Recently, in relation to inheritance, there have been many cases in which the question of how to evaluate the price of shares of unlisted companies has become an issue. In the case of shares of listed companies, it is easy to calculate the price because of the market value at which they are traded in the market. On the other hand, unlisted company shares are rarely traded, and even when they are, they are often traded at fixed prices such as 500 yen per share or 50,000 yen per share, in accordance with the previous practice. The practice of trading shares at a fixed amount, regardless of the company’s net asset value, is also considered effective when permitted as a customary practice. In many small and medium-sized companies, when a shareholder dies, a purchase of shares at a certain fixed price (purchase of treasury stock or purchase by a member of the management family) is often conducted in accordance with the previous transaction examples.
Under normal circumstances, there is no problem with such transactions at a certain predetermined price, but when an inheritance occurs, an objective calculation of the price is required from the perspective of calculating inheritance taxes. In addition, when dividing the estate, equal distribution of inherited assets among heirs is necessary, so the calculation of the stock price is also required from the perspective of how much the acquisition price of the heirs who inherited the shares of an unlisted company should be calculated. In cases where the majority of the estate consists of company stock, there are many cases where a compensatory division is made in which the person who succeeds to the management of the company acquires the stock and the other heirs receive a cash distribution, in which case the calculation of the stock price is also necessary to determine the amount of compensation. In cases where the eldest son takes over the management of the company, the calculation of the stock price alone is sufficient. However, if a dispute over the acquisition of management control arises in connection with the division of the estate, the issue of who gets how many shares will become extremely complicated.
I would like to briefly discuss the valuation method of unlisted company shares in the case of inheritance. There are two methods of inheritance tax valuation of non-traded shares: the principle valuation method and the special valuation method. There are three general valuation methods: the net asset value method, the comparable industry method, and the combined method. On the other hand, the dividend return method is used as a special valuation method. Therefore, it is necessary to first confirm which method is applicable in which case.
There are two types of shareholders in unlisted companies: family shareholders and non-family shareholders. For shareholders other than family shareholders, the dividend return method with a special valuation method is applied. For example, there are cases in which non-family directors of the company own shares, or employees or business partners of the company own a small number of shares at the request of the management or through the shareholding system, etc. In such cases, minority shareholders other than family shareholders do not have control of the company, and the economic benefit of holding shares is limited to receiving dividends. Therefore, in the valuation of the shares, the economic value of the shares is evaluated from the viewpoint of how much dividend is received and how much the economic value of the dividend is considered to be. This also applies to minority shareholders who do not have a controlling interest, even if they are family shareholders, etc. Therefore, the dividend return method, which is a special valuation method, will be applied to shareholders other than family shareholders, etc. and minority shareholders who have no controlling interest even if they are family shareholders, etc.
Special valuation method, dividend return method
In calculating the amount of dividends, the term-end dividend and the interim dividend are to be included, while special dividends and other non-ordinary dividends are to be excluded. In addition, since there is a possibility of variation over a one-year period, the average of two years’ worth of dividends shall be used. For example, if the year-end dividend for last year was 50 yen per share and the year-end dividend for this year is also 50 yen per share, the average dividend amount for the two years would be 50 yen (if no interim dividend was paid).
