable foresight is of particular importance in this appeal when coupled with the statutory direction to assume that the prospective purchaser has all the information which a prudent prospective purchaser might reasonably require if he were proposing to buy from a willing seller by private bargain at arm’s length.
10.	Section 51 of the Finance Act 1973, subsequently section 152(3) of the Capital Gains Tax Act 1979 and now section 273(3) of TGCA, referred to above, overturned Lynall & Anr v IRC 1972 AC 680 at least in part.  Thus, the fact that the hypothetical sale is assumed to be by private treaty indicates that confidential information known to the directors may be available to the hypothetical purchaser; and that such information will be assumed to be available even if directors are prohibited in the company’s articles from disclosing it, whether or not the information would prejudice the company’s interests, and whether or not the actual directors would have disclosed it.
Facts
Structure of the Company
11.	The Company was incorporated on 21 May 1906.  The business was established much earlier, in 1809.  Bicentennial celebrations took place last year at Falkland Palace, Fife.  The Company has carried on the business of manufacturing and selling paper principally for the electrical, photographic and printing industries.  It currently manufactures high quality engineered paper products for customers worldwide from a 250 acre site near Glenrothes, Fife.  It is a private company.  As at 31 March 1982 the issued share capital comprised 1,440,000 Ordinary £1 shares, 3,360,000 non-voting “A” Ordinary £1 shares and 480,000 4% Preference Shares of £1 each.  The Company was a close company within the meaning of s282 of the Taxes Management Act 1970.  51% of the Ordinary shares were held by the Russell Trust, whose objects were to exercise its rights in the best interests of the employees and the continued maintenance of the Company as an independent business.
12.	As at 31 March 1982, the Appellant held 17,131 Ordinary Shares and 53,476 “A” Ordinary shares.  This represented 1.189% of the Ordinary shares and 1.591% of the “A” Ordinary shares.  
13.	The Company’s Articles of Association contained restrictions on the sale or other transfer of the Company’s shares (articles 29 to 73) and restriction on members being engaged in any business in competition with or having interests inconsistent with or antagonistic to those of the Company, on pain of expulsion (articles 39 and 40).  The Company’s accounting reference date is 31 March.
History
14.	The original paper mill was founded in 1809 by Robert Tullis to cope with the impact of Napoleon’s blockade of Britain on the supply of paper to the family’s printing and publishing business.  Tullis Russell Ltd was incorporated on 21 May 1906.  Succeeding generations of family members have owned the business.  Ownership was reorganised into voting and non-voting shares.  A trust known as the Russell Trust was established in 1947 by Dr David Russell’s father but seems to have been re-structured or re-constituted in 1975.  It was set up in memory of the Appellant’s uncle, Patrick Russell who was killed in the Second World War, with the shares which he would have inherited but for his death.  
15.	In 1969 ownership of the Company was reorganised into voting and non-voting shares.  Dr David Russell, Chairman of the Board of Directors and his wife transferred a significant block of shares into the trust in about 1975.  The Trust owned 51% of the voting shares.  
16.	The Trust has two functions.  The first is charitable.  It gives money to thirteen bodies or classes of beneficiary.  The details, though interesting, are not relevant for present purposes.  The second function is to exert influence on the Company as controlling shareholder.  The Trust was to exercise its ownership powers essentially in the best interests of all the employees.  The setting up of the Trust reflected Dr Russell’s philosophy and aims for the Company and its employees.  Essentially, these emphasise the Company’s continuing independence, business success and the service of both employee and shareholder interests as well as customers.
The operation of the business
17.	As at 1979 there were three machines in operation.  Auchmuty No 1 Machine was installed before 1830.  It has undergone modifications over the years.  Auchmuty No 2 Machine was installed in 1856 but was scrapped in 1979.  Auchmuty No 3 Machine was installed in 1895 and subsequently modified and modernised.  The intention in 1979 was to close it down once Auchmuty No 5 Machine (referred to below) was in full production.  Auchmuty No 4 Machine was installed in 1957.
