Fairness opinions

The W$J reports on problems with so-called "fairness opinions" that boards get, at great cost, to protect their deals from judicial second-guessing. 

Although the article focuses on potential conflicts of interest, there are also obvious problems with the inherent subjectivity of the opinions, and the temptation to say what the party buying the opinion is paying you to say (i.e., that the price is "fair").

The article doesn't say why companies spend all this money on this dubious product. Try Smith v. Van Gorkom, 488 A. 2d 858 (1985), in which the Delaware supreme court held a board liable for a lot of money for not jumping through all the right hoops in recommending a merger for a significant premium over current market.  Among other things, the court criticized the board for relying on insiders as to the price.  Obvious solution -- bring in an "outside" investment banker to say what the insiders are saying.

As to the value of these opinions, in commenting on Van Gorkom Dan Fischel observed: “I wish someone would pay me several hundred thousand dollars to state that $55 is greater than $35.” The Business Judgment Rule and the Trans Union Case, 40 Bus. Law. 1437, 1453 (1985).

The reason the courts make judgments about this is that they believe that somebody has to ensure the board is doing its job.  Since the court can't easily second-guess the price, the next best thing is to make sure the board follows the right procedure.  The problem is that the court can't necessarily judge the procedure any better than it can judge the price.

The answer is to make sure there's an active market for corporate control. If companies are auctioned freely, we don't have to worry as much about getting somebody's opinion as to what the price should be. 

Now, takeovers can be costly, but if companies want takeover protection they can insert it in the charter, as Google has with its dual-class stock.  States can enact "standard form" provisions that companies can adopt.

The real problems are federal laws such as the Williams Act and anti-trust laws, and rigid state fiduciary rules that essentially leave it up to incumbent managers whether and at what price the company will be sold. Until we do something about that, we're going to have to accept second-best ways of protecting the shareholders. Like fairness opinions.