Nicholas Bell & Ors v The Commissioners for HMRC

Mr Strickland considered that the cost approach gave a value of 7.91p per share. This took into account the 7.836p average price per share paid by the initial subscribers and the 25 subscribers. Taking into account the value attributed to the shares issued to Wacks Caller, the average price per share increased to 7.91p per share. Mr Strickland did not apply any discount for the costs associated with the offer for subscription, the purchase of Cityblock Limited and the flotation on AIM. Rather, he treated those costs as an asset of the company.

The figure of 7.91p per share equates to what Mr Strickland described as the adjusted net assets of Cityblock, which he calculated to be £1,728,000. In cross-examination, Mr Strickland maintained that this did not amount to a net asset valuation, but it seems to us that is effectively what it is. In his report, Mr Strickland calculated the “adjusted net assets” starting with the total assets appearing in PKF’s statement of combined net assets as follows:

The adjusted net assets equates to 7.91p per share. That is because of the two adjustments. First, using a share value of 7.91p per share means that the consideration received by Mr Higginson and Mr Bargh reduces from £1,365,294 to £900,253. Second, it adds back the costs of the flotation, amounting to £172,000, which PKF had taken into account in identifying total assets.

It appears to us that the calculation of adjusted net assets performed by Mr Strickland simply uses the 7.91p per share calculated above to value the shares allotted to Mr Higginson and Mr Bargh. It then capitalises the costs, meaning that there is no deduction from the funds introduced by the subscribers. It does not support the share price of 7.91p as such.

Mr Strickland went on to consider whether various other factors would suggest a different value for the shares. The factors which he considered and the reasons he discounted them are as follows:

In order to value the shares using an income approach, Mr Strickland considered that the prudent prospective purchaser would make various assumptions as to the costs of developing further properties, the rental income from those properties and the ongoing costs of running the business. He considered that the assumptions he used were “generally optimistic”. The two main sensitivities were the estimated rental yield and the interest expense. He assumed that bank funding would be available, but even then he considered that the high level of gearing would mean that further equity investment would be required. Otherwise, by 2008 bank borrowings would have risen to £4.7m. The profit after tax on the basis of Mr Strickland’s assumptions would steadily rise from a loss of £28,287 in 2004 to a profit of £86,015 in 2008.

Mr Strickland discounted the resulting cashflows and derived a net present value of £925,000 for the business, which was significantly less than the value of £1,728,000 using the cost approach.

Cityblock had no historic earnings to which a price earnings ratio or an earnings multiple could be applied. The indicative future earnings which Mr Strickland had calculated for the purposes of the income approach might have been used. However, Mr Strickland noted that shares of FTSE-listed property investment companies all traded at a significant discount to their net asset value. Those companies included Unite Group, which specialised in providing student accommodation.

Mr Strickland acknowledged that property businesses would often have a higher price earnings ratio than other trading businesses because there is less risk, in the sense that they have asset backing and predictable cashflows. Overall, he considered that this material would suggest that the cost approach did not understate the value of shares in Cityblock.

There were also transactions in the shares of Cityblock following its flotation on AIM. The evidence was that 3,637 shares were traded in 6 transactions on 29 July 2003. The total value of these transactions was £1,959 with an average price of 53.86p per share. This would suggest a value for the company of £11.8m. On the basis of Mr Strickland’s indicative income projections, Mr Strickland calculated that this would equate to a price earnings ratio of 128. Mr Strickland could not understand on what basis buyers of shares in Cityblock could see value so far in excess of the net asset value identified in the prospectus.

Mr Strickland noted the restrictions on trading shares in Cityblock as a result of the lock-in provisions. On the basis that only the placing shares could be traded, the “free float”, which is the percentage of shares in issue which can be freely traded, was only 1% of the total share capital. He regarded Cityblock as an unproven company with significant risks arising from the level of gearing that it would require to develop one site a year.

Overall, Mr Strickland considered that the value of the shares disposed of by Mr Bell and Mr Fox on 29 July 2003 was no more than 7.91p per share, based on the cost approach.

