Positive Equity Prices with Insolvency under Legal Solvency Tests

23 Journal of Forensic Economics, 63-70 (2018).

15 Pages Posted: 22 Nov 2016 Last revised: 23 Sep 2019

Date Written: December 3, 2017

Abstract

It is well understood that the equity of an insolvent firm can trade for a positive price so long as there is some positive probability that the firm will become solvent at some future point. Currently, however, this insight exists in the case law in an informal sense, while its use in the financial economics literature is highly formalized and not tied to the legal solvency tests that experts, lawyers, and judges must apply in solvency litigation. A simple model of a debtor firm shows why a positive equity value does not imply solvency under either of two widely-used legal solvency tests. This links a well-known financial economic insight to legal solvency tests. This is of practical importance as market evidence becomes more important in solvency litigation and as directors continue to face important questions of shifting fiduciary duties when the firm becomes insolvent.

Keywords: Solvency, Insolvency, Valuation, Option Value of Equity, Fraudulent Transfer, Preference, Shifting Fiduciary Duties

JEL Classification: G30, G32, G33, K00, K20, K22

Suggested Citation

Heaton, J.B., Positive Equity Prices with Insolvency under Legal Solvency Tests (December 3, 2017). 23 Journal of Forensic Economics, 63-70 (2018).. Available at SSRN: https://ssrn.com/abstract=2872753 or http://dx.doi.org/10.2139/ssrn.2872753

J.B. Heaton (Contact Author)

J.B. Heaton, P.C. ( email )

Chicago, IL
United States
(312) 487-2600 (Phone)

HOME PAGE: http://jbheaton.com

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