18.	In 1979 the installation of a new machine known as No 5 Machine Auchmuty was completed.  This was the Company’s first machine which was computer controlled from the outset.  The official opening of this new machine took place on 14 June 1979.  The detail of its planning, construction and operation are described in an article in the Autumn edition of the Company’s in-house magazine known as the Rothmill Quarterly for 1979 and in the June 1982 edition.  This was the third new paper machine to be installed since 1945.  It exceeded expectations both in terms of output and quality.  
19.	The Company had concentrated on products which were appreciably different from others on the market.  Its uncoated papers were known throughout the trade for their excellence.  The Company decided not to enter the market for coated papers until it could produce a paper of the equivalent excellence of its uncoated papers and boards.  The Company had a wide customer and potential customer base.  About a quarter of its products by value were exported.  Over the ten years preceding the valuation date its turnover had grown consistently. 
20.	By 1979 the Company was as well equipped with new paper machines as any mill in Europe.  At the official opening, it was also announced that the Company would be moving into a new area of activity namely off-machine coating.  An off machine coater had already been ordered from America.  The machine, which was to use a completely new design of coating process was to cost about £10m.  It was anticipated that this new Coating Plant would be in operation in 1981, provide 100 new jobs, increase annual production by about 25,0000 tonnes and extend the range of outlets for the Company’s papermaking capacity.
21.	Another astute move by the Company was the acquisition in about 1980 of the assets of a company named Brittains (TR) Ltd.  Brittains were an important customer of the Company.  It provided transfer paper for decorating ceramics and a range of plates and cups.  The Company provided Brittains with the base material.  Brittains were a world leader in their business commanding over half the market.  They were profitable and have remained profitable.
22.	Work commenced on site on the new coating plant in September 1979.  By May 1981 test runs on the new machine were being carried out.  Once it went into production it was a success.  The new process produced better yield and higher productivity compared with conventional grades.  The process, acquired under licence from an American company was called TRUFLO and produced paper which was described as TRULUX GLOSS.  The American company SD Warren, recognised leaders in coating technology, had developed and patented the process using a much lower quality of paper which did not have the gloss finish which the Company eventually produced.  The process which the Company developed in conjunction with SD Warren enabled a high gloss surface to be achieved essentially by chemical means without hammering the paper in the process to polish it between spinning steel rolls.  This meant that the density of the paper would be much lower and the stiffness much greater than competitive grades.  This combination of stiffness and gloss was unavailable by any other means.  Printed samples were being produced by January 1982.
23.	The Financial Times of 9 March 1982 contained a short article about the Company’s investment in a new kind of coated gloss paper.  It described the process (Truflo) and the product (Trulux).  It noted that the Company had invested £12m, having made a trading loss of nearly £80,000 in the half-year to 30 September 1981.  A prudent prospective purchaser of shares in the Company on 31 March 1982 would have been aware of the content of that article.
24.	The Glenrothes Gazette of 11 March 1982 also contained an article about the new process and product.  The process was described as unique and revolutionary.  A prudent purchaser of shares in the Company on 31 March 1982 would have been aware of the content of that article.  We accept the evidence of David Erdal who said it was a world first.  Mr Erdal was a director of the Company by 1981 and was appointed chairman of the board of directors of the Company in 1985.
25.	Trulux was launched in the United Kingdom by the Company on 22 March 1982 following a series of successful trials.  The launch included press releases in the National and Trade press and television coverage.  By this stage the Company was delighted with their investment and very confident of success.  As Mr David Erdal put it, they were confident that they had a winner.  That confidence was justified and would have been apparent to a prudent prospective purchaser.  Once the Coating Plant was up to speed its production equalled the production of the whole of the mill before its installation.  The Coating Plant and the Auchmuty No 5 Machine are still the cornerstone of the Company’s production.  The product was well received and major customers began to order the product immediately.
