# COMMISSIONER OF WEALTH TAX v. MAHADEO JALAN & MAHABIR PRASAD JALAN

- **Citation:** [1973] 2 S.C.R. 215
- **Court:** Supreme Court of India
- **Decided:** 1972-09-13
- **Bench:** P Jaganmohan Re!>Dy, ~- R. Khanna
- **Source:** https://unisonlegal.in/judgment/supreme-court-of-india/commissioner-of-wealth-tax-v-mahadeo-jalan-mahabir-prasad-jalan-5840
- **Pages:** 15

## Headnote

Wtalth Tax Act, 1957-Section 7-Basis of valuation of shares in
Private Limite«. Companies.
On the que•tion
a.~ to what is the basis of valuation of shares in
private limited companies for the purpose of section 7 of the Wealth-tax
Act, 1957.
HELD : The general principle of valuation in a going concern is the
yield on the basis- of average maintainable profits, subject to adjustment
etc. which the circumstances of any parti~ular case may call for.
An
examination of the various aspects of valuation of shares in a limited
company would lead to the followin~ conclusions :-
(a) Where the shares tn a public limited company are quoted on the
stock exch~nge and there are dealings in term, the price prevailing on the
valuation date is the value of the shares.
(b) Where the shares are of a public limited company whic'h are not
quoted on stock exchange or of a private limited company the valuation
is determined bl reference to the dividends if any reflecting the profit
ea".ning capacity on a reasonable commercial basis.
But where they do
·not, then, the amount of yield on that basis will determine the value of
the share._
In other words, the profits which the company has been
making and •hould be making would ordinarily determine the value. The
dividend and earning method or yield method are 1110t mutually exclusive;
both should help in ascertaining the profit earniilg capacity.
If the result<
of the two methods differ, an intermediate figure may have to be computed
by adjustment of unreasonable expenses and adopting a reasonable pro·
portion of profits.
( c) In the case of a private limited company also where the e<pellSCI
Gre incWTed out of all proportion to the commercial venture, they will
be added back .to the profit• of the company in computing the yield.
In
such companies the re'triction on share tran•fer, will also be taken into
consideration in ·arriving at a valuation.
(d) Where the dividend yield and earning method break do\\o\ll by
reason of the clompany's inability to earn profits and declare dividends,
if the set back i• temporary thein it is ,perhaps posSible to take the esti·
mate of the value of the shares before set back and discount it by a
percentage corresponding to the proportionate fall in the price of quoted
shar.,. of companies which have suffered similar reverses.
(e) Where the company " ripe for winding up the break-up value
method determined what would be realised by that process.
(f) As in Attorney GenerGr of C•ylon v. Mackie a valuation by refer·
e;.ee to the a<sets would he justified where as in that ~
the fluctuations
of profits and une«tainty of the conditions at the date of the valuation
prevented any reasonable estimation of prospet'rive profits and dividends.
The above principles are not intended to lay down any hard and fast
rule, because, ultimately the facts and circumstan-:e of each case, the
,
216
SUPREME COURT REPORTS
[1973] 2 s.c.R.
nature of the business, the prospects of profitabilitx and such other .:onsiderations will have to be taken into account "" will be applicable to the
facts of each case.
But one thing is clear, the mark.et va!U&, uillsss in
exceptional circ.umst~nce•, -cannot be determined on the hypothesis that
because in a private limited company one holder can brin& 'it illll<> liquidation, it .should be valued a• on liquidation by the break-up method. The
yield method is the generally applic~ble method while the break-up method
.,
is the ont.· re.sorted to in exceptional circumstances or where the compa.ny
D
is ripe for liquidation, but, nonetheless, is one of the method~.
A1tomey G<"ll<"rai of Cry/011 v. Mt1ckie [1952) 2 Ail. E.R. 775 P.C.,
S111it/i v. Rev£'tllte ('01111ni.vsioners, 1931 Irish Reports 643, Mc. Cathie v.
Tiu' /,.t'<h'ral l'o:n111issioner of 1't1xation, 69 Commonwealth Law Reports
pagt.• 1 an<l f't'dt•r<il l'o111111i.\'\'ioner of 1·axotion v. Sagar,, 71 C.L.R. 422
referred to.
(3) This Court has power to reframc the question as framed by the
C
High Court so Jong

## Text

_Characters 0–39,915 of 40,369. This is a partial read: ask again with offset=39915 for what follows._

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215
COMMISSIONER OF WEALTH TAX
v.
MAHADEO JALAN & MAHABIR PRASAD JALAN
September 13, 1972
[P JAGANMOHAN RE!>DY AND ~- R. KHANNA, JJ.)
Wtalth Tax Act, 1957-Section 7-Basis of valuation of shares in
Private Limite«. Companies.
On the que•tion
a.~ to what is the basis of valuation of shares in
private limited companies for the purpose of section 7 of the Wealth-tax
Act, 1957.
