Not Worth The Paper ...

NOT WORTH THE PAPER
A commentary on the Fair Market Value
(FMV) of Corporation Shares – and
Why they can never be a legitimate
“Taxable Benefit”
By Victor Drummond © August 2007

Addendum:- August 10 2007 -- For graphic evidence of the truth of this article see todays Globe and Mail -- editorial cartoon. Vic.

Addendum 2:- August 16 2007 -- As per addendum above -- see todays Globe and Mail -- editorial cartoon -- and the TSX opened down over 200 points today.

When the owners of a business decide to incorporate their enterprise -- and take the corporation public -- they make contact with investment underwriters to arrange terms for the initial financing and issuing of corporation shares.

If any underwriters are interested -- in the new corporation -- they establish the quantity and price of the new shares to be issued -- and the corporation receives an input of cash. The amount of money the corporation actually receives is the product of:- the number of shares to be underwritten and the arranged price per share – less any special charges levied by the underwriters – such as a finders fee.

The deal usually also includes the issuing of a second equity giving the underwriters a time limited option to purchase additional shares at a premium price. These equities are called warrants and may also be bought and sold on a stock exchange once the shares are listed and begin trading.

Setting the initial price of the new corporation shares involves taking into consideration a large number of factors -- such as:-
(a) The break-up value of the corporation’s assets.
(b) The demand for the corporations services/products.
(c) The track record of the corporations management.
(d) the market share the corporation now has and the prospect they will keep what they now have versus gaining/losing market share.
(e) The customer base and loyalty - (goodwill)- etc.
(f) The general overall market performance -- i.e. a bull market - a flat market or a
bear market.
(g) The dilution of the corporation shares -- if there are a large number of warrants outstanding that make shares available at a premium price then the market price will be limited to the warrant share price while the warrants are valid.

Although due consideration - of the foregoing factors - provides a ball-park guesstimate of a price the market will bear for the new shares issue – it is just that – a best guess.

Therefore corporation shares may go from low price to high price or vise-versa due to any number of factors – some of which have little or nothing to do with the overall performance of the corporation.

In other words corporation shares have no fixed intrinsic value of their own and consequently can not be fairly classed as a reward - or benefit - of any kind so long as they remain in such a volatile state.

Factors affecting the price of corporate shares are at best a good guess -- along with a flock of unpredictable variables. Share prices can rise and fall for no apparent reason – other than the whim of the investor/speculators and/or perceived market conditions – both real and imaginary.

Once all the parameters are established - and the underwriters have taken possession of their allotment of shares - warrants etc. they normally issue a prospectus promoting the purchase of the new shares – to their client list of investors/speculators -- directly from themselves -- via an “Initial Public Offering” (IPO).

This is usually an immediate prelude to the shares being listed on a conventional stock exchange - such as the Toronto Stock Exchange (TSX) and becoming generally available to all market investors and speculators.

Once the corporation shares become publicly traded their price becomes more of a result of market conditions than it does a reflection of the real worth of the corporation and/or its performance.

When bad news impacts on the markets in general – the price of the shares of a good corporation will be as much affected as will the price of the shares of a corporation that is doing poorly. When the BRE-X Minerals Indonesian Gold swindle was exposed all Gold Mining corporation shares were adversely effected.

When the Enron swindle was exposed all energy corporation shares were affected.
When the Nortel Networks creative accounting mischief was revealed all telecom corporation shares were affected. When the Martha Stewart mischief came to light all household products corporation shares were affected.

Last but not least when the over-sold Tech market bubble burst in July 2000 – and the stock markets went into a correction phase – all technical corporation shares went down like a stone.

The price of the shares of many profitable corporations were dictated entirely by what the bidders were willing to pay – not by what the corporation was doing -- or not doing -- in their day-to-day operations.

Every year hundreds of corporations -- that were recently listed on Canadian Stock Exchanges – just disappear completely from the exchange listing. When that happens the shares of most delisted corporations are not worth the paper they are written on.

Holders of shares in high flying corporations such as BRE-X (BXM) and Nortel Networks(NT) ended up with equities that they had paid many dollars per share -- to acquire -- that with little - or no - warning some fell to a level where they were not worth the paper they were written on.

There is no such thing as a solid “Fair Market Value” for corporation shares trading on a conventional stock exchange.

The past performance of a stock is no guarantee that the next trade will be as good - or better - or that the seller will be matched to a bidder who will pay the asking price and who will also buy the quantity of shares the seller is trying to sell.

A seller who places a “Sell-at-market” order on their shares will be lucky indeed to get anything near the price desired.

There are just too many variables that make a farce of trying to fix a real FMV on any corporate shares. The only time a corporation share has a fixed value is when it is exchanged for hard currency -- or for any other item having intrinsic value.

Until then it is merely a token which may provide a profitable return – but more likely it may not.

Consequently The Canadian Income Tax Act is flawed to the extent that it permits classifying corporate shares - acquired via an Employee Stock Purchase Plan - as a “Taxable Benefit” while those equities are still in a state of undetermined value.

It is a disgrace for Canada to tax people on Income they never received.

It is blight on the image of the Canadian Income Tax System and no credit to any political party that created the problem or those politicians who allow it to remain in operation during their term in power.

It is a violation of the Canadian Charter of Rights and Freedoms - article 15(1) - to grant tax remission to some victims of the “Taxable Benefits” boondoggle while denying the same treatment under the law to all other identical victims.

Is Canada really that hard-up for revenue that we need to Tax our citizens this unfairly? Do you suppose?

Check out the following article:- http://loudmouthsays.blogspot.com/2005/08/deliberate-over-taxation-no-better.html

Shouldn’t SOMEONE do something to correct this problem?


Victor Drummond ©