Mr Strickland considered that the cost approach gave a value of 14.25p per share. This was based on the average amounts paid for the shares by the initial subscribers and by the 78 subscribers pursuant to the offer and in the subsequent placing. He did not apply any discount for the costs associated with the flotation on AIM. Again, he treated those costs as an asset of the company.

As stated above, the pro forma consolidated balance sheet for Strategic Retail and Fads as at 27 September 2003 showed net assets of £1,375,000. The net assets of Fads itself were stated at £1,000. Mr Strickland added the costs of raising funds and acquiring Fads which was £489,000. The total value given by the cost approach was therefore £1,864,000 which equates to 14.25p per share. This is essentially the same calculation based on the amounts paid by the initial subscribers and the subscribers. The assets of Strategic Retail comprised the funds raised together with the net assets of Fads which amounted to only £1,000.

Mr Strickland noted that there was only limited information available regarding future cashflows of strategic Retail. There was audited financial information showing turnover and gross profit before central overheads for the 257 days ended 23 February 2002 and the 53 weeks ended 1 March 2003. There were also unaudited draft figures for the 30 weeks ended 27 September 2003. However, the position was confused by intra-group sales and there was no information about central overheads.

In the circumstances, Mr Strickland’s view was that he could not identify evidence of cashflows or even prepare indicative projections of possible future earnings. His opinion was that a prudent prospective purchaser could not derive a value based on the income approach.

Fads had no positive earnings to which a comparable earnings multiple could be applied. Unlike Cityblock, there was no information which he could project forward on the basis of assumptions about future performance. The aggregated figures for the relevant group companies only went down to store contribution. The central overhead costs were not included. Mr Strickland considered that information relating to central overhead costs would not be available to the prudent prospective purchaser.

There were deals on AIM in the shares of Strategic Retail following its flotation. The evidence in relation to those transactions shows that on 19 and 22 December 2003 there were 13 transactions on AIM in which 131,700 shares were traded for a total consideration of £123,947. Three of those trades were marked as cancelled. That left 10 trades over two days covering 101,700 shares for a total consideration of £95,447. The price at which those shares were traded was between 92.75p and 97p, with an average price of 94.11p. This would imply a market value of approximately £10m for the Fads business which had been purchased from the joint administrators for a nominal sum three weeks earlier.

In the absence of any explanation to justify such a value, Mr Strickland’s view was that he could not take these transactions into account in assessing the market value of the shares. He noted that the lock-in provisions restricted the shares available to trade. Only the 382,912 placing shares could be traded. Whilst some 27% of the placing shares were traded, the free float was only 2.9% of the total share capital. He did not consider this to be a functioning market, or what he also described as a liquid market. He considered that a liquid market requires a free float of 15-20% of the issued share capital and that transactions in an illiquid market are not good evidence of value.

Mr Strickland went on to consider the effect of various other factors. His opinion in relation to those factors, which he also considered in relation to Cityblock, was as follows:

Overall, Mr Strickland considered that the value of the shares disposed of by Mr Hussain and Mr Fox on 19 December 2003 was 14.25p per share, based on the cost approach.

Mr Webster on behalf of the appellants took issue with Mr Strickland’s evidence and his conclusions for various reasons. We consider his submissions as follows:

generally

We shall deal with the issues in so far as they apply to both valuations in this section. Where specific issues arise in relation to either Cityblock or Strategic Retail we shall deal with them in the separate sections which follow.

The appellants accept that Mr Strickland is an expert valuer and did not challenge his status as such. However, it was suggested that he was not well placed to give evidence as to the value of shares listed on AIM because he had little if any experience in valuing such shares. We do not accept that criticism.

Expert valuers will not generally be called upon to value listed company shares. However, when using listed companies as comparables, expert valuers such as Mr Strickland do need to understand the pricing of those shares in the market by reference to generally accepted valuation methods. We are satisfied that Mr Strickland brought his experience to bear in this regard. We are satisfied that he is well qualified to give expert evidence as to the value of shares in Cityblock and Strategic Retail.

There was a broad submission that the valuation carried out by Mr Strickland was far removed from the real world assessment of value that would be made by a prudent prospective purchaser. In circumstances where there is no allegation that the price of deals on AIM were artificially inflated, those prices provide reliable evidence as to the value of the shares.

