Business Valuation Case Study: Surgem, LLC v NJ Superior Court
Business Valuation Court Case Analysis
Surgem, LLC v. Achievmed, Inc., 2013 NJ Superior Court, Appellate Division (Oct 16, 2013)
The New Jersey Superior Court, in determining the fair value of an 8.74 percent ownership interest in Surgem, LLC (or Surgem), commented on the expert reports submitted, ultimately disregarding one expert’s report, a Calculation of Value, for failing to develop a Fair Value standard of value for the ownership interest.
The Surgem litigation is a shareholder dispute, where the standard of value is typically fair value as defined by state statute and court interpretations. Generally speaking, fair value is determined exclusive of discounts, such as lack of control and lack of marketability. In a shareholder dispute, fair value allows the minority shareholder a remedy equal to their percentage of the investment’s value determined before discounts. In contrast, fair market value considers applicable discounts that can substantially reduce the value to a minority shareholder.
Beyond the standard of value, at issue in Surgem was the submission of a calculation report presented by the defendant’s expert. According to the American Institute of Certified Public Accountants (AICPA), a calculation engagement results in a Calculation of Value. It does not include all of the procedures required for a valuation engagement. Instead, the valuation analyst and the client agree on the specific valuation approaches and valuation methods the analyst will use and the extent of those procedures the valuation analyst will perform to estimate the value of the subject interest.
A Conclusion of Value, according to the AICPA, is an estimate of the value arrived at by applying the valuation procedures appropriate for a valuation engagement and using professional judgment as to the value or range of values based on those procedures.
On appeal from the Superior Court of New Jersey, this case involved Surgem, LLC, a company owned by Dr. John Hajjar, a board-certified urologist. Dr. Hajjar sued to determine the value and buyout price of former employee and minority owner John Seitz, further described as a disassociated member.
According to the Court, “A disassociated member is entitled to receive the fair value of his limited liability company interest as of the date of disassociation. Fair value, although not synonymous with fair market value, may be established by any techniques or methods which are generally accepted in the financial community and otherwise admissible in court.”
Dr. Hajjar recognized a need for ambulatory surgical centers (ASCs) and established seven ASCs in Northern New Jersey. In 2002, Dr. Hajjar began business dealings with Mr. Seitz, ultimately hiring him to syndicate the New Jersey ASCs that had been operated personally by Dr. Hajjar.
Surgem syndicated its first ASC, Surgicare of Fairlawn, LLC, in 2005, selling a combined 80 percent to various doctors for $8 million and contracting for a management fee defined as 6 percent of facility revenues. Surgem entered into the same arrangement with Surgicare of Englewood Cliffs and Surgicare of Oradell.
During 2006, and after changes to prior oral and written agreements, Mr. Seitz was earning a $250,000 annual salary and had acquired a fully vested 10 percent interest (300,000 shares) in Surgem.
Seitz’ management style created office discontent due to improper behavior. He was finally terminated when Dr. Hajjar learned Seitz had prepared a business plan that he had distributed to potential clients and Surgem’s key employees in an attempted takeover. Seitz’ employment was terminated for cause on April 26, 2008.
Surgem filed a Law Division complaint to establish the fair value of Surgem’s stock for purposes of determining Seitz’ interest as a disassociated member and demanding the stock subject to repurchase. At the date of termination, Seitz owned 8.74 percent of Surgem. Additionally, the plaintiffs sought damages suffered by Surgem because of Seitz’ breach of contract and misconduct.
Each party submitted a value for the Surgem stock. However, Seitz’ expert did not appraise the fair value of the Surgem stock or Seitz’ interest in Surgem. Instead, the defendant’s expert testified that “he had been engaged to prepare only a calculation of value, an agreement between appraiser and client as to the manner in which the appraiser’s work is to be done, i.e., a calculation of value by the method determined by the client, in this case Seitz.”
The appellate court upheld the trial court value of Seitz’ interest in Surgem, rejecting the defendant’s calculation of value.
The value accepted by the trial court was developed using the fair value standard of value that is required in shareholder disputes. Further, the court pointed out the defendant’s influence in developing a calculation of value. This would impair the objective nature of a financial expert. Professional guidance is a necessary part of any engagement and could have benefitted the defendant’s case in the Surgem matter.
(1) Fair Value The value of the shares immediately before the effectuation of the corporate action to which the shareholder objects using customary and current valuation concepts and techniques generally employed for similar businesses in the context of the transaction requiring appraisal, and without discounting for lack of marketability or minority status except, if appropriate, for amendments to the certificate of incorporation pursuant to section 13.02(a) (5). (Revised Model Business Corporation Act (RMBCA), American Bar Association (1999))
(2) Calculated Value. An estimate as to the value of a business, business ownership interest, security, or intangible asset, arrived at by applying valuation procedures agreed upon with the client and using professional judgment as to the value or range of values based on those procedures.
(3) Conclusion of Value. An estimate of the value of a business, business ownership interest, security, or intangible asset, arrived at by applying the valuation procedures appropriate for a valuation engagement and using professional judgment as to the value or range of values based on those procedures.