Why does a company care if their stock prices keeps on falling?

Are you familiar with this here abbreviation: WACC?

They care because they can lose their jobs and their compensation (where a big portion is from stock options) will fall. Also, yes, their cost of capital can increase.

Their employers (the investors) also obviously care a lot.

It could also open you up to hostile takeovers as well.

Say you're the CEO of this fictional bank. You're bank is a community bank in East Philadelphia worth $100MM, next month you're worth $85MM like you said. Now a regional bank in Pittsburgh and part of the Ohio Valley decides to enter the Philly market. They can get your bank equity at a discount and they'll remove you're entire executive staff since they're just taking over.

Are you assuming that management doesn't care at all about the performance of their company? Stocks don't trade down on good news. Maybe this is for a finance class and all your teacher wants is specific topics related to WACC or EPS accretion/dilution but, if it isn't, I hope you're not overlooking the obvious.

They shouldn't care, if it goes to zero they could buy the whole company for a dollar and pocket all the money going forward

You have a duty to your STAKEHOLDERS (not just shareholders) to add value. A stock price is a gauge of this, in addition to all that is mentioned above. You're a bad manager if your share price is continuously falling, it's just a normal reaction to want investors to push up the price your stock.

Mrb87 has pretty much covered it but thought it would be worth explaining a bit more in as simple a way as possible. The reason management want the share price to go up is because it lowers the company's WACC.

Focusing just on the equity part of the WACC calculation, we can estimate the cost of equity capital using the dividend discount model. The formula for the cost of equity in this instance is:

r=(D1/P0) +g

Where r - cost of equity capital D1 - Next years dividend P0 - current share price g - growth rate of the company's earnings

So you can see mathematically as P0 increases r decreases. The logic behind this formula is pretty intuitive I think.

(Disclaimer: this is no way an endorsement of the dividend discount model as a tool for valuation but is used in this instance merely to explain the underlying relationship between share prices and the costs of equity capital)

mrb87's comments are great. So what he / she said.

I will say:

If you need to raise equity capital, the amount of money you can raise is based on what the value market participants place on your company. I believe that was how WorldCom was able to acquire hundreds of smaller companies because market placed such a high value on the company stock and one influential equity research analyst covering the stock was publishing rosy reports who was also best buds with Bernie Ebbers (refer to the book "Confession of a Wall Street Analyst" by Dan Reingold).

Back in the 80s, if your stock price is low, you are vulnerable to corporate raiders who will take over your company, backed by junk-bond financing. Today, if your stock price is low, activists will start buying shares in the open market and demand board seats so that they can unlock the value for themselves and investors.

George Soros and Stan Druckenmiller has this theory of "reflexivity". It's an idea from the field of philosophy which they applied in investing. I think that has something to do with market perception (stock price) and the reality of the company (intrinsic value) and how they can reinforce each other. Someone please correct me if I am wrong.

The above will probably give you a decent explanation of the quantitative aspect of it from the investor standpoint, but the biggest effect for you will be as follows:

The C-Level execs see the stock price tanking. They start worrying about their equity comp valuation, potential layoffs they have to make, big projects not being funded, and not to mention the board saying "Hey, things are going pretty bad now. This guys making $2.2m a year. Lets pay that to somebody else."

Then your boss shows up to work. The exec is in a panic and wants to show the board they mean business. That means they start new initiatives, creating a ton of work for your boss. Now your boss is pissed off and over worked, and they don't know what to do. They reflect the same panic and misguided efforts the exec is portraying.

Then you show up to work. Then you work on a bunch of bullshit work with "hard" (artificial) deadlines that are fast approaching. Then you get pissed off. Then you panic.

Then you get an intern, and they do it.

1. In general, a reduction in the market value of a company's equity implies that the firm's growth prospects have been hampered and therefore investors can expect to earn less in the form of free cash flows. This makes the investment less attractive which, as you mention, hampers the firm's ability to raise additional capital to finance value creating (positive NPV) projects.

2. Lower expected profitability also implies that suppliers and debt holders may face additional credit risk. This, in turn, might strain your supplier relationship and make it more difficult to secure favorable terms. In return, your operating costs rise, further putting pressure on your operations and ultimately free cash flow. Bond holders, now facing a higher leverage ratio and elevated credit risk, will require higher rate of return on subsequent debt offerings. This increases financing costs and further reduces the profitability of value creating (positive NPV) investments.

3. Additionally, many of your employees, especially those that are particularly productive, receive some form of stock based compensation. The decline in your equity value, therefore, reduces their compensation and makes it more difficult to both retain and attract top talent. The equity holders, in an attempt to salvage their expected income stream, may replace management. This generally increases the pressure on your existing employees and makes it more likely to create an environment of anxiety and stress. Disgruntled employees are generally less productive, which further places pressure on the efficiency of your operations.

4. Finally, a lower stock price makes you an easier target in the market for corporate control. In other words, at a lower price, and if the decline in the stock price can be attributed to poor management, it's more likely that the firm is acquired by either another public company or by a private equity firm. In this situation, it's very likely that management will be wiped out (see point #3). A private equity company may even liquidate the companies assets and sell them piecemeal.

5. It may be the case that the market has incorrectly discounted the value of your equity. In this scenario, the firm can protect itself by buying back shares and defending the price. This will prevent the negative effects of #1-4, to some degree, but it comes at a cost. The cash used to defend the price can no longer be used in value creating (positive NPV) investments.

6. For a bank, it's particularly bad because you're now facing a higher leverage ratio and, as a result of regulatory capital requirements, may be forced to issue additional equity at depressed prices. It also means that you probably had to write down your assets (loans) which implies greater credit risk in your portfolio than anticipated.

7. I would be careful with the 'it increases your cost of equity' arguments. Your stock price can fall even as your cost of equity declines and your stock price can rise if your cost of equity rises. Think more in terms of profitability and how that influences operations rather than focusing on the riskiness of the firm's operations.

No one has mentioned the impact on the credit side of things. If the stock is fallings - the bonds and loans will likely fall as well (the whole WACC discussion seems so academic and not really focusing on the actual real world implications). If the the bonds/loans fall the effective yields increase. Several scenarios can occur such as 1) if there are near dated maturities there is refining risk, 1a) you may need to refi at a much higher rate, 1b) you may need to do some sort of exchange/tender offer which diluting the equity, 1c) if refinancing is off the table creditors will file for bankruptcy if the maturity can't be met, 2) covenants can be tripped and bond holders/lenders can force a restructuring, 3) company can get down graded - leading to further price drop, risk, etc. 4) on the positive, if the company has cash and bonds/loans fall they can buy them back on the open market - pending ability to do so per the credit docs - which would lead to a deleverging event. These are just some of the issues that can arise on the credit side of things when a company's equity starts to tank.

Very simple: you're paid to care about it. Your employers (the Board of Directors and by proxy all shareholders) are intensely concerned with the share price. Thus they treat the share price as a key measure of performance for the senior executives of the company. All the other things mentioned above are true (ability to fund takeovers, raise capital, WACC, options) but they are secondary to the fact that raising the share price is what you're paid to do. It's like asking why a trader should care about the value of the bonds in his book.