A significant issue regarding the corporate governance of public companies arises from questions regarding the optimal role of shareholders in navigating a company’s direction. The one share, one vote view of the world posits that shareholder democracy is best achieved when the division of control amongst shareholders holds true with the division of economic ownership. In contrast, a number of major corporate players have governance and share ownership structures that allow certain classes of shareholders a disproportionate amount, relative to their economic ownership, of control with respect to strategic decision-making. While these kinds of structures may initially appear contradictory to notions of shareholder democracy, in certain cases they may well be critical to achieving long-term success, and therefore long-term shareholder value, and should not be dismissed or disallowed outright.
In September, Alibaba Group Holding Ltd. will hope to make history with the largest ever IPO in the US. Yet, this precedent-setting move in the US may never have been a possibility if Alibaba had been granted its reported preference to be listed on the Hong Kong Stock Exchange. The listing was not permitted apparently because Alibaba’s plans to allow a small partnership of the company’s founders to nominate a majority of its board members was contrary to the exchange’s one share, one vote policy.
Unlike the Hong Kong exchange, US exchanges permit dual-class shares, or share ownership structures with classes of shares that hold discrete voting rights. Google, Facebook and Groupon are but some examples of companies in which the shares held by certain shareholders, including the founders, have more per-share voting power than shares that are otherwise available for public trading. While Alibaba’s proposal differs from a conventional understanding of dual-class shares—it seeks only to elevate the power of the founding partners to nominate a majority of the board, without giving them more than one vote per share—the underlying purpose is the same: to allow a small number of individuals responsible for the company’s initial success to have predominate influence over its long-term direction.
Perhaps counter-intuitively, dual-class voting may well serve the interests of achieving and maintaining long-term value for the general body of shareholders by, for instance:
(i) permitting those responsible for the relatively quick success achieved by some start-ups to continue implementing the vision and strategy that created such success in the first place;
(ii) providing a built-in governance mechanism that can help defend against tactical or activist investors looking to create and benefit from unlocking short-term value at the expense of a company’s long-term success; and
(iii) separating economic ownership and control in order to ensure compliance with legislative or regulatory requirements.
Of course, the strategic aims of a dual-class share structure should not hinder a key underlying purpose of shareholder democracy—to serve and preserve value for shareholders. Accordingly, companies that establish different voting classes of shares should ensure full compliance with their disclosure obligations, as only then will shareholders and the market be sufficiently informed to properly value non-voting vs. voting shares.
Additionally, a company must be aware that a dual-class share structure may eventually exhaust its strategic value and it must be prepared to take steps to ensure that its share structure does not unnecessarily hinder value from being unlocked for the benefit of its shareholders. A leading example of this kind of corporate governance self-awareness is the effort TELUS Corporation undertook in 2012 to collapse its dual-class structure when it was no longer justified under the regulatory scheme in light of TELUS’s shareholder composition.
Undoubtedly, determining whether or not dual-class shares may serve the interest of shareholders is a fact-specific enquiry that is contingent on, among other things, the company and its board and management, the nature of the industry and the often unpredictable direction of market forces. Alibaba’s impending IPO will certainly shed light on how dual-class structures are viewed by internet and technology investors currently, although its record-breaking expectations suggest that the market is generally supportive. Additionally, if such structures start becoming the targets or the tools of activist investors, it is almost certain that the courts will become a key forum for determining the appropriateness of dual-class share structures.