26.	The Minutes of the Meeting of the Executive Directors of the Company held on 5 May 1982 recorded that a substantially improved profit had been achieved for the second half of the year to 31 March 1982.  The small trading profit amounted to £176,000.  However, interest charges of £500,000 and coating development costs of £1.6m resulted in a net loss of £170,000 for the six month period.  For the year there was an overall loss of just over £1m after deduction of £900,000 of interest charges and £2.4m of coating development costs.  There was, however, a positive cash flow of £900,000, and net current assets as at 31 March 1982 were £2.9m.
27.	It was not disputed that the foregoing information set forth in the immediately preceding paragraph would have been available to and required by a reasonably prudent prospective purchaser.  That information revealed that but for the coating development costs, which would have been regarded as an extraordinary non-recurring item, the Company would have made pre-tax profits of about £1,400,000.  It would be that information rather than the information subsequently revealed in the audited accounts for the year to 31 March 1982, which would have been available to the prudent prospective purchaser and upon which he would proceed.  The annual audited accounts would not be available until later in the year.
28.	For many years before March 1982, and since then, the Company has had and still has a strong, highly competent and loyal management team and workforce.  This has enabled the Company to buck the trend and perform well in the early eighties when the economy was depressed, and the paper industry, in particular, was in difficulty.  The Company invested wisely, and took calculated risks which literally paid off.  In relation to the coating plant, it was reasonably foreseeable to a prudent investor in March 1982, that the Company was exceptional, well managed, and was likely to continue to grow from strength to strength.  In 1985 an employee share scheme was set up.  It had probably been in contemplation by the Company since at least about 1981.
The Company’s Accounts and meetings
29.	As at 31 March 1982, the Company’s most recent accounts and directors’ report available were for the year to 31 March 1981, issued on 7 October 1981.  The last AGM before 31 March 1982 was on 28 October 1981.  The Company reported a loss of £80,000 in the six months to 30 September 1981.  The 1981 accounts disclosed a turnover of £39,906,000 (compared with £36,511,000 for 1980) and a small loss of £90,000 (compared with a profit of £1,360,000 in 1980).
30.	The Minutes of the Annual General Meeting of the Company held on 28 October 1981, which the Appellant attended, disclosed that David Erdal raised the question of increasing the dividend payable on shares.  David Erdal pointed out that for many years the gross dividend had remained the same, and that this had been substantially eroded by inflation.  It was pointed out at the meeting that this could cause severe problems with regard to taxation as the value of the shares would increase.  The discussion on what would be the effect of the issue was deferred pending consideration of changes proposed to tax legislation.  At one stage, although the date is not clear on the evidence, David Erdal criticised his uncle for purchasing shares from his (David’s) mother at the price of 40p which had been the price of the shares for many years.  David Erdal thought the value of the shares at the time of that transaction was much higher.
31.	The report and accounts for the year to 31 March 1982 were issued on 1 October 1982.  In these accounts, the profit before tax from ordinary activities was reported as £950,379.
32.	By about 1986 the Company’s annual profits had risen to about £6m.
Share Price
33.	The share price of the Company, as formally agreed with the Revenue authorities, had remained static for several decades.  In 1965 it was eight shillings.  In 1970 the Estate Duty Office valued the Ordinary Shares and the “A” Ordinary shares at 40p each on the basis of a 2% dividend.  In 1982 it was the same price (40p) in spite of an increase in RPI of 548% over that period.  There had been no need during that period for the shares to be revalued with the Revenue Authorities.  During that period the Company kept dividends low preferring to operate a strict policy of reinvesting in the Company’s business.
