Is a company hurt when its shares fall?

Jeff Tyler Oct 16, 2008

Is a company hurt when its shares fall?

Jeff Tyler Oct 16, 2008


Kai Ryssdal:
When a stock falls, investors have a pretty good idea of what that means to them. Sleepless nights, if the losses are big enough. Less money to retire on and maybe a cheaper education for their children. But what does it mean for the company? Marketplace’s Jeff Tyler considers the chain of events triggered by a slide in a company’s stock price.

Jeff Tyler: When a stock’s price goes up, no money comes into the company.
And no money goes out when the price goes down. Instead, the stock price acts as a reflection of the company.

Richard Sylla: The stock market is quite important for the perception of a company.

That’s New York University economics professor Richard Sylla.

Sylla: Everyday the stock market is like an election on how well the company is doing. If people say, I like that stock, they push the price of the stock up. Then the company may find it easier to get a loan from a bank.

When the stock price is down, bankers consider it a bad sign and are not so eager to part with their money. Sound familiar? And it’s not just buyers, sellers and lenders who judge a company by its share price. Executives running the place can also learn a thing or two from the markets, says Stanford business professor Jonathan Berk.

Jonathan Berk: They might care about the stock price because the stock price might be giving them information that they wouldn’t otherwise have.

Take Apple, for example. It’s stock has fallen from about $180 a share down to around $100. That’s a 40 percent drop in two months. Berk says Apple knows a lot about building and marketing an iPhone . . .

Berk: But they may not know so much about the future demand of iPhones, and perhaps investors, as a group, know more about that.

Of course, the markets can be wrong, creating a false impression of a company’s worth. That perception can become a reality. A falling stock price can actually drive down business. Consider car makers Ford and GM — their shares have been hammered. Ford’s stock now trades for less than a gallon of gas. Professor Sylla says that sends a signal to car buyers to think twice.

Sylla: Well, that means the company is going to perhaps disappear. I better not buy that company’s products because I might not be able to get a spare part, or the dealership might disappear, in the case of an automobile company.

In that respect, Sylla says a falling stock price has a direct impact on the bottom line.

Sylla: The decline in the share value doesn’t just hurt investors. But it hurts the actual workers in the company and the management because it makes it harder for them to sell their products.

And managers may be less likely to make bold business decisions that could turn things around. Hayne Leland, a finance professor at UC Berkeley, says a low share price can make executives overly cautious.

Hayne Leland: Managers may tend to become much more risk averse, to hoard cash and basically undertake fewer investments than they otherwise might have done.

That is, if the manager isn’t too busy focusing on his own career. Leland says sinking share prices can make stock options worthless. That means some employees will make less money than they expected.

Leland: A low stock price can have a real impact on managerial incentives and even their willingness perhaps to stay with the firm.

If there is a firm to stay with. A depressed stock price also makes a company vulnerable to a hostile takeover. And we all know what happens then — the share price goes up.

I’m Jeff Tyler for Marketplace.

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