England and Wales High Court (Commercial Court) Decisions

IN THE HIGH COURT OF JUSTICE
QUEEN'S BENCH DIVISION
COMMERCIAL COURT

		Royal Courts of Justice Rolls Building, Fetter Lane London EC4A iNL
		08/07/2015

Mr Colin Edelman QC :

Introduction

1. On 10 June 2013 I gave judgment in this action on the issues of liability pursuant to an Order of His Honour Judge Mackie QC (sitting as a Judge of the Commercial Court) dated 8 February 2012. The background to this action is set out in paragraphs 2-17 of my Judgment dated 10 June 2013 ("my first Judgment") and I will not repeat it in this Judgment. In my first Judgment, although I concluded that the letter from the First Defendant ("Mr Cayton") to the Claimant ("Mr Haylett") dated 29 November 2010 did not amount to a repudiatory breach of the "Fee Sharer Agreement" ("the FSA") dated 14 February 2005 made between Mr Haylett and the Defendants, I held that the FSA formed part of an overarching relationship between the parties in the nature of a joint venture/quasi-partnership. I held that this relationship was terminable at will and on termination would involve an orderly separation of the parties' respective interests. At paragraph 46 of my first Judgment, I stated that an orderly separation of the parties' respective interests "would involve Mr Cayton transferring his shares in Haylett & Associates Limited in return for the value of those shares and Mr Haylett being entitled to the value of his 50% interest in the profits of Cayton & Co as if it had been sold".
2. As a result of my first Judgment, the pleadings were amended to reflect the basis on which I had decided the liability issues. By the time of this commencement of the trial, it had been agreed between the parties that there was no value to be attributed to the shares in Haylett & Associates Limited. This is perhaps not surprising given that, as recorded in paragraph 38 of my first Judgment, the claims handling work was regarded as being the route to more lucrative legal work and the plan was that the parties should be prepared to do claims handling work at cost in order to source lucrative legal work. However, the value to be ascribed to Mr Haylett's 50% interest in the profits of the Second Defendant ("Cayton & Co") remained in issue and was the central issue at the trial before me. There were, in addition, issues as to the amounts due to Mr Haylett in respect of his pre-termination profit share under the FSA. I will deal with the latter issues after I have addressed the central issue of the value of Mr Haylett's 50% interest in the profits of Cayton & Co.

The Basis of Valuation

3. Mr Haylett's Amended Particulars of Claim pleaded the following case by way of amendment:

"15A The Claimant's alternative case is that, by November 2010 and on a true construction, the following were, amongst others, necessary implied terms of the Overarching JV Agreement: …

15.A.4 … on termination and within a reasonable time, the First Defendant would pay to the Claimant the value of the Claimant's 50% "stake" (interest) in the Second Defendant (alternatively the value of the Claimant's 50% interest in the "profits" of the Second Defendant as if it had been sold) (such values to be assessed on the basis of the whole of the Second Defendant being notionally sold between a fully informed willing seller and a fully informed willing buyer at arm's length as a going concern using an earnings basis with goodwill and prospects, or otherwise) …"

4. In the Re-Amended Defence and Counterclaim, it was pleaded in response as follows:

"24A.5 If, which is denied, the parties intended that upon an orderly separation of the joint venture the First Defendant would pay to the Claimant the value of the Claimant's 50% stake in the Second Defendant alternatively the value of the Claimant's 50% interest in the "profits" of the Second Defendant as if it had been sold, it is admitted that such values should be assessed on the basis of the whole of the Second Defendant being notionally sold between a fully informed willing seller and a fully informed willing buyer at arm's length as a going concern. It is admitted and averred that any fully informed willing buyer would value the Second Defendant using various methodologies including an earnings based valuation. A fully informed willing buyer might also value the Second Defendant by reference to the discounted cash flow basis being an estimate of the net present value of the future cash flows which a typical willing buyer would expect. Whichever methodology was adopted by the hypothetical willing buyer such valuations would have had to have been based on the added assumption that the First Defendant would be entitled to walk away from the Second Defendant and could not be locked in."

5. In the Re-Amended Reply and Defence to Counterclaim it was pleaded as follows:

"25B. In reply to paragraph 24A.5:

25B.1 the admission of the first sentence (made on the premises stated) is noted;

25B.2 the second sentence is admitted; the earnings valuation method is the most appropriate; a hypothetical willing buyer could include the First Defendant and that proprietorial interest would be worth more to him than to a third party;

25B.3 the third sentence is admitted but it is averred that the discounted cash flow valuation basis provides no advantage over the earnings valuation basis in the case of a professional services sector;

25B.4 the fourth sentence is denied."

6. At the commencement of the trial, the Defendants applied for permission to serve a Re-Re-Amended Defence and Counterclaim. The controversial aspect of that application was that it sought to raise a claim that Mr Cayton was entitled to an account as against Mr Haylett as if there had been a true partnership. Accompanying the application was a supplemental report from the Defendants' accountancy expert, Mr Chapman, approaching the matter as if Mr Haylett and Mr Cayton were partners and partnership accounts were to be taken.
7. In the course of argument, I pointed out that in my first Judgment I had held that as he was not a solicitor, Mr Haylett could not be a true partner in Cayton & Co but had to have his relationship with that firm on a basis which was permitted by the Solicitors' Practice Rules, that Mr Haylett and Mr Cayton were both aware of that restriction and that they had entered into the FSA accordingly. At paragraph 37 of my first Judgment I had stated as follows:

"… my conclusion is that both Mr Haylett and Mr Cayton agreed in principle to go into business together as partners … albeit recognising that Mr Haylett could not be a partner as such in the legal firm and that Mr Haylett's 50% interest in the legal firm would have to be provided by way of a fee sharing arrangement compatible with the Solicitors' Practice Rules."

