New UArizona Research Reveals Which State Laws Protect Businesses During Market Downturn

March 1, 2022

Professor Simone Sepe aims to illustrate the benefit of incorporating in states with more antitakeover provisions.

As pandemic mitigation efforts began to heat up in March of 2020, panic – triggered by the economic consequences of lockdowns – led to a stock market crash that included some of the worst point drops in U.S. history.   

This unexpected economic downturn benefitted some businesses and left others struggling for survival. As share prices decreased, the threat of hostile takeovers grew, leading many companies to adopt antitakeover provisions, also known as ATPs, to stymie the surge of unsolicited bids.   

Economists have long debated over whether antitakeover provisions – measures taken by a business to prevent it from being acquired – help or harm a company. But new research set to publish in the Journal of Financial Economics from Simone M. Sepe, professor of law and finance at the University of Arizona James E. Rogers College of Law, finds that when the market takes a hit, these provisions not only help to protect a company, but in some instances, they can actually increase its value.   

Sepe hopes the study will help business owners, CEOs and legal advisors understand the benefit of incorporating in states with more of these laws, as well as provide a resource for policy makers looking to propose more business-friendly policies in their districts.

The Power to Resist

While most other studies focus on the average effects of these measures, the massive drop in share prices caused by the pandemic inspired Sepe, whose research focuses on corporate governance and finance, to explore the impacts of antitakeover provisions specifically during negative market shocks.  

To better understand how antitakeover provisions impact company value during a market shock, Sepe and his co-authors Scott Guernsey and Matthew Serfling, both from the University of Tennessee, conducted an analysis of the relationship between state-sponsored antitakeover provisions and firm value for a sample of companies incorporated in the U.S. during 14 distinct market shocks between 1983 and 2020.   

They then measured the strength of a firm’s takeover defenses using an index that ranged from zero to five based on the number of state-level antitakeover statutes that a firm’s state of incorporation had adopted.   

For firms incorporated in states with more antitakeover provisions, the study found that they experienced a less dramatic reduction in value during market shocks compared to firms without. In addition, the study showed that companies in states that adopted all five of the most common antitakeover laws receive between 14.5% and 25.5% higher premiums during market shocks.   

These results are consistent with a theory that proponents of antitakeover provisions often cite: by affording board members more discretion in screening takeovers, antitakeover provisions help increase a firm’s bargaining power, enabling the board to negotiate a higher offer or block bids that are too low. Additionally, Sepe and the other researchers found that antitakeover provisions preserve firm value by protecting the firm’s relationship-specific investments, such as joint ventures, that would normally be destroyed during a takeover.  

“What we prove in this paper is that when businesses have more antitakeover protections in place during a negative economic shock, they have more power to resist opportunistic acquisitions,” said Sepe.

What Matters Most?

Overall, the study finds that while state-level antitakeover provisions have a neutral effect on firm value during normal economic times, these laws enhance firm value during market shocks.   

But are there certain antitakeover laws that states should enact to garner the most protection for businesses? Sepe’s team doesn’t believe so.   

The study explains that each additional antitakeover provision a state adopts generally provides incrementally more benefits. For instance, the team found that regardless of which antitakeover provisions a state has adopted, the benefits of having four or five antitakeover provisions during a shock can be more than two-thirds as large as having only one or two. The findings imply that the total number of antitakeover provisions adopted might matter more than any one specific provision by signaling a message to potential acquirers.   

“Economic shocks are endemic to the market,” notes Sepe. “So, if you are a legal advisor and you know that a corporation wants to undertake a particular investment, especially if the investment has a long-term horizon, incorporating in a jurisdiction with more state-level antitakeover provisions may be a smart legal decision.”