Submissions
34.	In a spirited submission, Mr Erdal invited us to focus on the wider picture as at 31 March 1982.  The Company was in good shape.  Its motto was Ever to be the best.  A prudent investor would see the Financial Times Article.  Profits, he said, had been kept artificially low over the years largely for Inheritance Tax purposes.  A prudent investor would see that the Company was on to a winner with the Coating Plant.  He would see that this Company was unique and was bucking the trend.  He would base his offer on profits of about £2m and apply a price to earnings ratio of 14 or higher.  This would reflect the fact that the Coating Plant was a world first, that orders were being received, all the major investment had been made and was being paid off, even although the Coating Plant was not yet contributing to the operating profit.  He initially proposed a discount of 25% in relation to marketability and other factors, and an overall share valuation of £4 per share.  His final proposal was a figure of £3.29 based on a discount of 25%.  He did not distinguish between the two classes of shares.  Finally, we record that Mr Erdal referred us to several passages in Eastway, Practical Share Valuation.  We do not consider it necessary to discuss these passages in any detail.
35.	Mr Artis invited us to follow the methodology in Ms Hennessey’s report.  No one had criticised her method.  With reference to the question of interest, we had to assume that this was a cost of the business.  On the question of profitability, we should use the figure of £950,000 as shown in Miss Hennessey’s report.  He recognised that if the information contained in the May 2002 Minute were available to a prudent investor the level of profit could increase to £1.4m.  He acknowledged that the Company was well run and that the management knew its business.  All this was taken into account by Miss Hennessey when selecting the Price/Earnings ratio.  The correct range, according to Miss Hennessey, was 12-14.  This adequately reflected the Company’s prospects.
36.	On the question of marketability, Mr Artis submitted that the shares were simply not available on the open market, and the fact that there was in contemplation ideas about employee participation and share ownership was irrelevant; it would not influence a prudent purchaser.  These ideas had been under consideration since the sixties.  In any event, the scheme contemplated was for the benefit of both employees and family members.
37.	The discount adopted by Ms Hennessey in her price earnings ratio (set out in our findings below) reflected marketability, low dividend, exit availability and uncertainty.  This was not a scientifically calculated figure.  Although hindsight should be ignored HMRC had given the appellant the benefit of hindsight.
38.	Mr Artis referred us to Lonsdale (trading as Lonsdale Agencies) v Howard & Hallam Ltd 2007 UKHL 32 at paragraph 39 for the proposition that the court is not required to shut its eyes as to what actually happened which may provide evidence of what the parties were likely to have expected to happen; Gray’s Timber Products Ltd v R&CC 2010 STC 782 at paragraph 49 for the proposition that the valuation exercise had to focus on what was received in the hypothetical sale not what was given; IRC v Gray (Lady Fox’s Ex) 1994 STC 360 at pages 372-3 for the proposition that one must look realistically at the situation as at 31 March 1982; Lynall & Anr v IRC 1972 AC 680 at pages 695 and 699 for the proposition that information had to be available to all hypothetical purchasers before it could be taken into account; and that private deals on a confidential basis were not the equivalent of open market transactions.  He also referred to Clarke’s Exec v Green 1995 STC (SCD) 99 which describes how dicta in Lynall have been superseded by subsequent legislation, to Caton v Couch 1995 STC (SCD) 34 at page 50-51 on the question of confidential information which directors might be reluctant to provide or be prohibited by the company’s articles from providing to a prospective purchaser.  Lastly, Mr Artis referred to Cash & Carry v Inspector of Taxes 1998 STC (SCD) 46 for the proposition that the size of the shareholding may have a bearing on the discount.  
39.	Mr Artis also cautioned against double discounting.  He submitted in particular that the price/earnings ratio adopted by Ms Hennessey assumed the prospects of the Company’s development.
Discussion
Valuation Evidence
40.	Ms Hennessey gave her evidence in a fair and straightforward manner.  It is clear from her reports that her research was thorough and detailed.  She set out comprehensively the facts upon which her opinion on valuation proceeded and the Appellant did not take any significant issue with her factual narrative.  She acknowledged that she did not have management accounts which would have been available immediately prior to the valuation date, and did not ask for them.  Nor did she ask for cash flows.  We consider that this is a material omission in her report as a prudent prospective purchaser would (applying section 273(3)) have reasonably required such information.