It was on that basis that I referred in paragraph 46 of my first Judgment to an orderly separation of the parties' respective interests involving "Mr Haylett being entitled to the value of his 50% interest in the profits of Cayton & Co as if it had been sold", with the word "it" referring to Mr Haylett's 50% interest in the profits of Cayton & Co.

8. Having considered the matter further the Defendants accepted that their application to re-re-amend and to rely on the supplemental report of Mr Chapman on this aspect should be dismissed.
9. In light of the exchanges about the content of my first Judgment, the Defendants made a further application on the second day of the trial for an adjournment on the basis that Mr Chapman was now of the view that the basis upon which he and his opposite number, Mr Nunns, had approached the valuation, namely as set out in the pleadings, was incorrect. I refused that application for reasons which I gave at the time.
10. In light of my rulings, the alternative approaches to valuation were those identified in the pleadings, namely an earnings basis or a discounted cash flow basis. Although Mr Chapman had used as his primary approach a discounted cash flow basis and it was not suggested by Mr Evans-Tovey who appeared on behalf of the Claimant that Mr Chapman acted other than reasonably and appropriately in adopting that as his primary method of valuation, during the course of the trial the parties agreed that I should proceed on a "maintainable earnings" basis of valuation. That was a basis of valuation which both experts had addressed in their reports and in particular in their Joint Statement.
11. In relation to that method of valuation, Mr Flenley referred me to extracts from "Practical Share Valuation" (6^th Ed. Bloomsbury Professional) which I have found to be of assistance. I set out below the most material extracts:

"11.06 Calculating earnings

Maintainable earnings represent an estimate of the annual earnings of the business which are likely to be achievable on an ongoing basis. The estimate can be based on historical or forecast earnings, although any unusual or non-recurring income and expenditure should be eliminated from the estimate. When historical earnings are considered, if the business has experienced rapid growth or its earnings stream is maturing, the historical earnings can be weighted by placing greater emphasis on more recent results. …

Determining the appropriate measure of "earnings" for this purpose is key as explained below. …

The key driver in determining the appropriate measure of earnings for the purposes of valuation is to identify both the figure which is most likely to be stable in the business's profit or loss account, and also to adopt the measure which is most commonly used by the quoted comparable companies, as the overall valuation will rely on the data relating to these entities. …

11.07 Weighted average

… Where forecasting is unreliable or problematic, for example for cyclical businesses, a common method, which has little to recommend it except convenience, is to take the average earnings for the past 3 to 5 years (depending on the extent to which profits fluctuate) and to take the arithmetic mean of these figures. However, if there is a marked trend in the earnings, be it upwards or downwards, taking a simple average is not only incorrect as a basis of calculating potential earnings, but positively misleading. Unless there is evidence to suggest that the historical trend will not continue, it is necessary to extrapolate this pattern into the future, that is, if the trend is upwards, future earnings are likely to be higher than those of the current year. If the profits fluctuate wildly or go in cycles it may be sensible to average over a longer period. … One practice which tries to cater for this is by applying a 'sum of the years' digits' average to the earnings of the past 3 or 5 years.

… the valuer needs to be able to justify the rationale for selecting a particular averaging period and method of calculation as the differences which result can be material.

… The combination of the sum of the years' digits with inflation adjusted profits would give more weight to the recent profits and therefore take account of the profit trend to some extent.

11.08 Determining an appropriate multiple

The choice of an appropriate earnings multiple reflects, inter alia, expectations about the prospects for growth of the business; a higher multiple generally reflects higher growth and/or lower risk expectations (and vice versa)."

12. It was agreed between the experts that once I had arrived at the appropriate valuation figure having assessed the multiplicand and the multiplier, there should be deducted from the total, in order to give the net valuation figure, an amount in respect of "net debt". In Mr Nunns' first expert report, he had identified a figure of £100,455 in respect of debt finance in the form of bank loans to be deducted. In Mr Chapman's first report, he had identified a figure of £103,000 or £104,000 to be deducted (the different figures are likely to be attributable to different rounding approaches although £103,000 is the figure that he used for the summary in the relevant section of his report). Although they came to slightly different figures for net debt, as far as I can ascertain Mr Nunns and Mr Chapman appear to have been adopting a similar approach to the calculation of net debt for the purposes of their respective reports. However, during the course of the trial Mr Flenley QC, who appeared together with Mr Bacon for the Defendant, sought to assert that further sums ought to be added to net debt based on further work done by Mr Chapman in light of his reassessment of the approach to valuation which had led to the two unsuccessful applications in the early stages of the trial to which I have referred. This further aspect had not been the subject of exchanged reports between the experts and I permitted Mr Flenley to explore the issue in evidence expressly on the basis that there would have to be an assessment of whether he should be permitted to raise these further points at the end of the evidence. If it had turned out that the experts had agreed that they had erroneously overlooked an item, I would have allowed the overlooked item to have been included in the net debt calculation. However, it transpired that the additional issues raised in relation to net debt were both complex and controversial between the experts. In those circumstances I do not consider it to be permissible for the Defendants to resile from the way in which the experts had approached the net debt issue prior to the trial and I intend to disregard the evidence that Mr Flenley sought to extract aimed at resiling from that approach.

The Evidence

13. There had, of course, been evidence before me at the first trial but further witness statements were served for the purposes of this trial and the following witnesses were called before me to give evidence:

(1) Mr Haylett:

His evidence was contained in three witness statements, two of which had been for the purposes of the first trial and the third of which was for the purposes of this trial. His third witness statement dealt with issues relating to his profit share prior to termination but also addressed valuation issues. As the calculation of the multiplicand involves an assessment of the likely expenses of Cayton & Co going forward, some analysis of the expenditure that had historically been incurred was necessary and Mr Haylett was cross-examined about that based on his evidence in his earlier witness statements. However, the most important part of his evidence for the purposes of this trial was the evidence he gave in his witness statements and when cross-examined as to the state of Cayton & Co's practice and as to the prospects of Cayton & Co at the time of the termination.

