In a new post by the Harvard Law School Forum on Corporate Governance and Financial Regulation, Professor Albert Choi (Virginia Law School) and Professor Eric Talley (Columbia Law School) present their new working paper, which asks how best to measure “fair value” in an appraisal proceeding.

Applying principles of game theory and auction design, the authors show that as a general matter, setting the appraised value at merger price (using a so-called MP rule) “depress both acquisition prices and target shareholders’ expected welfare relative to both an optimal appraisal rule and several other plausible alternatives.”  The authors argue that the MP rule is the functional equivalent of nullifying the appraisal right altogether.

We posted recently about attempts by M&A buyers to include a closing condition in the merger agreement that would relieve the buyer from closing if a triggering percentage of appraisal rights are exercised.  As an illustration of such a condition, CBOE Holdings — which owns the Chicago Board Options Exchange — succeeded in including a so-called blow provision in its merger agreement to acquire another exchange operator, Bats Global Markets.  Under that merger agreement, the deal blows up if more than 20% of the target’s outstanding shares seek appraisal.

The very existence of a blow provision may cause some stockholders to hesitate in seeking appraisal, fearing that their dissenting vote might push the appraisal class over the 20% hurdle.  Some casual observers find that only about 10% or less of the outstanding share population ultimately seeks appraisal.  Accordingly, a lower blow provision, on the order of 10% or 15%, could pose a very real challenge to appraisal and would test the resolve of stockholders who are unsatisfied with the deal price but concerned about blowing up the deal altogether.  That may be true, for instance, where dissenters feel that the target is being sold at the right time but at the wrong price.