41.	She acknowledged that the Company was performing well at the material time, even although the state of the economy was generally depressed.  Interest rates were high; there was a general recession; exchange rates were poor and energy costs were high.  There was particular pressure on the paper industry.  However, she was of the view that the Company’s shares would have been considered a good long term investment.
42.	She considered that price to earnings ratio was an appropriate comparator.  She said that she highly rated the Company’s management.  She referred to a number of quoted companies but focussed on two for the purposes of assessing a suitable price to earnings ratio.  The first was Associated Paper Industries Ltd which at the relevant time had a price to earnings ratio of 10.3.  In relation to that company she noted that the chairman of that company was modestly optimistic about prospects in some areas of its business although there was still some way to go before profits and dividends fully recovered.  The second was East Lancashire Paper Group Ltd which at the relevant time had a price to earnings ratio of 10.8.  In relation to that company she noted that the company had new automated cutting and wrapping equipment which was yet to prove itself fully.  
43.	She noted that, in her opinion, if the Company had been a quoted company it would have warranted a price to earnings ratio higher than these two companies, yet she took as her starting point the average of the two, namely 10.5 (more accurately 10.55).  On the basis that if quoted, the Company would have been perceived as a better prospect which therefore, warranted a premium of 20% to be added to the average of 10.5, producing a notional price to earnings ratio (PER) of 12.6.  In evidence, she did not seem to quibble with a PER of 14.  The starting PER and the premium are essentially a judgment call based on experience and knowledge of the markets.  As a higher PER indicates that the market considers that a company has greater potential than similar businesses with a lower PER, we take the view, based partly on the experience of the Tribunal member, Mr Crawford, who has considerable practical experience in this area, thought that on the evidence presented either the premium was on the modest side or the starting PER was on the low side.  We have therefore used a PER of 14 in our calculations.
44.	Ms Hennessey applied her PER of 12.6 to earnings of £937,000 to reach a market capitalisation of £11.8m and a share price of £2.45.  She considered that the figure of £937,000 might be optimistic in the absence of evidence that the management would have given better information to the hypothetical purchaser of the shares.  We have already found as fact that the hypothetical purchaser would have had available to him the information disclosed in the Minutes of the Board Meeting held on 5 May 1982.
45.	Ms Hennessey proposed a discount of 50% to take account of (i) the very low dividend payments, (ii) the lack of quotation and therefore marketability, and (iii) the very low prospect as she assessed it, of an exit by trade sale in view of the stated intention of the controlling shareholder (the Russell Trust) to maintain the Company as an independent business and safeguard the interests of employees as well as shareholders, and (iv) the fact that the latest audited accounts related to the year to 31 March 1981.  She expressed the view that a substantial discount would be required to take account of these factors.  Her view was that 50% would not be unreasonable.  This produced a value per share of £1.23 which she rounded to £1.20 to £1.25.
46.	Ms Hennessey also pointed out that in her view the non-voting “A” shares should be discounted by a further 5-10% to reflect their lack of voting rights.  She took 10%. leading her to place an open market value on the “A” Ordinary £1 shares of £1.10 to £1.15.  
47.	Overall, we consider that, having heard the evidence, Ms Hennessey has to some extent underestimated the effect of the new Coating Plant which was launched shortly before the valuation date.  A prudent investor would have identified that the Company had done its homework, invested heavily, but wisely and successfully, and was about to embark on a significant period of growth and prosperity notwithstanding the Company’s own characteristic caution, expressed for example in its in-house magazines.
48.	A minority shareholder’s principal return each year would be the dividend payable; here, however there was no reasonable expectation in her view of a change in the dividend policy over the next few years following the valuation date.