(2) David Seymour:

He is a chartered accountant who prepared year end accounts for Haylett & Associates Limited and Cayton & Co between 2005 and 2010. He had given evidence at the first trial but his evidence for this trial was in order to address the circumstances in which a budget prepared in December 2010/January 2011 for the purposes of obtaining bank overdraft facilities for Cayton & Co had been prepared. In particular, his evidence was that the starting point for the various drafts of the budget was the net profit figure which Mr Cayton supplied and that one consideration was that the budget might be seen by Mr Cayton's ex-wife, with whom he was engaged in divorce proceedings in relation to the financial settlement between them. This evidence was relevant because Mr Chapman had relied on the final form of the budget for the purposes of his valuation calculations.

(3) Mr Cayton:

He had provided two witness statements for the purposes of the first trial and gave evidence. He provided two further witness statements, one of which was provided very shortly before the trial but only dealt with specific issues on Cayton & Co's costs which had arisen out of the expert evidence. His main statement for the purposes of this hearing addressed the state of Cayton & Co's practice and its prospects at the time of termination as well as its financial position and also addressed the circumstances in which the budget to which I have referred was prepared. The statement further dealt with issues relating to Mr Haylett's profit share.

(4) Paul Lawrence:

He is the managing director of Indemnity Risk Solutions ("IRS"), which carries on business as an underwriting agency underwriting solicitors' professional indemnity business on behalf of insurers. In August 2010, IRS agreed a new facility with Alpha Insurance A/S ("Alpha") for 2010/11. IRS was to handle claims, including appointing panel solicitors for legal work, arising from business underwritten on behalf of Alpha. Alpha was an unrated Danish insurer entering the UK solicitors' market for the first time. Mr Lawrence's evidence dealt with his relationship with Cayton & Co and his plans for the development of IRS's business. The extent to which Cayton & Co would receive and continue in the future to receive work from IRS is an important consideration in the valuation exercise.

14. As I have already stated, there was expert accountancy evidence from both parties. Mr Nunns and Mr Chapman produced expert reports and then prepared an immensely helpful Joint Statement. Taking into account the agreement between the parties as to the adoption of the maintainable earnings basis of valuation, the main issues between the experts revealed by the Joint Statement were in relation to the following matters:

(i) Mr Cayton's future participation in Cayton & Co and whether allowance in the valuation should be made for the prospect of Mr Cayton leaving the firm and if so what allowance should be made;

(ii) Whether Mr Nunns' approach of applying a historical trend in the turnover growth achieved by Cayton & Co prior to the year ended 28 February 2010 to the actual fees recorded for the year ended 28 February 2011 was the appropriate valuation model to apply;

(iii) Whether Mr Chapman's approach of applying weighting factors to the financial results, giving the most recent financial results, the highest weighting, was an appropriate approach to valuation;

(iv) Whether, if Mr Chapman's approach was to be adopted, it was appropriate to include the budget in the weighting exercise;

(v) The appropriate amounts in respect of expenditure that should be deducted from the appropriate turnover figure as assessed.

On the question of the appropriate multiplier to be applied to the resulting multiplicand, they agreed that it fell in the range of 3.0 to 4.5.

Mr Cayton's Attitude to a Sale

15. In his third witness statement, under the heading "What I would have done in the event of the sale of Caytons?", Mr Cayton stated that he would only have considered becoming a "willing seller" if he was offered an equity partnership in the purchaser firm as part of the transaction and he would not even have done that unless he had no other choice. He stated that the only transaction that he would have been vaguely interested in would be one whereby there was an equalisation of capital with the purchaser. He also stated that if he was forced to sell the firm he would set up his own practice the following day and would expect clients of Cayton & Co to follow him to his new firm. He would not have been willing to agree a non-competition clause because it would have destroyed his livelihood. He also rejected the possibility of his paying a premium for his share in Cayton & Co. Mr Evans-Tovey did not mount a challenge to this evidence.
16. On that basis, it was submitted on behalf of the Defendants that I should value Cayton & Co on the basis that it would not have the benefit of any covenant from Mr Cayton agreeing not to compete with the business of Cayton & Co or on the basis of any restriction on Mr Cayton leaving after the hypothetical sale on the date of termination, namely 28 February 2011. This provided the foundation for the Defendants to submit that in such circumstances a sale would not have gone ahead and in essence the value of Mr Haylett's share in the profits of Cayton & Co was nil.
17. This issue arises because of the way in which the parties have agreed to approach the valuation of Mr Haylett's interest in the profits of Cayton & Co and the assumptions that the experts say should apply to such a method of valuation. However, what must not be overlooked is that the agreed method of valuation has been selected as merely being an appropriate way in which to derive a value for Mr Haylett's interest in the profits of Cayton & Co. The object of the exercise in which I am engaged is not the valuation of the firm as such. Therefore, when considering the relevance of this aspect of the case I have to bear in mind what I have decided in my first Judgment. At paragraph 48 of my first Judgment I stated as follows:

"… it does not seem to me that it could have been intended by the parties that Mr Cayton would have to sell or dissolve Cayton & Co if he was to extricate himself from his relationship with Mr Haylett. … It would make no sense for it to be a pre-condition that Mr Cayton should have to destroy or sell his firm in order to extricate himself from his relationship with Mr Haylett."

That was the context in which I stated that there is "no reason why on a termination of the joint venture there could not be an orderly separation of the parties' respective interests" involving "Mr Haylett being entitled to the value of his 50% interest in the profits of Cayton & Co as if it had been sold" (emphasis added). The exercise with which I am concerned is therefore the valuation of a profit share on the hypothesis that Mr Cayton is paying a fair value for Mr Haylett's interest in the profits of Cayton & Co and is continuing in practice as Cayton & Co with the benefit for himself of what would have been Mr Haylett's 50% share in the profits.