We do not accept those submissions. Mr Strickland has applied well established valuation methods in reaching his conclusions on the value of the shares. Those are the methods a prudent prospective purchaser would seek to apply in valuing the shares. There is no disconnect with the real world valuation of shares. Mr Strickland’s evidence as a professional valuer was that in an illiquid market the transaction prices did not provide reliable evidence of value. We accept that evidence.

Closely associated with those submissions, was a submission that Mr Strickland failed to take into account the nature of AIM as a market. In particular, the opportunity it gives to buy and sell shares in small companies which is not open to shareholders in small private companies. The appellants relied on evidence that in March 2005, AIM had a total market capitalisation of £39.8 billion with companies having an average market capitalisation of £36.1m. There were 1,103 companies listed on AIM at that time, of which only 27% had reported positive earnings per share. The average price earnings ratio was 53.1, whereas on the same date the average price earnings ratio of companies in the FTSE 250 was 17. Even companies with negative earnings had substantial market capitalisations.

Mr Strickland accepted that there were a number of companies on AIM which were growing very rapidly leading to high price earnings ratios and market capitalisations. Such companies often had small current profits or indeed negative earnings but with the expectation of high profits in the future. He considered that the market was pricing those shares by reference to their future profits. Mr Strickland noted that AIM included a number of start-up businesses developing new products and new services including technology businesses with an expectation of future revenues justifying their share price. This contrasts with Cityblock and Strategic Retail for which there was no evidence by way of forecasts of future revenues.

Mr Strickland accepted that the market will price such companies taking into account the trade sector, competition, quality of management, access to capital and the prospects for future growth. He acknowledged that for the purposes of his cost approach, an asset of equal utility would be a company on AIM operating in the same sector with the same quality management, access to capital and the same business plan. However, he maintained that shares are still priced by reference to the cost approach or by reference to future cashflows or earnings, having regard to the risks associated with those future cashflows. He did not otherwise factor these points into his valuation, for example in relation to possible value added by the companies’ initial subscribers or the management teams. We accept that there was no way to quantify these matters without cashflow projections or profit forecasts.

Mr Bell adduced evidence identifying a random sample of 6 companies floated on AIM in 2002 and 2003. In each company, the share price on flotation was well in excess of the company’s net asset value. Essentially, the appellants say that these are relevant, comparable businesses being floated on AIM and illustrate that Mr Strickland, who has valued Cityblock and Strategic Retail by reference to net assets, has failed to take into account how the market works.

The evidence available to us in relation to these companies was incomplete. We are not satisfied that they are comparable companies in the sense that they operated in very different markets to Cityblock and Strategic Retail. We are satisfied from Mr Strickland’s evidence that the financial information he had been able to obtain in relation to these companies supported share prices in excess of net asset value. We do not consider that this sample of companies supports a conclusion that Mr Strickland has somehow misunderstood the pricing of shares on AIM.

Overall, we do not consider that Mr Strickland failed to take into account the nature of AIM as a market. We are satisfied that Mr Strickland was entitled to value the shares by reference to the financial information that was available to the prudent prospective purchaser.

It was submitted that Mr Strickland had failed to take into account various other factors in his valuations. In particular:

We do not accept that Mr Strickland was wrong in not taking these matters into account. There was no basis on which he could quantify the effect they might have on the value of the shares.

Mr Strickland did not consider the fact that the value of the placing shares in each company was supported by WH Ireland, the Nomad. He did not have a detailed knowledge as to the role of the Nomad in a flotation on AIM. In Netley, there was evidence before the Tribunal and a finding of fact at [123] that whilst a Nomad would not undertake a robust valuation exercise, they must still be satisfied that the valuation of the placing shares was justified. We are not in a position to make any finding to that effect on the evidence in this appeal. In any event, we do not consider that much weight would attach to the placing price itself in the absence of publicly available financial information to support that price.

Mr Webster submitted that Mr Strickland had failed to have regard to the position of the hypothetical vendor. For example, where there were dealings on AIM, the hypothetical vendor would not sell significantly below the value of those dealings.