49.	As for marketability she indicated that she would deduct 25% for lack of marketability alone (i.e. the fact that the investor was buying shares in a private limited company which could not be readily re-sold, in the same way as quoted shares).  She thought her overall figure of 50% could justifiably be higher.  She observed that the British Venture Capital Association’s guidelines suggested 30% discount where there was no prospect of exit (i.e. re-sale of the entire holding being purchased).  Her view was that the Company would never float (on the Stock Exchange) and would never be the subject of a traded sale because of the terms of the Russell Trust.
50.	Ms Hennessey’s method of calculation is set out in the table below.  We discuss the various headings as follows:-
Pre-Tax Profit
51.	Ms Hennessey has taken her figure from the published accounts for the year to 31 March 1982.  We do not consider that this is the correct figure to use simply because these accounts were not published until later that year.  They would therefore not have been available to the prospective purchaser on the valuation date.  We must therefore, and in any event, prefer, instead, to use the information set forth in the Minutes dated 5 May 1982 which reflects the figures that would have been available to the prospective purchaser as at the valuation date.  That produces a pre-tax profit figure of £1.4m

Preference Dividend
52.	There is no dispute that this item should be deducted.  The source of this item is the 1982 Accounts.  Although we have expressed reservations about using the published 1982 accounts, both parties were agreed that this figure should be adopted and we have not identified any alternative figure.
Price to Earnings Ratio 
53.	The price to earnings ratio is essentially the market capitalisation figure divided by the company’s net profit after tax.  Various groups of companies within various industries tend to have a price to earnings ratio within relatively defined ranges or bands.  The price to earnings ratio which as explained above has its base in a quoted share price reflects the market’s view of the company’s worth and potential.  Broadly speaking, the larger the price to earnings ratio the greater the market’s prediction of the company’s potential.  
54.	Miss Hennessey was content that the ratio fell within the range 12 to 14.  Mr Erdal proposed 14.  We consider that 14 should be applied to take account, in part, of the somewhat unique nature of the company and its obvious potential as at the valuation date.  Subsequent history has shown that the Company has achieved its potential.
Market Capitalisation
55.	This is simply a calculated figure, being the product of the pre-tax profit less the preference dividend, and the price to earnings ratio.  The resulting figure is the assumed capitalised value of the company.  The difference between our figure and Ms Hennessey’s stems from our pre-tax profit figure and the slightly higher price to earnings ratio which we have taken.  From the market capitalisation figure a starting price for the valuation of each share can be calculated.
Shareholdings
56.	Mr Erdal proposed that there should be no distinction drawn between the Ordinary shares and the “A” Ordinary shares.  Miss Hennessey, in her report, proposed that the non-voting shares should be subject to a 5-10% deduction to reflect the lack of voting power.  In her report she deducted 10%.  It would be possible to approach matters the other way around by saying that the voting shares should attract a premium of an appropriate percentage.  
57.	However, we consider that the prudent purchaser would neither add nor deduct any additional sum because of the voting rights attached or excluded from each class of shares.  Rather, we consider that the prudent purchaser would make no significant allowance for the fact that one class did and the other class did not have voting rights.  Given the size of the holding with voting rights, the exercise of those rights would not have any significant influence whatsoever.  A prudent purchaser of such a small level of shareholdings in both the Ordinary Shares and the “A” Ordinary Shares would not attach any importance to the existence or non-existence of voting rights.  In these circumstances we have made no separate calculation for each class of share.
Discount
58.	In Caton a discount of 50-60% was applied to a minority shareholding amounting to 14.02% of the total issued share capital of a company which was successful and profitable.  However in that case the valuation proceeded on the basis firstly that a sale of the company would not take place and secondly that it would and the resulting figure was a compromise between the two valuations.  The expert evidence on discount in that case was quite wide ranging.  In Cash & Carry a discount of 55% was applied to a minority shareholding of 24%.  The Tribunal assumed that all the information available to the directors was available to the hypothetical purchase (at page 51).  No dividends had been paid and were unlikely to be paid; its future did not look rosy; the taxpayer was the driving force behind the company and if he left the company would be less profitable at least in the short term.  In both these cases the relevant statutory provision required the same assumption to be made about the availability of information to a prospective purchaser as applies in this appeal.
