A pragmatic approach
Every day, we observe situations where minority shareholders of private companies find themselves blocked: they want to sell their shares but, because there is no buyer, they cannot exit at a price they consider fair. Regularly, the feeling of being “stuck” becomes a resentment that gradually turns into a shareholder conflict. At that moment, the company will be caught in the crossfire and this conflict will inevitably harm the company.
To avoid such situations, we frequently propose to our clients to set up a micro liquidity mechanism. This mechanism should be compared to a kind of stock market, allowing the exchange of securities for short periods and under conditions determined in a similar way from year to year in order to ensure continuity over time.
The micro liquidity mechanism in practice
In concrete terms, we make a yearly valuation of the company once the accounts have been approved by the General Assembly. The value we determine, in discussion with the company and in full transparency with the shareholders, may serve as a basis for a transaction for a specified period of time, for example two months from the date of approval of the accounts. As a last resort, if no shareholder shows up to buy back the shares, the company may acquire the shares itself through a share buyback program. In this case, the purchase price will be subject to a (low) discount, in order to remunerate the company for the facilities it offers.
A micro liquidity mechanism should be compared to a kind of stock market, allowing the exchange of securities for short periods of time and under conditions determined in a similar way from year to year
Then, the company can decide what it wants to do with these shares: keep them, sell them to other shareholders, distribute them to management and/or staff or destroy them. For more information, read here our article about the ‘purchase of own shares’ technique.
When the company repurchases its own shares, the fraction of the other shareholders in the company’s capital increases. It is therefore also a good deal for the remaining shareholders, as the purchase price is discounted. This way, the other shareholders are reluted at good price for them.
Micro liquidity mechanisms are not suitable for all types of companies and certain conditions must be met.
A company cannot afford to buy back a significant fraction of its capital in a single year. The number of shares that may be repurchased each year must be limited (for example: 3 percent per year, up to a maximum total of 10 percent of own shares). If multiple shareholders show up and exceed the annual threshold, they may only sell their interests up to their respective fraction of the threshold.
Real estate companies are perfectly suited for a micro liquidity mechanism
In addition, setting up a micro liquidity mechanism requires the company to have excess liquidity, allowing it to buy back its shares without impacting its development.
Moreover, it is easier to set up such a mechanism in a company with significant and predictable cash flows. In this respect, real estate companies are perfectly suited for a micro liquidity mechanism.
We see that among our clients who have set up a micro liquidity mechanism, the shareholders are happier and less likely to want to leave. They measure value creation year after year and, paradoxically, the very idea of knowing that a way out exists is enough to convince them to stay aboard.
The repetition of valuation exercises also makes it possible to better understand the value creation of investments and, from a purely patrimonial point of view, allows a better allocation of resources.