Final answer:
The new law making takeovers impossible may lead to decreased shareholder value due to potential mismanagement and inefficiency, as firms might retain excess cash without sufficient investment opportunities. Alternatively, it could allow firms to pursue long-term strategic initiatives without the immediate pressure of takeover threats.
Step-by-step explanation:
When a law is passed that prohibits corporate takeovers, the value implication for a firm with excessive free cash flow and limited investment opportunities can be significant. Without the threat of a takeover, the firm's management could feel less pressure to pay out excess cash to shareholders and might choose to retain these funds internally. This can lead to a decrease in shareholder value if the retained cash is not invested effectively due to a lack of adequate investment opportunities or due to inefficient management. However, it also means that the firm is less likely to be compelled to make short-term decisions to appease corporate raiders or to prevent a takeover.
Management may prioritize other uses of funds such as stock buybacks, dividends, or they could hoard cash which might not always align with shareholder's interests for growth or efficient capital allocation. Additionally, the absence of the takeover threat could, in theory, reduce managerial discipline, giving rise to potential management inefficiencies or empire-building at the expense of shareholder value. However, some companies may use this newfound protection to invest in long-term strategic initiatives that could ultimately increase firm value.