HELD : The general principle of valuation in a going concern is the
yield on the basis- of average maintainable profits, subject to adjustment
etc. which the circumstances of any parti~ular case may call for.
An
examination of the various aspects of valuation of shares in a limited
company would lead to the followin~ conclusions :-
(a) Where the shares tn a public limited company are quoted on the
stock exch~nge and there are dealings in term, the price prevailing on the
valuation date is the value of the shares.
(b) Where the shares are of a public limited company whic'h are not
quoted on stock exchange or of a private limited company the valuation
is determined bl reference to the dividends if any reflecting the profit
ea".ning capacity on a reasonable commercial basis.
But where they do
·not, then, the amount of yield on that basis will determine the value of
the share._
In other words, the profits which the company has been
making and •hould be making would ordinarily determine the value. The
dividend and earning method or yield method are 1110t mutually exclusive;
both should help in ascertaining the profit earniilg capacity.
If the result<
of the two methods differ, an intermediate figure may have to be computed
by adjustment of unreasonable expenses and adopting a reasonable pro·
portion of profits.
( c) In the case of a private limited company also where the e<pellSCI
Gre incWTed out of all proportion to the commercial venture, they will
be added back .to the profit• of the company in computing the yield.
In
such companies the re'triction on share tran•fer, will also be taken into
consideration in ·arriving at a valuation.
(d) Where the dividend yield and earning method break do\\o\ll by
reason of the clompany's inability to earn profits and declare dividends,
if the set back i• temporary thein it is ,perhaps posSible to take the esti·
mate of the value of the shares before set back and discount it by a
percentage corresponding to the proportionate fall in the price of quoted
shar.,. of companies which have suffered similar reverses.
(e) Where the company " ripe for winding up the break-up value
method determined what would be realised by that process.
(f) As in Attorney GenerGr of C•ylon v. Mackie a valuation by refer·
e;.ee to the a<sets would he justified where as in that ~
the fluctuations
of profits and une«tainty of the conditions at the date of the valuation
prevented any reasonable estimation of prospet'rive profits and dividends.
The above principles are not intended to lay down any hard and fast
rule, because, ultimately the facts and circumstan-:e of each case, the
,
216
SUPREME COURT REPORTS
[1973] 2 s.c.R.
nature of the business, the prospects of profitabilitx and such other .:onsiderations will have to be taken into account "" will be applicable to the
facts of each case.
But one thing is clear, the mark.et va!U&, uillsss in
exceptional circ.umst~nce•, -cannot be determined on the hypothesis that
because in a private limited company one holder can brin& 'it illll<> liquidation, it .should be valued a• on liquidation by the break-up method. The
yield method is the generally applic~ble method while the break-up method
.,
is the ont.· re.sorted to in exceptional circumstances or where the compa.ny
D
is ripe for liquidation, but, nonetheless, is one of the method~.
A1tomey G<"ll<"rai of Cry/011 v. Mt1ckie [1952) 2 Ail. E.R. 775 P.C.,
S111it/i v. Rev£'tllte ('01111ni.vsioners, 1931 Irish Reports 643, Mc. Cathie v.
Tiu' /,.t'<h'ral l'o:n111issioner of 1't1xation, 69 Commonwealth Law Reports
pagt.• 1 an<l f't'dt•r<il l'o111111i.\'\'ioner of 1·axotion v. Sagar,, 71 C.L.R. 422
referred to.
(3) This Court has power to reframc the question as framed by the
C
High Court so Jong ao; a new and different question is not raised but confine
it O!ll)' to resettling or refran1ing a question formulated by the Tribunal
or by the High c·ourt so a5 to bl"ing out the real issue between ~he parties.
[221E]
Nc.rai11 Swadeshi JVem·i11g Mills v. Commi.rsioner of E.P.T., 26 I.T.R.
765 at 774 and K11s11111 Ben De MahaJavia v. Commissiontr of JrrcumtJ,-
tax, 39 l.T.R. 540 at 544 referred to.
D
C1v1L APPELLATE JuR1so1cnoN : Civil Appeals Nos. 1135
& 11 3 6 of 1969.
Appeals by special leave from the judgment and order dated
December 12. 1967 of the Assam & Nagaland High Court at
Gauhati in Wealth Tax Reference Nos. 3 and 4 of 1966.
AND
Cil'il Appeals Nos. 1765 to 1767 of 1969.
Appeals from the judgment and order dated February 4,
1969 of the Assam & Nagaland High Court at Gauhati in Civil
Ruk No. 6 (m) of 1965.
l'ed Vyas, B. B. Ah11ja, S. P. Nayar and R. N. Sachthey for
the :ippcllant.
M. C. Seta/1•ad and S. C. Majwndar for the respondents.
The Judgment of the Court was delivered by
JAGANMOHAN REDDY, J.