We do not consider that is the case. Mr Strickland was valuing the shares by reference to the financial information available to him. We have accepted his reasons for not taking into account the transactions which took place on AIM. The market value of the shares will be the highest price a prudent prospective purchaser would pay and the lowest price the hypothetical vendor would accept. There is no reason to think that Mr Strickland’s methodology fails to identify the latter price. The same financial information is available to both the hypothetical purchaser and the hypothetical vendor and it matters not from which perspective it is analysed.

It was submitted that Mr Strickland failed to have regard to the upward effect on valuation of the shares being publicly listed on AIM. However, he did address this point in his evidence. He noted that there were governance costs associated with a listing on AIM. He concluded that admission to AIM would not result in any increase in total corporate value. We accept his evidence in that regard.

In both valuations, Mr Strickland placed no reliance on the price at which shares were dealt on AIM on or about the date of valuation. This was because the existence of the lock-in provisions meant that there was a very small free float. Mr Webster argued that the lock-in provisions and the small free float meant that scarcity of shares would tend to drive the price higher. Mr Strickland accepted that if supply is less than demand, then the price of an asset will be driven up. However, we are not satisfied that this makes the transaction prices any more reliable than Mr Strickland indicated. The prices do not provide reliable evidence of value because the market in the shares was illiquid.

Cityblock

The appellants make various specific challenges to the evidence of Mr Strickland in relation to the value of Cityblock shares. It is said that Mr Strickland’s valuation is flawed, and the best evidence of value is the prices paid for the shares in the transactions on AIM on 29 July 2003.

It was submitted that in his market approach, Mr Strickland was wrong to use the price earnings ratios of companies with a full listing on the London Stock Exchange. Such companies are more mature without the expectation of a premium for early investors. He ought to have used price earnings ratios of AIM-listed companies.

We do not accept that Mr Strickland erred in his approach. He used the only comparables available. The appellants did not identify any AIM-listed companies which might be viewed as comparable. Mr Strickland had been unable to find any AIM-listed comparables. Property investment companies on AIM were also involved in property development and trading, using trading profits to fund property ownership. As such they were not comparable to Cityblock.

Mr Webster also relied on the upward trend in property prices at the time of the flotation. Nationwide data showed average house prices steadily increasing from £179,457 in 2001 to £271,619 in 2004. He submitted that Mr Strickland had failed to take into account that this would reflect in property rentals and Cityblock’s earnings. We accept Mr Strickland’s evidence that this did not affect his valuation. Indeed, it must be reflected in the valuations of the comparables used by Mr Strickland in his market approach. Even then, Unite Group was valued at a discount of 38% to its net asset value.

Mr Webster submitted that Mr Strickland’s reasons for not taking into account the 12p per share put on the value of Cityblock Ltd and the 12.2p per share attributed to Wacks Caller’s services were unconvincing. Mr Strickland appeared to say that because the net asset value was 7.91p per share, this evidence must be disregarded.

In our view there is some merit in this challenge. The prospectus stated that the total consideration for which Cityblock acquired the shares in Cityblock Ltd was £1,365,294, and that this was satisfied by the issue of the consideration shares. This equated to 12p per share. Mr Strickland discounted this figure because he could not see how it had been worked out and he therefore had no explanation for the difference between that figure and the average of 7.91p per share paid by the initial subscribers, the subscribers and Wacks Caller.

In our view the prudent prospective purchaser would give particular weight to the consideration identified in the prospectus. It was agreed between Mr Higginson, Mr Bargh and the promoters. WHI and Zeus had put their name to the document. It would be known that all those parties would have access to full information about the company and its prospects. They would not be restricted to publicly available information. Further, Wacks Caller would be in the same position, and they had agreed to convert their fees to equity on the basis of 12.2p per share.

In all the circumstances, we consider that the prudent prospective purchaser would regard these transactions as strong evidence as to the value of the shares in Cityblock.

For the reasons given above, we broadly accept Mr Strickland’s expert evidence. However, we consider that the prudent prospective purchaser would place significant weight on the value attributed to the consideration shares and the value attributed to the Wacks Caller shares.