18. In order to arrive at what would be a "fair" value, it is necessary to make some assessment as to what a willing purchaser would have paid for the profit share. However, the premise of this exercise is that Mr Cayton has achieved what he wanted by the service of notice of termination, namely that he has terminated his relationship with Mr Haylett and has regained for himself Mr Haylett's interest in the profits. It seems to me to be inconsistent with the premise on which I am proceeding for me to introduce hypotheses such as issues about restrictive covenants or Mr Cayton's reaction to a sale of the practice in circumstances where the concept of a sale is a purely notional one agreed between the parties for valuation purposes.
19. I therefore reject the contention by the Defendants that Mr Haylett's share must necessarily have a nil value because of the evidence of Mr Cayton to which I have referred. I do not doubt the genuineness of that evidence and, as I have said, it was not challenged but I do not regard it as being relevant to the exercise which I have to carry out. Having said that, it does not mean that I have to assume that Mr Cayton would necessarily have stayed with the firm and continued to work for the foreseeable future. When assessing the valuation figure I have to take into account that from a notional purchaser's perspective, the flow of future profits might be affected by, for example, the state of Mr Cayton's health or his retirement or his being enticed to join some other firm. Given Mr Cayton's standing in the professional indemnity field and his evidence, which I accept, as to his previous practising history and as to the previous offers that had been made to him, his being enticed to join another firm cannot be discounted. Furthermore, given the premise of my valuation, it does not seem to me to be appropriate to assume that there would be any restriction on his leaving to join another firm. However, for the reasons I have given, I am not prepared to apply slavishly the criteria for valuing a business to the very particular exercise that I am carrying out. That is not to say that I do not intend to apply the valuation basis which the parties have adopted but that valuation basis must be applied for the purposes of and to the facts of this case. It is the purposes and facts of this case that determine the factors that are relevant to the valuation.

Cayton & Co as at 28 February 2011

20. A critical element in the valuation exercise is what a prospective purchaser would have made of Cayton & Co's prospects as at the valuation date of 28 February 2011. For the purposes of this exercise, it is necessary for me to put out of my mind what actually happened to Cayton & Co in the subsequent years. The fees figures which the parties agreed as being the figures that would be available to a prospective purchaser by reference to Cayton & Co's year end at 28 February were as follows:

2007 2008 2009 2010 2011

£402,973 £613,824 £1,131,121 £1,845,946 £789,835

21. Based on these figures, Mr Nunns' approach generated a projected fees figure for 2012 for the purposes of the calculation of the multiplicand of £1,311,000 (a 66% increase on the 2011 figure) whereas Mr Chapman's approach generated a fees figure of £1,075,550, a 36% increase on the 2011 figure. The final form of the budget contained a projected fees figure of £912,000.
22. It is self-evident from the pattern of fees figures between 2007 and 2011 that there was a very significant drop in fees in 2011 and an understanding of why that reduction in fees occurred and what the prospects were for a recovery in fees is critical to the valuation exercise.
23. The first factor on which reliance was placed by Mr Flenley in his submissions was that the figures for 2009 and 2010 were distorted by two very large cases. These two cases were described by Mr Cayton in his witness statements and in his oral evidence. These two large cases came from Mr Cayton's connections with underwriters at Abacus (which subsequently became AG Doré) and Canopius. Through Abacus/AG Doré, Cayton & Co was instructed to act for the insurers of a valuer's insurance brokers who had placed insurance for the valuer. The case concerned whether an excess layer of professional indemnity insurance for commercial property management included valuation services and, if not, whether it could be rectified to do so. The evidence before me was that the excess layer insurers included some who had previously been a source of work for Cayton & Co and who did not take kindly to Mr. Cayton acting against them. Through Canopius, Cayton & Co were instructed to act for a contractor in a multi-party construction industry case. I accept Mr Cayton's evidence in relation to the importance of the fees generated by those two cases to the fees figures that were achieved in 2009 and 2010, which evidence is supported by the contemporary Management Reports for Cayton & Co. It was estimated that these two cases accounted for fees of about £400,000 in 2008/09 and about £975,000 in 2009/10.
24. Mr Nunns' approach in evidence was to say that in such a professional practice big cases will be expected to come along and that accordingly the mere fact that the figures for 2009 and 2010 had been affected by two large cases did not detract from the relevance of those years' fees figures. However, Mr Cayton's evidence was that the sources of work which might have generated further large cases had dried up. In his evidence he identified various insurers from whom Cayton & Co had received instruction who, for a variety reasons, not connected with any issue over the quality of work being done by Cayton & Co, were no longer a source of work. In particular, Mr Cayton and Mr Haylett had been specialists in professional indemnity work in the construction industry sphere and, according to Mr Cayton, the major sources of this work had dried up. Again, I accept this evidence which reflects the vagaries of insurance-backed litigation from the perspective of a solicitor. Sources of work can come and go for reasons beyond a solicitor's control and I accept that what Cayton & Co experienced was a loss of a number of important previous sources of work. Although Mr Haylett's evidence did not, on my assessment of it, differ materially from that of Mr. Cayton in this regard, insofar as there was any difference between them on matters of substance or emphasis, I prefer the evidence of Mr. Cayton. I do so not because I regard the evidence of Mr. Haylett as being unreliable but because I consider that Mr. Cayton, as the person who was the closest to what was going on in the firm, to be the more reliable source. I am satisfied that Mr. Cayton was not seeking to exaggerate the difficulties faced by the firm in order to minimize Mr. Haylett's claim.
25. One would ordinarily expect a solicitor faced with the loss of sources of work to actively engage in pursuing other sources of work but I accept Mr Cayton's explanation that the two major cases in which he was involved were so time-consuming that marketing efforts had fallen by the wayside. As the context of the valuation is that Mr Cayton was now available to resume his marketing activities, a prospective purchaser would anticipate that there would need to be some heavy expenditure on marketing but would expect there to be some material improvement on the 2011 figures. The extent of that improvement was going to depend on the success of those marketing efforts and on the development of what existing sources of work Cayton & Co still had.
26. The most important extant source of work as at 28 February 2011 was for IRS underwriting for Alpha. IRS was underwriting professional indemnity risks for smaller firms of solicitors. This was not Mr Cayton's particular area of expertise but it was something which his (fixed share) partner, Mr Leathley, was experienced in and having previously worked with Mr Lawrence, Mr Leathley was an individual known and respected by Mr Lawrence. Mr Cayton also knew Mr Lawrence.
27. Whilst Mr Cayton was hoping for a steady stream of work from this source he had a number of concerns as to the fee income that would be generated by it both in the short term and in the long term. These concerns were as follows:

(1) Mr Lawrence had previously worked for PI Direct Limited (which became Martello Professional Risks Limited) which had adopted the practice of having employed solicitors doing legal work in-house and this appeared to be the ambition at IRS on the part both of Mr Lawrence and his senior colleague Malcolm Gordon, who was a lawyer and was looking to start doing legal work himself.

(2) IRS had only started underwriting for Alpha for the 2010/11 policy year, Alpha was the third insurer for which IRS had underwritten in a period of four years and there could be no confidence that Alpha would continue underwriting business either at all or through IRS in 2011/12 or thereafter. A number of insurers had entered and left the solicitors' professional indemnity market but even if Alpha continued to underwrite business it might or might not continue to use the services of IRS.

(3) IRS might appoint additional or alternative panel firms and it had already appointed one additional panel firm.

(4) The sort of cases that were generated by this source of work tended to be small claims against small practices on which it was difficult to earn significant fees. There was not the prospect of large cases such as arose in the construction field.

28. I accept the evidence of Mr Cayton on these aspects, supported as it is by the evidence of Mr Lawrence. An attempt was made in cross-examination of Mr Cayton and Mr Lawrence to suggest that the use by IRS of the Cayton & Co claims system would prevent IRS from moving away from using Cayton & Co. I accept that this might have operated as an incentive for IRS to stick with Cayton & Co but on the evidence before me, I do not consider that a prospective purchaser would have regarded it as providing any additional confidence as to the future flow of work from IRS.
29. Mr Cayton described Cayton & Co as being in an "parlous financial position" in February 2011 on the basis that, other than IRS, there was no flow of new work and in addition there was a cash flow issue which meant that he had to seek a significant amount of additional bank lending in order to be able to pay his own tax bill, having used the funds that he had intended to use for his tax bill in order to pay staff salaries and other costs in early 2011.

The Approach to Fees Projection

30. It is in these circumstances that I have to assess whether I prefer Mr Nunns' approach to fees projection or Mr Chapman's approach. Mr Nunns' approach was to seek to establish a trend in annual fees of Cayton & Co based on historic results. He took the view that the decline in annual fees shown for the year ended 28 February 2011 could be considered as being exceptional and that overall the summary of annual fees of Cayton & Co showed consistent and strong growth. He concluded that the established trend of strong growth indicated that annual fees growth of over 50% was regularly achieved by Cayton & Co and calculated the compound average growth in fees during the period from the year ended 28 February 2007 to the year ended 28 February 2010 as being over 66%. On that basis, he concluded that it was reasonable to assume that fees for the year ended 29 February 2012 could be expected to grow at a rate consistent with that achieved in the period from 2007 to 2010, namely by 66% over and above the figure for 2011, giving a projected fees figure of £1,311,000.
31. Mr Chapman's approach, however, was to adopt a "weighted average" approach whereby he gave the greatest weighting to the most recent figures and a declining weighting to earlier figures. He treated the budget as being the most recent and important financial information and I will address that aspect later in this Judgment but taking into account the figures in the budget, Mr Chapman arrived at a projection of fees of £1,075,550, an increase of 36% over the figure for 2011.
32. The primary question I have to ask at this stage is whether, in principle, Mr Chapman's approach is to be preferred to that of Mr Nunns. On the facts of this case as I have found them to be, I do not consider that a reasonable purchaser would adopt Mr Nunns' approach. It would give too much weight and credence for the purposes of future projection to 2009 and 2010 given the factors that affected those years' results and the sources of work that Cayton & Co still had in February 2011. By contrast, Mr Chapman's approach of giving a greater weighting to the most recent results seems to me to fit in with what was happening at Cayton & Co in the period immediately prior to the valuation, whilst also building into the valuation an allowance for the prospect of recovery based on Cayton & Co's past ability to generate high fees figures.
33. In fairness to Mr. Nunns, he had not been provided with Mr. Cayton's third witness statement or with relevant extracts from Mr. Cayton's evidence at the first trial which set out the issues facing the firm as at the valuation date to which I have referred above and he appeared to accept that a reasonable purchaser would have had to have made further enquiries through a specialist adviser into the state of and prospects for Cayton & Co's practice before adopting his approach to valuation. Mr Nunns attempted to support his approach to valuation by reference to the fact that Cayton & Co had retained staff and was recruiting a claims handler. He suggested that this was an indication of the confidence that there must have been in a restoration of the prior turnover. I do not accept that rationale. To the extent that Mr Cayton did retain staff, that is in my view explicable on the basis that Mr Cayton was trying to retain an already small firm as a functioning unit. As for the recruitment of a claims handler, Mr Cundall, I regard this as also being no more than an attempt by Mr Cayton to replace the claims handling facilities that Mr Haylett and HAL had provided so as to enable Cayton & Co to offer its services on the basis that it had done so before. The retention of staff and the recruitment of Mr Cundall cannot be seen as being anything more than a "survival plan" and does not support the adoption of Mr Nunns' valuation approach.
34. I therefore intend to adopt Mr Chapman's weighted average approach to the projection of fees for the purposes of this valuation exercise.

