Takeover Premiums, Appraisal Rights and the Price Elasticity of a Firm’s Publicly Traded Stock
Financial economists generally believe that the demand for a specific publicly traded stock is virtually perfectly price-elastic. This proposition has significant implications for many rules of corporate law that concern the correct value of the corporation. In a Yale Law Journal article, Professor Lynn Stout argues that the demand curve for the common stock of a publicly traded corporation is downward-sloping. She claims that a critical assumption underlying the capital asset pricing model (CAPM) is that investors have homogeneous expectations about a stock’s value, and that this assumption implies that the CAPM will predict each stock to have infinitely (perfectly) price-elastic demand.
In Part I of this Article, we show that Stout’s claim of less-than-infinite price elasticity does not advance her thesis that the market price of a security is an unreliable and unfair measure of value. Infinite price elasticity of a firm’s stock is not implied by either the CAPM or the efficient capital market hypothesis (ECMH). The new-information hypothesis of stock price changes offers a more plausible explanation for events that Stout claims are more readily explained by price pressure resulting from less than infinitely elastic demand. In Part II, we explain why the appraisal remedy, and the stock market exception to it, are wealth-maximizing features of corporate law that enhance the liquidity of ownership and control of the publicly traded corporation. We further explain that Stout’s appraisal rule, which would ignore market value even for publicly traded corporations, is flawed in theory and unworkable in practice. If adopted, Stout’s rule would diminish the liquidity (and hence the value) of corporate ownership and control, make management’s performance of its fiduciary duty in unsolicited corporate control transactions nonfalsifiable and, thus, diminish shareholder wealth.