Despite the relentless push towards corporate governance, one trend is going against the tide, threatening the old rule: “one share, one vote”.
Regulators are rethinking their rules by letting firms issue controversial dual class shares. Companies that adopt this structure will issue two types of shares to give preferential rights to one set of shareholders.
While one share class is available to the general public, company founders and executives have access to the superior set – which offers greater voting power, and can even provide more in the way of dividends.
Advocates for dual class shares suggest that allowing executives to maintain control through enhanced voting rights means companies can operate with a long-term view, diluting the voice of “normal” investors who are often criticised for putting too much weight on short-term results.
But this system also garners a lot of criticism from those who argue that it gives a tiny cohort of shareholders preferential treatment, therefore discriminating against public investors who provide most of the capital. The one share, one vote principle certainly seems the best structure to ensure managers are held accountable for their actions.
Until recently, most major stock exchanges (New York being the exception) have been against these controversial share classes. But increased competition for initial public offerings (IPOs) has put pressure on other markets around the world, and some Asian stock markets are now succumbing.
Back in 2014, the Hong Kong regulator rejected the listing of Alibaba on the stock exchange because the company wanted its founders to have preferential rights, spurring the ecommerce giant to float on the New York Stock Exchange instead.
Hong Kong has since been forced to reform its rules over concerns that it will miss out on more IPOs, and is currently drafting a set of rule changes which are up for consultation.
It was Google that started this trend for dual class structures back in 2004. Since then, US tech giants – including the likes of Facebook – have all opted for this system. In fact, social media company Snap has taken it to the extreme by offering shares to the public that have no voting rights whatsoever.
The surge of global tech companies emerging out of China has put this issue high on the agenda for stock exchanges in both Hong Kong and Singapore, which are competing with the US for some hotly anticipated stocks.
But this pressure is not just limited to Asian markets, because even in the UK, the Financial Conduct Authority is consulting on a new premium listing category to accommodate sovereign-controlled companies.
Unsurprisingly, corporate governance supporters are trying to push back against these proposals.
It certainly seems inconsistent for market watchdogs to be supporting better stewardship codes, and in the same breath allow for stock exchanges to weaken their governance structures.
This is echoed by Hans-Christoph Hirt from Hermes Investment Management, who says regulators and governments must create a framework that benefits the companies, and not the commercial success of a stock exchange.
Hirt warns that steering away from adequate shareholder rights is a growing problem, not just among tech firms, but with established companies too. “Our experience suggests that at some point in the life of a company, things will go wrong, and at companies – such as US technology company Snap – investors will have no means to intervene and address problems.”
But another thing to question is whether it makes sense to give someone superior rights just because they are founders.
“Is it a steady state for founders to hold the rights continuously until they retire?” Hermes’ Christine Chow asks. “What if, during that period, they become less involved? These rights should be earned every year, and should be subject to an advisory vote, similar to remuneration.”
But one way round this is to put so-called “sunset provision” in place. This is suggested by the director at Hermes EOS, Tim Goodman, who says: “If listing rules allow companies to list with differential voting rights, these should be time-bound and provide adequate safeguards for investors.”
Of course, investors who buy individual companies can choose not to buy dual class stocks. But the rising popularity of index-tracking investments means passive investors are left with no choice but to buy into companies where some executive decisions cannot be scrutinised. Fortunately, however, some passive providers are looking at tackling this issue by changing their policies for companies with multiple-class share structures.
It seems at odds for a company to list publicly in a bid to get finance – only for founders to maintain a disproportionate amount of control. Companies shouldn’t be able to have it both ways, and investors need to be wary of firms that opt for this structure.