The Budget

35. On this topic I had evidence from Mr Seymour and Mr Cayton. It was common ground between the witnesses that the starting point for the budget was Mr Cayton's estimate of what his profit would be for the coming year to 28 February 2012 and that thereafter he and Mr Seymour worked on the budget figures in order to present something to the banks for the purposes of obtaining bank finance. It was Mr Haylett's case that this budget understated what Mr Cayton really expected the practice to achieve because he was concerned about the effect of any higher figures on his matrimonial finance dispute with his ex-wife. This was said to undermine Mr Chapman's reliance on the budget as being a reliable contemporaneous record of the management's assessment of the future prospects of the business.
36. I do not consider that Mr Cayton was deliberately understating his anticipated profit for some ulterior purpose in relation to the matrimonial proceedings. On the contrary, I consider that the starting point he adopted was a figure which he considered to be a reasonably appropriate starting point. However, firstly I have to bear in mind that he would in all likelihood have been in a frame of mind which would have caused him to err on the side of caution; secondly, and more fundamentally, in circumstances where the valuation exercise involves making a projection as to what would have happened in 2011/12, it seems to me that using the budget as a weighted piece of evidence has the flaw of using a projection to work out a projection. It might make sense to use a contemporary projection if that contemporary projection was based on a number of objective factors which made it possible to vouch for the numbers projected but the budget merely represented figures rationalised on the basis of a subjective estimate of the next year's profit made by Mr Cayton. As I have said, I do not doubt that Mr Cayton believed the budget and the profit figure on which it was based to be reasonable but that does not render the budget an appropriate tool for the purposes of projection. It may have some value in providing a potential cross-check against the projection resulting from the valuation method but for the purposes of the valuation exercise which I am undertaking I consider it appropriate to exclude the budget from the weighted average calculation.

Weighted Average Calculation

37. If one extracts the budget from Mr Chapman's valuation approach, the next question is whether one only takes a weighted average of four years (2008-2011) or whether one includes the year ended 28 February 2007 so as to have five years. The argument against the use of 2007 is that it was a too early in the history of Cayton & Co, which only started in early 2005, and so would not be representative of the true performance of the practice. If one takes four years back from 2011 the weighted average figure for fees is £1,157,324 whereas if one includes 2007 in the weighting the figure is £1,090,463. Although the example given in paragraph 11.07 of Practical Share Valuation identifies a five year weighting, the paragraph refers to a range of three to five years. In the circumstances, it seems to me to be appropriate to exclude 2007 from the weighting exercise by reason of the immaturity of that year and so I proceed on the premise that the relevant years for weighting are 2008-2011, without the budget.
38. Once the weighted average approach is being adopted, it becomes necessary to derive an order of weighting. Paragraph 11.07 of Practical Share Valuation gives an example of weighting with the highest weighting for the most recent results and the lowest results for the oldest results but the order of weighting can be adjusted to suit the circumstances of the case. In the particular circumstance of this case, I consider that giving the highest weighting for the most recent results and the lowest results for the oldest results, which was in principle the approach adopted by Mr Chapman, is the most appropriate weighting order.
39. Mr Flenley did suggest that because of the weighting this approach gives to 2009 and 2010, the exercise could have been carried out on the basis of stripping out the contribution to fees made by the two exceptional cases but primarily he did so in order to demonstrate that Mr Chapman's approach was, if anything, favourable to Mr Haylett. In any event although the contribution made by those two cases to the profit figures is relevant in general terms to the future prospects of the business, it would be an artificial and impossible exercise for me to try to hypothesise what the fees figures would have been had Cayton & Co not been engaged in these two big cases. No doubt Mr Cayton would then have had both the time and the inclination to seek out alternative work and the firm would have been doing other remunerative work and generated new work for 2011. Furthermore, by giving the highest weighting to 2011, there is a counterbalance to the use of the full 2009 and 2010 fees figures. However, I do have to bear in mind that if a reasonable buyer was to be performing calculations along the lines suggested by Mr Chapman, in deciding what amount actually to pay the impact on the projected fees figure of the fee income from the two large cases would have to be borne in mind.
40. For the reasons set out above, I intend to use a weighted average fees figure of £1,157,324, which is just over £75,000 higher than Mr Chapman's assessment including the budget. I regard this as a realistic figure for fees given that legal work from the IRS/Alpha scheme could be expected to come in during 2011/12. This is higher than the budget figure of £912,000 but not so much higher as to cause me to have material doubt about using it.