In our judgment, taking into account all the facts and matters referred to above, the value of Cityblock shares on 29 July 2003 was 12p per share. This is the same value that HMRC placed on the shares in their closure notices. We must therefore dismiss the appeal of Mr Bell, and also the appeal of Mr Fox in so far as it relates to his claim for relief on his gift of Cityblock shares. It also means that we should not exercise our power to increase the assessments in the closure notices.

Strategic Retail

Most of the appellants’ challenges to the evidence of Mr Strickland in relation to the value of Strategic Retail shares were the general challenges we have considered above. It is said that Mr Strickland’s valuation is flawed, and the best evidence of value is the prices paid for the shares in the transactions on AIM on 19 and 22 December 2003.

The appellants say that there was no explanation for Mr Strickland’s failure to look at comparables when applying his market approach. However, the reason Mr Strickland did not seek to identify comparables was that he had no figures for earnings to which he could apply the resulting metrics. In our view, Mr Strickland was right to take that approach.

It was also pointed out that there was evidence that on 21 March 2005 the price at which shares were dealt in on AIM was 48.5p, suggesting a market capitalisation of £7.73m. Mr Webster invited us to use that evidence as a sense check. However, it is some 15 months after the valuation date, and in any event it suffers from the same issues of reliability as the transactions on 19 and 22 December 2003.

We have found that the 78 subscribers paid a total of 26.68p per share. They committed to that investment at the date of the offer knowing that Strategic Retail was proposing to buy the Fads business. That price per share indicates a market value of Strategic Retail of £3,490,937, against assets in the form of cash amounting to £1,864,000. Mr Strickland’s evidence was that he could not justify such an uplift in value. Assuming that the joint administrators achieved a fair value for the Fads business, the uplift would represent value being brought to the business by the initial subscribers. He considered that the prudent prospective purchaser would not be prepared to recognise such added value.

It is tempting to think that some value must be attributed to the involvement of the initial subscribers, including the non-executive directors. Mr Gabbie had considerable experience in managing retail chains and Mr Mond specialised in business turnarounds. Further, working capital raised from the 78 subscribers was being introduced into the business. The question is how to value those matters in the absence of any working capital report or forecasts of future earnings?

However, we accept Mr Strickland’s evidence that the prudent prospective purchaser has no way of quantifying that value in the absence of any working capital report or forecasts of future earnings. There are no reliable, comparable transactions which would indicate a value higher than the value of 14.25p per share based on the cost approach applied by Mr Strickland. We cannot rely on the price of 26.68p per share paid by the 78 subscribers because they had exactly the same financial information used by Mr Strickland.

For the reasons given above we accept Mr Strickland’s expert evidence. In our judgment, taking into account all the facts and matters referred to above, the value of Strategic Retail shares on 19 December 2003 was 14.25p per share. This is less than the value placed on the shares by HMRC in their closure notices. We must therefore dismiss the appeals of Mr Hussain, and also the appeal of Mr Fox in so far as it relates to his claim for relief on his gift of Strategic Retail shares. It also means that we should exercise our power to increase the assessments in the closure notices relating to the Strategic Retail shares of Mr Hussain and Mr Fox.

The appellants have applied to debar HMRC from defending the appeals or for the appeals to be summarily allowed on the basis that a fair hearing is not possible because of delay in their enquiries. HMRC do not accept that this Tribunal has jurisdiction to exercise such powers based on conduct prior to the commencement of the appeals. In Nuttall v HM Revenue & Customs [2022] UKFTT 192 (TC) and most recently in Chisnall & Others v HM Revenue & Customs [2023] UKFTT 857 (TC) it has been held that in principle there is such a jurisdiction. In both of those cases, HMRC did not seek to argue that their delay in closing enquiries was anything other than inordinate and inexcusable. They argued that on the facts the delay did not prejudice a fair hearing.

All parties in the present appeals were content to proceed on the basis that in principle we do have such jurisdiction. HMRC reserved their position in relation to other appeals, or if the present appeals proceed further, to argue that as a matter of law there is no such jurisdiction.