These appeals are by special leave
against the judgment of the High Court of Assam and Nagaland.
Appeal No. 1136 of 1969 is of Mahadeo Mrigendra Jalan,
by
Mahadco Prasad as the karta of Hindu undivided family, while
appeal No. 1135 of 1969 is by him in his individual capacity. In
both these appeals, the Hindu undivided family as well as the
individual were holding shares in five companies in respect of
which shares, dividend was being declared. The Wealth-tax
Officer computed the valuatio11. of those shares on the basis of the
break-up value and included them in
their total wealth.
In
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COMMR. WEALTH TAX v. M. J/ILAN (Jllgal11ildhi:t11 Reddy, J.).211
Appeal> Nos. 1765, 1766 and 1767 /1969 the respandents
are
Mahabir :PraJad Jalan, Mahadeo Jalan and Madan Mohan Jalan
respectively. Ali these appeals pertain to assessment years 195758 and 1958-59. In respect of these years the value 0f the
shares in private limited companies were included in the
total
wealth of the respective assessees on the
basis of their yield
though some of the companies were not paying dividends while
others were declaring
dividends
throughout.
The first
two
appeals which related to a later year seem to have been heard by
the High Court and disposed of on December 12, 1967 while the
last three appeals were disposed of later on February 4,
1969,
mainly on the basis of the judgment of the High Court in the
first two appeals.
For the years 1957-58 and 1958-59 relating
to the three persons referred to above, the Wealth-tax
Officer
had, as in the case of assessment for the year 1959-60 adopted
the break-up value of the shares as
disclosed on the
balance
sheets of the company in computing their value as if each of the
companies was brought to
liquidation.
This
assessment
was
confirmed by the Appellate Assistant Commissioner. The Tribunal however held that certainly this basis is one of the recognised
modes of valuation of the shares of the private companies which
are not saleable in the open market but in so far as those cases
were concerned the valuation on the basis of the yield derived
from the shares will be a more reasonable method to be adopted
in the particular circumstances of their respective cases.
Accordingly he ·adopted the valuatipn on that basis in respect
of
each of the companies as specified in its order. In the first two
appeal,; also the Wealth Tax Officer and the Appellate Assistant
Commissioner adopted the break-up value a~ the basis as in the
other cases, and agreed with that basis inasmuch as the assessees
had failed to place before the Wealth-tax Officer and the Appellate Assistant Commissioner facts and figures
relating to
dividends declared by the respective companies. It was also stated
by the Tribunal that at the time of hearing by the Tribunal in
the cas~ of last thr~e appeals, it .was apparently not brought to
the nol!ce ?f the T~b~mal that the companies being private limited compames the d1v1dends declared
would be controlled
bv
persons controlli!1g ~he companies so as to suit their own purpose,
as such, the mamtamable profits rather than the dividends
declared would nffo.rd a reasonable basis.
While so stating, it was
o.bserved that tins a~pect of the case need not be taken note of
smce the· objectio_n before it is only on the principle whether (O
adopt the ·'break-up value" method.
In respect of the first two
appeals therefore the Tribunal held
tt:at the
adoption of the
'break-up' value was in order.
On an application under s. 66 (1) the Tribunal referred the
following question for the opinion of the High Court, viz.,
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SUPREME COURT REPORTS
[1973] 2 S.C.R.
"\Vhether on the facts and in the circumstances of
the case tho principle of 'break-up' vafoe adopted by
the Income-Tax Tribunal as the basis for the valuation
of the shares in question is sustainable in law ?"
When the reference came up for hearing before the · Bench of
the High Court, it was felt that as the question required an abitrac,t answer as to whether the principle of 'break-up value' is
sustainable in law and as in their opinion the Tribunal wanted to
refer for the opinion of the Court "the doubt they experienced in
dealing with the case which related to the question ,as to whether
the 'break-up value' method is correct method to be adopti:Q in
the facts and circumstances· of the case or it is the 'yield value'
method to be adopted, that question was re-framed and a further
statement of the case called for from the Tribunal. The question
as re-framed is as follows :-
"Whether on the facts and in the circumstances of
the case the Tribunal was justified in law to follow the
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method involving the princiJ,>le of 'break-up' value insD
tead of the method involving the principle of 'yield
value' in determining the value of the shares in question
under s. 7 of the Wealth Tax Act?"
In compliance with this direction the Tribunal drew up a supplementary statement of the case and submitted it to the High Court.