Costs

41. The experts approached the assessment of the costs of Cayton & Co for the purposes of this exercise in a very different way but after adjusting Mr Chapman's figures to reflect the weighted average approach the overall difference between them was not significant. Mr Nunns' total came to £959,760 and Mr Chapman's adjusted total came to £1,030,377 a difference of just over £70,000. It is almost impossible to conduct a comparison of many of the figures because Mr Nunns was attempting to assess what the actual costs would be whereas Mr Chapman was applying a weighted average for the assessment of many of the costs whilst relying on instructions or information from Mr Cayton for other elements in the costs. The artificiality of Mr Chapman's approach was illustrated by the fact that for Mr Leathley's salary a figure of £95,000 was entered whereas Mr Leathley's actual salary was £125,000.
42. It does not seem to me that a hypothetical purchaser would insist that if a weighted average approach was applied for the purposes of a fees projection, the same approach should be adopted in relation to costs. On the contrary, I consider that in the context of the historical cost information that was available, a hypothetical purchaser would regard Mr Nunns' approach of assessing what the actual costs would be as being the more helpful and meaningful way of assessing the likely net profit. That means that in principle I intend to adopt Mr Nunns' costs figures. However, there were four major issues on his costs figures. Firstly, whilst both experts agreed that the costs calculation should make allowance for a salary for Mr Cayton or a replacement for Mr Cayton, Mr Nunns allowed £205,000 whilst Mr Chapman allowed £225,000 as an assessed (rather than weighted average) figure. Secondly, there was a difference of about £60,000 on Mr Chapman's original calculation including the budget in relation to wages and salaries, which turned on the inclusion by Mr Nunns of a lower figure for Mr Cundall's salary than had been included by Mr Chapman. Thirdly, Mr Nunns had only allowed £5,000 in respect of "Trade Subscriptions" based on the figure for 2011 whereas Mr Chapman's weighted average figure based on the historic costs incurred in 2008-2010 was some £10,000 higher. Fourthly, Mr Nunns allowed £36,000 in respect of client entertaining whereas Mr Chapman allowed £55,000 on the basis that Mr Cayton had assessed that sum as being the amount to be included.
43. In relation to the salary for Mr Cayton or his replacement, the experts sought to justify their respective figures by reference to market surveys of earnings. Mr Chapman's approach was criticised as including information from 2012, after the valuation date. However, Mr Flenley submitted that on the basis of the survey information, my assessment should be of the appropriate salary for someone like Mr Cayton who was the driving force behind the firm and a major figure in a rather small market. Mr Flenley also submitted that if one was looking at a replacement for Mr Cayton, one would have to bear in mind the calibre of person that would be necessary in order to turn around the fortunes of the firm and with the sort of contacts that Mr Cayton had, which made it likely that one would be seeking to recruit a candidate from a large and well-established firm who might have to be enticed with an attractive salary to work for the firm. Mr Evans-Tovey sought to the justify Mr. Nunns' figure by reference to the market survey figures for what he submitted were to be taken as equivalent firms. Having considered the evidence on this topic Mr Chapman's assessed figure of £225,000 seems to me to be more realistic than that of Mr Nunns for the reasons given by Mr Flenley.
44. In relation to the issue as to employment costs, it transpired that Mr Nunns had had to make an assessment of the costs for the non-legal claims handling function, which assessment was overtaken by the late service of Mr Cayton's fourth witness statement. Mr Cayton's evidence was that Mr Cundall had agreed to accept employment at Caytons at a salary of £68,000 per annum plus discretionary bonus. However, Mr Cayton contended that in order to replace Mr Haylett with someone of the same expertise he would have had to pay at least £150,000 per annum. On that basis, albeit coincidentally, it was submitted by Mr Evans-Tovey that Mr Nunns had made a correct allowance within his employment costs of about £95,000 for the claims handling function because that would cover Mr Cundall's actual salary as revealed in Mr Cayton's fourth witness statement and an allowance for one administrative employee. A higher figure was asserted as being applicable by Mr Chapman by reference to the notional cost of replacing Mr Haylett. I do not consider that the notional cost of Mr Haylett is an appropriate figure to take. Part of my rationale for adopting Mr Chapman's valuation approach as regards projected fee income is that it seems to me to reflect more reliably where the practice was in February 2011 and of course by then Mr Cayton had seen fit to sever his relationship with Mr Haylett. Mr Cayton's evidence was that he had agreed a contract with Mr Cundall on 14 March 2011 and had started talking to him "shortly before that". I conclude that a prospective purchaser would have ascertained from Mr Cayton the sort of person that Mr Cayton was lining up and would have budgeted accordingly. On that basis, I am not prepared to adjust Mr Nunns' employment cost figure.
45. For Trade Subscriptions, Mr Nunns allows £5,000 by reference to the figure of £4,144 for 2011. However, the figures for 2008-10 had been £14,734, £18,133 and £20,240 respectively. I do not consider that a prospective purchaser would regard the figure of £4,144 as representing a permanent "step change" in the level of expenditure on Trade Subscriptions, particularly having regard to the performance of the firm in 2011 and on the premise of a projected significant increase in fee income and in the context of previous expenditure, I consider that a reasonable purchaser would allow a figure of about £15,000 for Trade Subscriptions going forward.
46. As regards client entertainment, a major part of this cost had historically been borne by HAL. Mr Chapman included a figure of £55,000 on Mr Cayton's instructions as to the level of entertaining he intended to carry out. These instructions may have been influenced by the fact that in 2012/13 the entertainment expenses were in fact £52,888. Mr Nunns' figure of £36,000 was based on the 2011 figures for client entertainment. Given the circumstances in which Cayton & Co found itself as at 28 February 2011, I consider that a reasonable purchaser would have assumed that there would have to be an increase in expenditure on client entertainment and would have included an allowance of £50,000.
47. I should add that there was an issue as to the adequacy of Mr. Nunns' allowance for accountancy and book keeping but I am not persuaded that the sum allowed, £17,200, is insufficient for that head of expenditure.
48. Adjusting Mr Nunns' cost analysis for those increases gives a figure of £1,003,760.

Multiplicand

49. Given the above figures, I consider that a reasonable purchaser would round the figures to assume maintainable fee income of £1.15m with annual costs of £1m, giving maintainable earnings of £150,000. As the object of this exercise is to find a figure for earnings which is "maintainable", in the sense of being repeated or stable, that figure strikes me as being appropriate in the circumstances of this case given the evidence that I have heard and accepted.

Multiplier

50. Although the experts had agreed a range of 3 - 4.5, in their reports Mr. Nunns' had put the range at 3.5 - 4.5 and Mr. Chapman had put the range at 3 – 4. Mr Evans-Tovey submitted that the multiplier should be in the range of 3.75 to 4.5 whereas Mr Flenley, having put 3.75 to Mr Nunns as a reasonable figure, submitted that the multiplier should be closer to 3 than 3.75, as he remained entitled to do. Mr Flenley submitted that Cayton & Co was a far riskier proposition than some of the comparables that were available, being smaller and much more dependent on Mr Cayton, as Mr Nunns had recognised.
51. Having considered the evidence that is available as to the level of multipliers and the comments of the experts, I consider that the appropriate multiplier in this case is 3.5.