59.	We do not consider that it would be worthwhile or appropriate to trawl the cases comparing discounts in share valuation cases.  Each case must depend on its own particular facts and circumstances; these circumstances would then have to be compared with the company in question and appropriate adjustments made none of which could be carried out scientifically.  The range seems to be between 25% and 75%.  While we acknowledge that as a private company the shareholding is less marketable than quoted shares and that, as with most private companies there are restrictions in the Company’s Articles of Association on the transmission of shares, the quality and underlying substance of the shareholding and the prospects of the Company was such that we consider that some modification of the average discount of 50% is reasonable and appropriate in the circumstances of this appeal.  [A prudent purchaser is always interested in the future prospects of the company (Caton page 52)].  Here the prospects of the Company were indeed rosy at the valuation date.  We recognise that this factor has already been taken into account in part in the price to earnings ratio.  However, we are of the view that recognition of this factor to its full extent can be given by reflecting it in part in assessing marketability.  In our view, the facts demonstrate that the Company is likely to be less unmarketable to a small extent than the average private limited company if such a company exists.  We therefore modify Ms Hennessey’s figure of 50% and apply a discount of 40%.  We do not see this as double counting but simply as part of the method of reaching what we assess as the proper open market value of the shares as at 31 March 1982 for the purposes of the statutory provisions referred to at paragraph 6 above.
60.	For completeness, we record that we found all witnesses to be generally credible and reliable.  Our findings of fact reflect the relevant factual evidence they gave.

Summary
61.	For convenience, we summarise our conclusions alongside a summary of Miss Hennessy’s valuation as follows (it is not possible to show the Appellant’s valuation as his approach was broadly based; we do not have all the figures he may have deployed to reach his valuation):-
	Hennessey Valuation	Tribunal Valuation	
Pre-Tax Profit	£950,000	£1,400,000	
Less Preference Dividend
Profit Post Preference Dividend	£13,000
£937,000	£13,000
£1,387,000	
Price/Earnings Ratio	12.6	14.0	
Market Capitalisation	£11,800,000	£19,400,000	
Issued Shares 1982 –
Ordinary	1,440,000
A Ordinary	3,360,000
			4,800,000	4,800,000	4,800,000	
Share Value	£2.46	£4.04	
Less Discount	50%	40%	
Discounted Value of each  share	£1.23	£2.42	

62.	We accordingly assess the open market value of each £1 Ordinary share in the Company as at 31 March 1982 at the sum of TWO POUNDS AND FORTY TWO PENCE (£2.42) Sterling.  We assess the open market value of each £1 “A” ordinary share in the Company as at 31 March 1982 at the same sum.  We leave it to the parties to agree the consequences of our decision, which is a decision in principle.  
63.	We cannot speculate or express a view (as the Appellant requested) on the effect our decision may have on earlier tax assessments relating to the Appellant or whether he now has a claim for reimbursement of overpaid tax based on unjustified enrichment or on some other basis.
64.	This document contains full findings of fact and reasons for this decision in principle.  Any party dissatisfied with this decision has a right to apply for permission to appeal against it pursuant to Rule 39 of the Tribunal Procedure (First-tier Tribunal) (Tax Chamber) Rules 2009.  The application must be received by this Tribunal not later than 56 days after this decision is sent to that party.  The parties are referred to “Guidance to accompany a Decision from the First-tier Tribunal (Tax Chamber)” which accompanies and forms part of this decision notice.

J. GORDON REID Q.C., F.C.I.Arb.
TRIBUNAL JUDGE

RELEASE DATE:  26 JANUARY 2011