In that statement the Tribunal stated :
"Before the Appellate Assistant Commissioner no alternative basis of valuation appear to have been claimed. For the first time before the Tribunal, the assessee
filed a statement of the dividends declared· by the aforesaid private companies during the years 1953 to 1957
and claimed that the market value of the shares should
be worked out with reference to the average percentage
of the dividends declared by each company and on the
footing that the shares quoted in the market at Rs.-100/-
each would yield a dividend of Rs. 6/·"
It was· further stated by the Tribunal that the asseisee had relied
on the decision of the Tribun.al for the assessment years 1957-58
and 1958-59 where it determined the 11rnrket value of the shares
on the yield basis but in so far .as the assessment year 1959-60
it did not accept that the information furnished before it would
be :1dequate for working out the market value on the basis of
"maintainable profits" because it was of the view that "in cases
of private companies declaratio11 of dividend would be dictated
bv the directors having regard to the advantage in their personal
a~scssmcnts and not ~ith reference to the capacity or other busi11ess considerations. It went on to say that
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COMM&. 'Wl!ALTH TAX v. M. JALAN (Ja:anmohan Reddy, J.) 219
"The 'maintainable profits' would be. a certain percentage ( S<ty 80%) of the net profits of the company
after deduction of taxes payable by it and this would
be a measure of potential yield per share."
In this view the 'break-up' value adopted by the Income-tax
Officer in respect of the asseisments of 1959-60 in the first two
appeals was confirmed.
The High Court however did not agree with the basis adopted
by the Tribunal though it recognised that the break-up value is
also one of the methods for the purpose of calcullttion. It was
contended before the High Court on behalf of the assessee that
the 'break-up' value method will only be applied to a company
which reached the stage of liquidation and wind!ng up.
After
considering the respective contentions and the decisions referred
to before it, the High Court observed as follows :-
·we are satisfied that so far as the application of
s. 7 of the Wealth Tax Act in determining the value of
the shares of a deceased person on the data of his death
is concerned, where those shares pertain to a going concern, the only proper method to adopt was the 'yield
value' method and we think that the Tribunal was not
justified in making the assumption that in the case of a
private company the dividend would be controlled by
the persons controlling the i;:ompany to suit thek own
purposes, and that, consequently,
the
'maintainable
profits' should be accepted as the basis and not the divider.ds.
Unless there was some substantial material before the Tribunal ·to draw a different inference, the Tribunal, in our opinion, is not ju~tified in doing so.
We are constrained to note that although the Tribunai had adopted the 'yield value' method in its decisions in regard to the previous. years, the Tribunal had
taken a new path and adopted ··the 'break-up' value
method as the basis of the assessment. We feel that
there is no material placed on the record to justify this
change in the method to be adopted in calculation."
When the application for reference under s. 66 ( 2) in respect of
the_ last three appea!J came before the High Court after an application under s. 66 ( 1) had been rejected by the Tribunai
it
observed :--
11
"This is undoubtedly a question of law but the answer will be covered by the decision of this Court dated
June 9, 1967 ............ "
•
220
SUPREMl COURT R~POR'tS
[1913) 2 S.C.ll..
and so it thought it unnecessary to ask the Tribunal to refer the
same point again and accordingly rejected the
petitions.
The -
special leave in respect of the first two appeals is against the judgment of the High Court holding that the 'yield method' was the
proper method and in respect of the latter three appeals against
the order refusing to direct the Tribunal to state a case.
As a
cor.m1on question of law has to be detennined these appeals are
cons0lidated and heard together.
The question which has to be detennined in this
case is,
what is the basis of valuatic-n of shares in private limited companies for the purposes of s. 7 of the Wealth Tax Act (27 of
19'.,7). Sub-s. (I) of s. 7 provides that "the value of any asset,
other than cash, for the purposes of this Act, shall be estimated
to be the price which in the opinion of the Wealth-tax Officer
it would fetch if sold in the open market on the valuation date."
The yaluation date, as has already been noticed, is 3 lst December of the. calendar year.
On that date the Wealth-tax Officer
will have to ascertain what the share~ will fetch if sold in the
open 111arkct which would be the price which a wj11ing seller will
accept and a willing buyer will pay.
In valuing shares of a limited company .certain factors have
to be talten into consideration. Firstly, a share is not a sum of
money but i~ an interest measured by a sum of money and made
up of variou' rights contained in the articles of association. They
are of different categories such as the equity shares, preference
share.>. fully paid-up shares or partly paid-up shares. Apart
from these, there are also debentures.
The shares can be in a
public limited company or a 1private limited company and in the
latter cnse they are subject to
certain
restrictions.
A private
comp~ny bas been defined in s. 3 (iii) of the Companies Act as
· a sornpany which by its articles (a) restricts the right to transfer
its shares. if any; (b) limits the number of its members to ,50
not including certain categories specified in (i) and (ii) of that
clause and ( c) prohibits any invitation to the public to subscribe
for any share~ or debentures of the company sub.iect to the proviso that shares held jointly are to be treated as if they are held
by a single member.
A public
company under s. 3 (iv) is a
company which is not a private company.
