How to Value Shares in a Private Company Buyout in Ontario

You and your co-owners are negotiating a buyout. One of you wants to leave, or someone is being bought out after a falling-out. The first question is almost always the same: what are the shares worth? Unlike shares of a public company, there is no listed price to point to.

This article explains in plain terms how value is usually approached, why two valuators can disagree, and how your shareholders agreement may already answer the question. Because this is a matter of facts and contract wording, an accountant and a lawyer are worth involving.

Why private company value is hard

A private company has no stock market price. Value has to be estimated, and the estimate depends on assumptions about the business's future, its risks and its assets.

The range can be wide. In one Ontario case, the trial judge set a share value between the figures of two experts, which were $20.8 million and $52.8 million. Your dispute may be much smaller, but the lesson is the same: reasonable people can reach very different numbers.

Small changes in an assumption, such as how long current profits will last or how risky the business is, can move the final number a long way. That is why it helps to understand what each valuator assumed, and not only the figure at the bottom of the report.

Common valuation approaches

Valuators commonly use one or more of these general approaches. Which suits your company depends on its type and the purpose of the valuation.

• Earnings-based: value reflects the profit the business is expected to keep earning.
• Asset-based: value reflects what the business owns, less what it owes.
• Market comparison: value is guided by what similar businesses have sold for.
• Cash-flow based: value reflects the money the business is expected to generate over time.

A service business with few assets may be valued mainly on earnings, while a company that holds real estate may lean on its assets. A valuator will often cross-check more than one approach.

Discounts and the valuation date

Parties often argue about whether the price of a minority stake should be reduced because the owner cannot control the company or easily sell. Whether any such discount applies is a matter of your agreement, the facts and the valuator's approach, and a lawyer or accountant can confirm how it may affect you.

The date of valuation also matters, because a business can change quickly. An Ontario Court of Appeal buyout decision dealt with the valuation date and the use of a later sale price when valuing shares. If you are negotiating, agree on a clear date in writing.

Who picks the valuator and how agreements fix price

Many shareholders agreements say how the price will be set. Some use a formula, some name a method, some require an independent valuator, and some let each side hire one and then average or refer to a third. These are contractual choices, not a single rule for all companies.

If the agreement does not say who chooses the valuator, how that is resolved depends on your situation, so it is worth confirming with a lawyer. Choosing someone both sides trust can save time and cost.

When a buyout turns into a dispute

Sometimes the disagreement is not only about the number. A shareholder who feels pushed out may look at the oppression remedy in section 248 of the Ontario Business Corporations Act.

The Supreme Court of Canada's test asks whether the person complaining had a reasonable expectation that was breached, and whether the conduct was oppressive, unfairly prejudicial or unfairly disregarded that person's interests.

In one Ontario case, the Court of Appeal upheld a finding that refusing to redeem a terminated shareholder's shares was oppressive, along with a damages award based on a trial valuation set between two experts' figures. Every case turns on its own facts, so this is an illustration and not a prediction for your situation.

• What did you reasonably expect when you became a shareholder?
• Was that expectation not met, and how?
• Was the way you were treated unfair to your interests as a shareholder?

What to do next

• Read the shareholders agreement for any price formula, valuation process or buy-sell clause.
• Gather three to five years of financial statements and tax filings.
• List major assets, debts, leases and guarantees.
• Agree in writing on the valuation date and the valuator's instructions.
• Ask a lawyer to review the draft buyout terms before signing.

Frequently asked questions