Again, HMRC do not seek to argue that the delay in issuing the closure notices was not inordinate and inexcusable. The enquiries were opened in June 2005 and January 2006. Closure notices were not issued until May and August 2018. The issue we must decide is whether, by virtue of that delay, relevant evidence which might otherwise have been available to the Tribunal is no longer available.

It is important to note at the outset that the prudent prospective purchaser has all the information which might reasonably be required to purchase the shares. In the case of small minority holdings, that is the publicly available information. It was not suggested that the prudent prospective purchaser would have anything in addition to what was publicly available at the valuation dates.

What is publicly available information is a matter of fact to be determined by the Tribunal on the balance of probabilities. It is for the appellants to satisfy us that it is likely that there was publicly available information which might have affected the valuation of the shares but which, because of the delay, is no longer available. The appellants point to various categories of information which they say would have existed but is no longer available. Some of that information would not have been publicly available, but they say that it would, or at least might have assisted Mr Strickland. Other information they say would have been publicly available.

First it is said that evidence would have been available from Zeus, WH Ireland and the appellants’ investment advisers which might have explained the divergence between the placing price of the shares and Mr Strickland’s valuations based on a cost approach. That evidence is no longer available and HMRC failed to secure that evidence.

We are satisfied that such evidence would have existed, but because of the delay is no longer available. However, that information would not have been publicly available and would not have been available to the prudent prospective purchaser.

The appellants accept that it would not have been available to the prudent prospective purchaser, but say that it could still be relevant evidence. It might have enabled Mr Strickland to gain a better understanding of why his cost approach diverged from the placing price and the transactions which took place on AIM. We do not accept that argument. If the evidence would not be available to prudent prospective purchaser, it is not relevant evidence. An expert cannot be in any better position to assess the value of the shares than the prudent prospective purchaser.

Mr Webster observed that such material was the subject of evidence and findings by the Tribunal in Netley and was treated as relevant to the valuation process. However, in Netley HMRC alleged that the arrangements surrounding the admission of shares to AIM were designed to allow subscribers to claim gift relief greater than their cash investments. That is why evidence as to the price setting process was relevant. The valuation aspect of the decision was based only on publicly available information. No such allegation has been made by HMRC in the present appeals, and a similar allegation that the share prices of the placing shares were deliberately inflated has not been pursued.

Secondly, it is said that Mr Fox had notes and documentation relating to his subscription for shares in Cityblock and Strategic Retail which are no longer available. We are not satisfied that Mr Fox would have had anything relevant to the valuation of the shares which was not relied on by Mr Strickland.

Thirdly, it is said that Mr Strickland himself acknowledged that he would have sought further evidence to explain the disparity between his valuation on a cost approach and the deals taking place on AIM, but that such information was no longer available. However, he was not suggesting that information which was publicly available was no longer available. Mr Strickland stated that he would expect all publicly available information relevant to valuation to be included in the offer documents and the prospectuses which he has considered. He said that was how markets had to work, otherwise there would be scope for market abuse or insider dealing. The submissions before us did not address the ingredients of the offence of insider dealing under the Criminal Justice Act 1993 or market abuse generally. However, we find that all publicly available information relevant to the valuation process would be included in the formal documents. There might be other information not included in the formal documents, such as details about the market sector, competition in the market and so-called investor sentiment. However, for the reasons given by Mr Strickland, that evidence would not affect the valuation of the shares in these appeals.

In all the circumstances, we are satisfied that no material evidence other than that contained in the formal documents would have been available to the prudent prospective purchaser. We are not satisfied that delay on the part of HMRC has prejudiced a fair hearing of the appeals. We therefore dismiss the appellants’ applications based on abuse of process.

For the reasons given above, we dismiss the appeals in relation to Cityblock. We are satisfied that the value of the Cityblock shares on 29 July 2003 was 12p per share.

We dismiss the appeals in relation to Strategic Retail. We are satisfied that the value of the Strategic Retail shares on 19 December 2003 was 14.25p per share and that Mr Hussain and Mr Fox were undercharged by the assessments in the closure notices. We must therefore direct pursuant to section 50(7) Taxes Management Act 1970 that those assessments should be increased accordingly.

This document contains full findings of fact and reasons for the decision. 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.