Tt may be observed
that the three conditions which distinguish a private company
frcm a public ,company are cumulative and if ·any one of the condition.s is not fulfilled the company will be a public company. It
111ny also he noted that where under the articles of the company
the right to transfer shares is restricted withmit being first offered
tl' other members at a price which is either fixed in advance or
in a prescribed manner. or where the directors have a power to
vetc a transfer. the fixation of the value of the share will have to
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COMMP,. Wl!i\LTH TAX v. M. JALAN (Jaganmohan Reddy, J.) 22 l
be determined without ignoring the restriction as to transfer because they are an inherent element in the property which .has· to
be valued
This restriction may not n~cessanly be
depncato~·y
because the chance of acquiring the shares of other members m
the company on advantageous terms is itself a benefit. In cases
where shares have to be valued by reference -to the assets of the
company restrictions on alienation are irrelevant.
The shares the transfer of which is not restricted may be sold
on the stock exchanges for which there is official market quotatio:i .. There may also be shares in public limited compani9s for
which there are no quotations on the stock exchange.
Generally the price at which a reasonably willing purchaser would buy
the shares post.ulates a hypothetical purchaser- but even in such
a case it is to be assumed that the vender would only be willing
to sell the share for its real value and the purchaser would be
willing to pay the price. This has to , be always detennined
notionally. Where shares in a company are brought and sold on
the stock exchange and there are no abnormalities affecting the
market price, the price at which the shares are changing hands in
the o;dmary course of business is usually their true value. These
quotations genetally reflect the valtte of the asset having regard
to the several factors which are taken into consideration by persons who transact business on the stock exchange and by the
buyers who want to invest their money in any particular share
or shares.
Even where they are quoted on the stock exchange,
the quotations do not depend entirely on the yield or the dividend
declared.
There are several factors which are taken into consideration which affects and determines the. quotations,
namely
the factors which are taken into consideration by a person who
wants to sell his shares and the factors which a buyer who wants
to purchas~ the.m. considers as determining the price which price
the bi;yer IS willing to plly and the seller to receive.
Leavina
aside any. distress sal~s. the factors which in our view are likely
to detel1!11ne th~ fix~hon of a share on anv particular day or at
any partir.ular tune 1s, firstly, the profit-earning capacity of the
comp~ny ~m a reasonable commercial basis; secondly, its capacityto mamtam those profits or a reasonable return for the capital invested, an.d in special cases such as investment companies, the
a.sset-backmg; the prospects of capitalisation of its earnin<> in the
shape .of declaration of ?onus shares or where the com;any is
financ1ally and commerc1ally sound. the prospects of issue of further capital ~vhere the existing shareholders liave a right to aoplv
for and obtam them at ~ certain price which is generally less than
the market valu~, offermg an increased vield on his investment.
en the assumption that the company will be able to maintain
the same rate or at least increase the aggregate payment of divi-
222
SUPREME COURT REPORTS
[1973) 2 S.C.R.
<lends on the increased capital. It may be mentioried that
~
new shar.: issue, whether an existing shareholder subscribes for
them or not, invariably reduces the average unit cost of hi$ total
holding with the consequent increase in the rate of hi5 average
return on the cost .•
Take tlie case of a person who
wishes to buy shares in a
particuiar company. lf his purpose is only to invest; he might
enquire as to what are the various companies which have good
pro5pects and are a sound investment, often referred to as "as
good as guilt edged securties".
This would involve the ascertainment of whether the concern in which he intends to invest is
;inanciully and commercially sound, what is the yield that it will
· g!ve on the capital which he invests, whether that yield will be
mainiained, whether the shares will appreciate in value and are
easily marketable whenever he desires to dispose of them.
In
certain cases a person may wan~ to take risks by investing in
shares which having regard to various trends in the commercial
world and in any particular industry has prospects of improvement
·and the value of the shares going up with the corresponding prospect of the return or yield obtainable on the capital invested being much higher than what he would get in other sounder concern~. There may yet be investors who notwithstanding that the
comp<iny is not in a solvent condition or is unable to pay dividrnds for a number of years· are willing to purchase the controlling interest for the purpose of manipulation or bringing it
to liquidation for obtaining some benefit. Ignoring such ca.ses,
whcrr a purchaser or seller is considering the various factors for
purchse or sale of shares in a company, the dominant factor
dcterv·ining the price he will pay or reeeive a~ the ca5e may· be
is the yield.
Now, what are the factors which a seller will take into consideration when he wants to sell his shares ? Where he is
not
obliged to sell because he is not in need of money, he would
first consider whether the i'eturn he is getting is reasonable having regard to the current market price.
Here again· the factor
of yield would enter into his consideration not so much on the
capital he initiall;jnvested but on that which he expects to
realise on the sale; · He 111.ay have a better investment in view
which will give on it a higher yield or ensure for his
capital
better prospects. It may be he may not expect a higher dividend
to be maintained or that these dividends are likely to be reduced
or there is a likelihood of the
security of capital being in
jeopardy, and therefore he wishes to make a prudent sale. From
what we have stated, among the factors which govern the consideration of the buyer and the seller where the one desires to
purchase and the other wishes to sell,
the factor of break-up
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COMMR. WEALTH TAX v. M. JALAN (Jaganmohan Reddy,/.) 223
value of a share .as on liquidation hardly enters into consideration
where the shares are of a going concern.