The formula for calculating the value of shares using the dividend return method is as follows:
Dividend Redemption Value per share = (annual average dividend per share (50 yen) ÷ 10%)
(Average annual dividend per share (50 yen) / 10%) x (Amount of capital, etc. per share / 50 yen)
Of the above, the average annual dividend per share (50 yen) is calculated as follows:
(Total amount of dividends for the two years prior to the end of the immediately preceding fiscal year ÷ 2) ÷ (Amount of capital, etc. at the end of the immediately preceding fiscal year ÷ 50 yen)
The calculation seems complicated, so I would like to take a closer look at its contents. In the above, the total dividends for the two years prior to the end of the immediately preceding fiscal year divided by 2 is half of the total for the two years, so it refers to the average for one year. For example, if the total dividends for the two previous years were 1 million yen and the total dividends for the previous year were also 1 million yen, then the average for one year would be 1 million yen (2 million yen ÷ 2). If the company is capitalized at 10 million yen and has 200 shares outstanding, then;
Average annual dividend per share (50 yen) = 1 million yen / (10 million yen / 50 yen) = 5 yen
So, dividend return value per share = (5 yen / 10%) x (10 million yen / 200 shares / 50 yen)
= 50 yen x (5,000,000 yen ÷ 50 yen) = 50 yen x 1,000
= 50,000 yen
In other words, the company’s dividend return value is 50,000 yen. As stated above, if the company has a capital of 10 million yen, 200 shares issued and outstanding, and total dividends of 1 million yen, the company paid a dividend of 5,000 yen per share, so a simple calculation of 5,000 yen divided by 10% would give the same result.
The reason why the calculation is complicated as described above is that different companies have different amounts of capital stock and different numbers of shares issued, so it is not correct to simply compare how much dividend is paid per share, but rather to calculate the units by aligning them to 50 yen per share and then dividing back according to the actual number of shares issued and outstanding. However, it is a good idea to simply think of it as 10 times the amount distributed per share (divided by 10%). In other words, the per share calculation is based on the calculation that an investment yield of about 10% is possible for stocks. For example, a 10% annual yield on an investment of ¥50,000 means a profit of ¥5,000, and conversely, a stock that produces a dividend of ¥5,000 is worth ¥50,000.
In fact, a 10% investment yield is a very high figure, and one might wonder how a 10% yield can be generated on the shares of a privately held company, but a higher yield means a lower principal (share price), so this idea may make sense in the case of inheritances. Conversely, in the case of a purchase demand for shares of an unlisted company, etc., a minority shareholder would be able to buy up shares at a lower price. Of course, the dividend reduction value is only applicable to a company that actually pays dividends, so for a company that does not pay dividends, there is no choice but to use net asset value.
The principle valuation method cannot be used for the shares of special companies, so the net asset method or the estimated amount of settlement distribution must be used. The following are examples of special companies.
- (i) Companies in which shares account for 50% or more of total assets.
For example, a holding company of a listed company would fall under this category. Most of the assets of such a company are shares, and the value of the shares held by the company itself represents the value of the company’s shares. Therefore, for such a company, the share price is calculated based on the net asset value method.
- (ii) A company whose land accounts for a certain percentage of its total assets.
In this case, the value of the land is considered to represent the value of the company’s shares, so the value of the shares is calculated based on the value of the company’s real estate, rather than on the amount of profit made by the company. Therefore, for such a company, the share price is calculated based on the net asset value method.
- (iii) A company that has been in business for less than three years.
In the case of this company, it is considered that the company has just been established and is not structured to generate sufficient profits, and that the fluctuation in profits is extremely large, making it difficult to calculate an appropriate share price based on profits and dividends. Therefore, for such a company, the share price will be calculated based on the net asset value method.
- (iv) A company with zero in any two of “Dividends,” “Profit,” and “Net Assets” at the end of the immediately preceding fiscal year, and zero in two or more of these at the end of the immediately preceding two fiscal years.
This applies to companies that are insolvent and not profitable, or companies with zero profit (deficit) and no dividends. Such companies may be rather numerous among small companies. The comparable industry method is a method to calculate the share price by comparing the company’s profits with those of listed companies. However, if the company has negative profits and insolvency, there are no profits to compare, so the comparable industry method cannot be used. Therefore, the net asset value method is used to calculate the share price for such a company. If the company is insolvent and has negative net assets, the share price will be zero yen.
- (5) Companies that have not yet opened for business, are closed, or are in the process of liquidation.
Since these companies have few assets and are not in business, it is not possible to calculate their stock price by comparing them to other companies based on the profits they generate as a going concern. Therefore, in the case of such companies, the share price is calculated based on the net asset value or the expected amount of liquidation distribution. For many companies, the share price will probably be zero yen.