Valuation Result

52. Multiplying £150,000 by 3.5 gives a total of £525,000. From this figure falls to be deducted net debt, in respect of which I proceed on the basis of Mr Nunns' figure of £100,455, which gives a figure of £424,545. I then have to step back from this arithmetical calculation and reach a decision as to what a reasonable purchaser would have paid for Mr Haylett's 50% share in the profits. That takes into account the fact that the reasonable purchaser would regard the calculation to which I have carried out in this Judgment as being a guide to what he/she should pay rather than a formulaic price calculation. In all these circumstances, based on the calculations set out in this Judgment, I consider that a fair value for Mr Haylett's 50% interest in the profits of Cayton & Co is £200,000.
53. This is a figure which not only makes sense in the context of the valuation exercise of a 100% interest which I have carried out but also seems to me to reflect the reality of the situation as it was in February 2011. I consider that a reasonable purchaser would have been willing to gamble on the future of Cayton & Co. In particular, a reasonable purchaser would have been willing to gamble on finance being raised to address the immediate cash flow issues, on the work sourced through IRS keeping the firm going and on the enhanced marketing activities generating some additional work to supplement or, if the IRS work declined, to replace the IRS work. However, given the situation in which Cayton & Co found itself at that time as described by Mr Cayton, I do not consider that a reasonable purchaser would have been willing to gamble more than £200,000 on the future prospects of the firm. In reaching that decision, a reasonable purchaser would also have taken into account the risks of Mr Cayton suffering from ill-health, retiring or being enticed to join another firm and the effect that might have on the firm. Nor do I consider that in the circumstances a willing seller could reasonably have expected to receive more than £200,000. Given that a reasonable purchaser would not in my view have been willing to pay more than £200,000 for Mr Haylett's 50% interest, I do not consider that Mr Cayton ought to be obliged to pay any more than that by way of payment for Mr Haylett's interest upon the termination of their relationship.
54. I appreciate that as events turned out, the purchaser's gamble on the future of Cayton & Co would have achieved an excellent return but it is in the nature of a gamble that sometimes the gambler wins and sometimes the gambler loses. The fact that we now know that a notional purchaser would have "won" if he/she had purchased Mr Haylett's interest does not provide any proper indication as to the "stake" that the purchaser would have been prepared to pay and Mr Cayton would, objectively, have to have accepted. That "stake" necessarily had to take into account the risk of the business failing. £200,000 was a reasonable stake. It is consistent with the valuation exercise that I have conducted and I cannot imagine a prospective purchaser being willing to part with more cash given the state of Cayton & Co's practice as at 28 February 2011.

Profit Share

55. By the end of the trial there were two remaining issues as to the amount due to Mr Haylett in respect of his profit share. The first relates to a charge for computer equipment which Mr Haylett took with him following the termination of the relationship and in which it is said that Cayton & Co had a half interest. The sum in issue is £5,211.50. The second is as to whether there should be a notional VAT credit note issued by Mr Haylett in respect of the PAYE/NI accrual for Mrs Haylett.
56. As regards the computer equipment, there was no evidence before me to enable me to reach a conclusion that the computer equipment removed by Mr Haylett was equipment which had been purchased by Cayton & Co. Furthermore, on 18 January 2011 Mr Haylett sent an email to Mr Cayton which included the following passages:

"… With regard to Printers, PCs and other equipment etc, over the years these have been bought and used and replaced and facilities mutually reciprocated on an ad hoc basis as needed for the collective good, so it is not determinative to assess whether Cayton & Co or Haylett & Associates actually paid for a particular piece of equipment. A practical approach is required.

… My suggestion on all equipment is a natural separation with Hayletts simply taking the equipment its staff are using. …"

Mr Cayton replied to that email on the same day in the following terms:

"… I am happy with a practical approach. I am also happy for Hayletts's to take the equipment its staff is using and one of the printers. …"

57. The fact that Mr Cayton was happy for there to be a practical separation does not of itself mean that Mr Haylett does not have to give credit for the value of the computer equipment taken but at the time Mr Cayton did not appear to be disputing what Mr Haylett had said about the inappropriateness of ascertaining who had paid for what and about appropriateness of the separation of the computer equipment on the basis that Mr Haylett took the equipment that HAL had been using and Cayton & Co kept the computer equipment it had been using. In the circumstances, there is no evidential basis on which I can conclude that Mr Haylett took equipment for which he should have to give credit against his profit share. I would also add that even if I had been satisfied that Mr Haylett ought to give credit against his profit share for computer equipment taken, I do not consider that what Mr Cayton asserts was the replacement cost of the computer equipment is necessarily an appropriate measure of the credit that must be given. In any event, however, I do not consider that it is appropriate to deduct any sum from Mr Haylett's profit share in respect of computer equipment.
58. As regards the VAT adjustment, the experts agreed that if the situation in relation to the PAYE/NI accrual for Mrs Haylett was as it is now agreed to be, a credit note in favour of Cayton & Co in the sum of £4,345 would fall to be issued by Mr Haylett. The rationale for this figure is explained in the Defendants' Note on Supplemental Matters. I accept the Defendants' submissions in this regard and conclude that a credit note in favour of Cayton & Co in the sum of £4,345 falls to be issued by Mr Haylett which can be set against Mr Haylett's profit share and that the amount of the credit note does not fall to be reduced by reference to my decision in relation to computer equipment.

Conclusion

59. In the circumstances I conclude that the value of Mr Haylett's 50% interest in the profits of Cayton & Co as at 28 February 2011 was £200,000 and that as regards the two disputed deductions from the outstanding balance in respect of Mr Haylett's profit share, the sum of £5,211.50 in respect of computer equipment does not fall to be deducted but the sum of £4,345 in respect of VAT on the PAYE/NI accrual for Mrs Haylett does fall to be deducted.
60. An Order giving effect to my conclusions should be drawn up by Counsel.