The basic yield
method in cases where shares are quoted and transactions take
place on the share market may not be c!ifferent but where
shares are not quoted, it is in these latter cases the yield must
be determined after takinll into account various factors as
to
which a reference has been made earlier.
If profits are not reflected in the dividends which are declared
and a low-earnin& yield for the shares is shown by the company
which is unrealistic on a consideration of the financial affairs
disclosed for that year, the Wealth-tax Officer can on an examination of the balance sheet ascertain the profit earning capacity
of the concern and on the basis of the potential yield which the
shares would earn, fix the valuation.
In the Estate Duties Act
both here, in England and in analogous Acts in some of the
other Commonwealth Countries, similar provisions as under the
Wealth-tax Act provide for estimating the value of the assets
to be the price which in the opinion of the concerned officer
would fetch if sold in the open market on the date of the death.
In dealin~ with the valuation of assets under such Acts Green
on Death- l)uties (sixth edition) considers factors
other than
those of valuation by reference to dividends.
At page 407 it is
sta.ed :-
"Not infrequently, the. dividends represent only a
small proportion of the company's profits and lar·ge
sums are systematically accumulated. in the form
of
reserves.
It is important to remember in
this connection that the interests of shareholders in unquoted
companies often differ from
those of
ir. vestors
in
quoted shares, especially as respects dividend policy.
Where the shares are held by a few individuals (particularly members of a single family), it will not necessarily be to _their
advantage to have
the
greatest
possible amount paid out to them as dividends.
Retention of the profits by the company may suit them
better than tire receipt of taxable dividends.
A purchase of shares in a company which distributes only
a small fraction of its profits is unlikely to prove atractive to an investor in search of current income, but
the open market is by no means confined to such investors.
It includes, for instance, the existing members of the company, to whom the share·s may be more
valu~ble than to others and who ma;- wish to exclude
011ts1d~rs,, and surt~x payers whose
goal is
capital
appreciation rather than current income."
224
SUPREME COURT REPORTS
(1973) 2 S.C.lt.
Again at page 409 it is observed :-
"A valuation by reference to earnings is apposite
as respects unquoted shares
whenever the
dividend
alone does not truly represent the profitability of the
company.. . . . . . . . The "dividend" and
"earnings''
B
methods of valuation are not mutually exclusive and
!>oth may be used in conjunction.
Where the value
brought out -by one differs widely f~om that shown by
the other, an intermediate figure may be appropriate
Where a company is engaged in a profitable busiC
ness, but the shareholders are also directors and prefer
to take what they need from the company in the form
of remuneration rather than dividends, the profits distributed by way of remuneration must be taken into
account in the valuation. In practice, a dividend yield
valuation may be adopted in these cases by assuming
D
the distribution of a reasonable proportion of the profits (e.g. the average distribution of the
comparable
companies) as dividend: alternatively the value may
be estimated by reference to earnings. In either case,
the profits will be adjusted to, mclude
remuneration
paid in excess of a normal management charge."
E
But where a person who holds shares in a company
which. is
making losses and where it does not justify . a declaration of
dividends even from reserves as a temJ20rary boost or where
there is a possibility ·of its capital structure being affected or if
that state of depression continues in ·other words the company
is ripe for liquidation, the valuation may well be the break-up
value of the shares. In this case, however, we need not go into
all the nicities and · important
qualification
aml
limitations .
which may have to be applied in cases where the company's
assets and liabilities have to be taken into consideration in fixing the value of the shares. The general principle of valuation
in a going concern is the xield on the basis of average maintainable profits, sμbject to ;id1ustment etc. which the circumstances
of any particular qse may call for.
In Attorney General of
Ceylon v. Mackie(') however the fluctuations in profits and the
wartime uncertainities precluded any rejiable estilnate_ .of maintainable profit.
In these exception~! ci_rc\Jmstances· it- '.l11"as held
that in the iibsence of definite eyidcnce to the contracy the- value
of th~ business 11s a going concern exceeded tha~ of the tangible
asse~s. Lord Reid r!\ferri11.g to the argument that in accepting
(l) [l9S2] 2 All F,R 77S .P:C.
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COMMR. WEALTH TAX v. M. JALAN (Jaganmohan Reddy, J.) 225
the bala.•ce sneet method the Supreme Court of Ceylon erred
in law because that can only give a break up value which it was
necessary to find the value of the business as a going concern
observed at p. 779 :-
"It is true that a purchaser of the shares held by
the deceased could have obtained a controlling interest in the company as a going concern, and in t,heir
Lordships' 'judgment it is right to value these
shares
by reference to the value of the company's
business
as a going concern,
No doubt, the value of an established bu~incss as a going concern generally
exceeds
and often greatly exceeds
the
total
value
of
its
tangible assets.
