The Compensatory Function of Capitalisation of Interest in Delaware Appraisal Proceedings

1. Introduction

The Delaware Court of Chancery has recognised that interest on appraisal awards serves a compensatory function rather than a punitive one.

In Hyde Park Venture Partners v. FairXchange LLC, the court stated that statutory interest compensates dissenting shareholders for delays in receiving the fair value of their shares following a merger.

This principle is grounded in Delaware’s statutory framework and case law to ensure shareholders exercising their appraisal rights are not disadvantaged due to litigation delays.

2. Legal Basis for Capitalisation of Interest in Delaware Appraisal Rights Cases

Under Delaware General Corporation Law ("DGCL") § 262(h), dissenting shareholders seeking an appraisal are entitled to interest on their fair value award at a rate of 5% above the Federal Reserve discount rate, compounded quarterly. This statutory interest accrues from the date of the merger until the payment date.

The purpose of this statutory provision is to ensure that shareholders who dissent from a merger and undergo lengthy litigation do not suffer financial harm due to the time value of money. The time value of money principle holds that a dollar received today is worth more than a dollar received in the future due to investment potential and inflation.

3. Key Judicial Precedents on the Compensatory Function of Interest

The compensatory nature of statutory interest has been emphasised in numerous Delaware cases. Some of the most influential decisions include:

Weinberger v. UOP, Inc., 457 A.2d 701 (Del. 1983)

The Delaware Supreme Court in Weinberger acknowledged that appraisal rights protect minority shareholders in mergers. The court indicated that shareholders dissenting from a merger should not be placed in a worse position than those accepting the deal price.

Gholl v. eMachines, Inc., 2004 WL 2847865 (Del. Ch. 2004)

In Gholl, the court stated that statutory interest in an appraisal case is compensation for the loss of use of funds, not a penalty against the acquiring corporation. The court noted that companies benefit from retaining disputed funds during litigation, which would be unfair to dissenting shareholders without interest.

DFC Global Corp. v. Muirfield Value Partners, L.P., 172 A.3d 346 (Del. 2017)

The Delaware Supreme Court stated that the statutory interest rate should be applied to appraisal awards consistently to compensate shareholders for delays in receiving fair value.

In re Appraisal of Transkaryotic Therapies, Inc., 2007 WL 1378345 (Del. Ch. 2007)

The court rejected the argument to reduce the statutory interest rate due to lower market rates, reiterating that the default statutory rate exists to prevent undervaluation due to litigation delay.

4. Economic Justifications for the Compensatory Function

The capitalisation of interest in appraisal cases ensures that:

Shareholders Do Not Suffer from Delayed Payments - Dissenting shareholders lose their ability to trade shares and reallocate capital after a merger. Without interest, they effectively provide an interest-free loan to the acquiring company during litigation.

Discouragement of Tactical Delays by Acquiring Companies - Without interest, corporations would have an incentive to delay appraisal proceedings, forcing dissenting shareholders to bear the economic burden.

Fair Compensation for the Use of Funds - Since the acquirer retains the funds that would otherwise go to dissenting shareholders, statutory interest ensures these funds are not held cost-free, preventing profits from delay tactics.

Bringing Parity Between Dissenting Shareholders and Accepting Shareholders - Accepting shareholders receive immediate payment and can reinvest funds, while those pursuing appraisal do not have this option. Interest helps equalise this disparity.

5. Application in Hyde Park Venture Partners v. FairXchange LLC

In Hyde Park Venture Partners v. FairXchange LLC, the Delaware Court of Chancery followed precedent in applying the statutory interest rate to the appraisal award. The court ruled that:

• Interest would accrue at 5% above the Federal Reserve discount rate, compounded quarterly, from the merger date until payment. The compounding nature of the interest rate ensures dissenting shareholders are compensated for delayed receipt of funds.
• The interest award is not discretionary—it is a statutory entitlement ensuring shareholders receive the economic equivalent of their shares’ fair value at the time of the merger.

6. Potential Criticism and Counterarguments

Some argue that Delaware’s statutory interest rate may be too high during low inflation periods, potentially overcompensating dissenting shareholders. However, the counterargument is that:

• The fixed rate prevents acquiring companies from exploiting litigation delays.
• Even if market rates are lower, dissenting shareholders are deprived of their capital, justifying a premium interest rate.
• If the interest rate significantly exceeds market returns, parties may negotiate alternative arrangements, such as prepayment of part of the appraisal award.

7. Conclusion

The capitalisation of interest in appraisal cases serves a compensatory function, ensuring dissenting shareholders are not disadvantaged due to litigation delays. The Delaware Court of Chancery reaffirmed this principle in Hyde Park Venture Partners v. FairXchange LLC.

By requiring interest compounding at a statutory rate, the court protects dissenting shareholders from losing the time value of their investment while preventing acquiring companies from profiting from litigation delays. This approach underscores the fairness within Delaware’s appraisal rights framework.