But that cannot be assumed to be universally true,
If it is proved in a particular case, that
at the relevant date the business could not have been
sold for more than the
value of its
tangible
assets,
)
then that must be taken to be its .value as a goi~g concern,
ln their Lordships· judgment it h:1s been proved
in this case that the decenscd's holding could not have
te,en sold in September, 1940. at a price based on any
higher figure· than the value of the tangible assets of
the company,''
ln the Irish case of Smith v,
Revenue
CommlHioners(1)
on which on behalf of the Revenue reliance was placed on the
'deceased and his son held all the shares in the private company
the transfer of which was restricted,
It was also found that the
deceased had the controlling shares and that both father
and
son drew yearly remuneration for the work done 'by them. the
former getting £ 3000 per annum and the latter £ 1000 per
annum,
The average of dividend for the six
previous
years
was 5.3j( and on that basis though the
value of the
shares
worked out to 15 shillings, the executors offered 17 s. 6 d. The
Revenue however fixed the value of the share at 22 s, 6 d. on
the basis that the deceased who ',had a
prepondeq1ting
voting
power could have brought it into
voluntary
liquidation
and
therefore the value should be worked out on the basis of excess
of assets over liabilities as would be adopted in such a winding
up. · It was found by the Commissioners that the remuneration
paid to the deceased at a figure of £ 3000 per annum for such
busines; was out of all proportion to the value of their service.
Hanna. J, observed at p, 654 :-
"In this I agree : but. on the other hand,
consi.derable "".e!ght must be ,given to the view put forward
by the petit10ners that it was
a
family
company,
(I) [1931] Trish Reports 64'.
I o-U48SupCll73
226
SUPREME COURT REPORTS
[1973] 2 S.C.R.
where greater latitude would be given in the remuneration of the directors, who were the principal owners;
and· that it was a· unique business, iri which both the
directors had special knowledge, and to which
they
gave constant daily attention, and had a special personal relationship with the majority of the customers.
A purchaser in a hypothetical market of any of these
shares would recognise the. value of these factors,, and
make due allowance for much more
than the ordinary remuneration. The evidence on either side went
into great detail, and after the consideration of it I
think that this company can be fairly regarded as one
capable of earning on a comR1ercial basis 10 per cent
on its capiial, and so 1 find.
But, if this is to
be
taken as the principal test, it must .be subject to
the
consideration, on the one
hand, of the
restrictions
upon the transfer of the shar~s. and; on the other, of
the added value by reason of the splendid security of
the company's position."
It will be seen that this case does not support the contention
th.at because the deceased was in a position to bring the company into voluntary liquidation the break-up
value
principle
should be applied. If at all it is against that contention because
on the evidence the valuation was deterniined on
the
profit
earning capacity of the q>mpany.
The Australian cases referred to are based on the Australian Estate Duty Assessment Act
under which the real value of the asset which fornis part of the
dutiable estate has to be ascertained. Even then, it was held in
Mc. Cathie v. The Federal Commissioner of Taxation(!) that
the real value of shares held by a deceased on his death depends
more upon the profits which the company has been making and
should be capable of making having regard to the nature of his
business than upon the amounts which the shares would be
likely to r7alise upon liquidation, and that moneys paid as fees
to directors .in excess of a reasonable amount should be treated
as profits when determining the reasonable earning capacity of
a proprietory company which bears the character of a partnership trading with limited liabilities.
Williams, J. at page
11
observed :
", . . . the real value of shares which a
deceased
person holds in a company at the date of his
death
will depend more on the profits which the
company
has been making and should be capable of making,
having regard to the nature of its business. than upon
the amounts which the shares would be likely to realise
upon a liquidation."
(1) 69 Commonwealth Law Reports page !.
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COMMR. WEALTH TAX v .. M, JALAN (Jaganmohan Reddy, ].) .22'l'
In that case it was found that the business could not be said to
be conducted with any lack of probity but since the remuneration received by ladies of the family who did not render any
service was not admissible it was added to the profits in arriving at a reasonable earning capacity.
It is also worth noticing thats. 16-A(l)(c) of the Australian Act has vested a discretion in the Commissioners to make .
an assessment on "an estimate of the sum which the holder of
shares should be expected to receive in the event of the company being voluntarily wound up at the date of the death
of
the dee.eased".
While considering the provision above referred
to, it was observed by Williams, J. in Federal Commissioner of
Taxation v. Sagar( 1) that
". . . . where a company is a going
concern
the
instances. would appear to be rare in which it would
be proper to use para ( c).
One instance might be
where the deceased held or controlled sufficient shares
to enable him to pass a special resolution
that
the
company be wound up voluntarily, but even then
it
would appear to be preferable, where
practicable, to
use paras (a) or (b)."
An examination of the various aspects of valuation of shares in a
limited company would lead us to the following conclusion :-
'
( 1) Where the shares in a public limited company are quoted
on the stock eX<;hange and there <lfe dealings in them, the price
prevailing on the valuation date is the value of the shares.
(2) Where the shares are of a public limited company which
are not quoted on a stock. exchange or of a private limited company the value is determined by reference to the dividends if any
reflecting the profit-earning capacity on a reasonable commercial
bases. But where they do not then the amount of yield on that
basis will determine the value of the shares.
In other words, the
will ordinarily determine the value.
The dividend and earning
will ordinarily detem1ine the value.
The dividend and earning
method or yield method are not mutually exclusive; both should
help in ascertaining the profit earning capacity as indicated above.
1f the results of the two methods differ, an intermediate figure may
have to be computed by adjustment cf unreasonable expenses
and adopting a reasonable proportion of profits .
.( 3) In the case of a private limited company als 1 where the
H
expe1.se3 are incurred out of all proportion to the commercial
venture, they will be added back to the profits of the company in
(I) 71
C.L.R. 422.
228
SUPREME COURT REPORTS
[1973] 2 s.c.R.
computing the yie!d.
IO such ·companies tine restriction on share
transfers will also be taken into consideration as earlier indicated
in arriving at a valuation.
( 4) Where the dividend yield and earning method break
down by reason of the company's inability to earn profits and
declare dividends. if the set back is temporary then it is perhaps
pos~ible to take the estimate of the value of the shares before set
oack and discount it by a percentage corresponding to the proportionate fall in the price of quoted shares of companies which
haw suffered similar reverses.
( 5) Where the company is ripe for winding up then the
brc~k-up value method determines what would be
realised by
that process.
I
(6) As in A1torney Ueneru/ of Ceylon v. Mackie (supra) a
valuation by reference to the a1>ets would be justified where as
in th::t case the fluctuations of profits and uncertainty of the conditions at the date of the valuation prevented any reasonable
estimation of prospective profits and dividends.
In setting out the above principles, we hav~ not tried to lay
down any hard and. fast rule because ultimately the facts
and
circumstances of each case, the nature of the business, the prospects of profitability and such other considerations will have to be
taken into account as will be applicable to the facts of each case.
But one thing is clear, the market value unless in exceptional circumstances to which we have referred, cannot be detennined on
the hypotheses that because in a private limited company one
holder can bring it into liquidation, it should be valued as
on
liquidation by the break-up method.
The yield method is. the
generally applicable method while the break-up method is the one
resorted to in exceptional circumstances or where the company
is ripe for liquidation but nonetheless is one of the methods.
It has been urged before us that the question as framed by the
High Court does not correctly indicate the scope of the answer
which was called for ff9m that court and it was suggested that we
should reframe the question.
We certainly have the power to do
so as long as new and different question is not raised but confine
it -only to resettling or reframing the question fonnulated by the
Tribunal or as in this case by the High Court which called for a
statement of the case on a question as reframed by it, before
answering it so as to bring out the real issue between the parties :
Narain Swadeshi Weaving Mills v. Commissioner of E.P.T.(')
and Ku.mm Ben De Maha1avia v.
Commissioner of /ncometax (2). The question as framed by the High Court is on the
(l) 261.T.R. 165 at 774.
(2) 39 I.T.R. 540 at 544.
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. COMMR. WBA~TH TAX v. M. J"ALAN (Jaganmohan Reddy, /.) 229
assumption that the yield method is the only method applicable
and on that basis required the 'Fribunal to -state a case on whether
it was justifie!l in law to follow the method involving the princi- ·
pie of break-up val\le. If the question is re-framed bringing out
the real issue between the parties which both Tribunal and the
High Court attempted to do it would facilitate a proper answer.
We accordingly reframe the question as follows :-
"Whether on the facts and circumstances of this
case the principle of brea~-up value adopted by the
Tribunal as the basis of valuation of shares in question
under s. 7 of the Wealth-tax Act is sustainable iii law?
If not what would be the correct basis ?
In the first two appeals 1135 and 1136 of 1969 the beark-up
value method was adopted by the Tribun<Jl and its plea for not
adopting the yield method was that a list of dividends were for·
the- first lime filed before it in respect of each of the companies.
The Wealth-tax Officer and the Appellate Assistant Commis·
sioner, as well as the Tribunal, had the balance sheets of each of
the compa'!ics before them because the shares were valued on
break-up method in those cases on the basis of th,_ose balance
'hects.
If the balance sheets were filed they would also disclose
the dividends as indeed the statement of the case shows that all
the companies had declared dividends for the year
1959-60.
Even otherwise, the Tribunal as a fact finding authority, could
have considered the list. or sent them to the Wealth-tax Officer
for any further enquiry it required. . In the last three appeals,
the Tribunal had adopted the yield method.