A growing number of investors are calling on companies that have adopted shareholder-unfriendly structures to improve their corporate governance framework. Unequal voting rights, the likes of which have been seen in a number of technology companies that have gone public in recent months, have received most of the criticism.
“Of course, you need to give visionary entrepreneurs running room so they can act in the long-term but markets are short-term and managers need to be held accountable if they make a mistake,” said Ken Bertsch, the Council of Institutional Investors’ (CII) executive director, adding however that no-vote shares have no place in public companies.
“This is why we are calling for limitations to this, by introducing time-based sunsets on exceptions to the one share, one vote principle,” he said.
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"We are calling for limitations to this, by introducing time-based sunsets on exceptions to the one share, one vote principle" |
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A number of countries including Germany, the US and South Korea have authorised companies to operate with structures that aren’t popular with shareholders, including those using no-vote shares or dual-class shares (DCSs).
Hong Kong recently amended its listing rules to allow companies with DCSs to list. Stock exchange chief Charles Li admitted that Alibaba’s decision to take its $25 billion initial public offering (IPO) to New York, which has allowed DCS structures since the 1980s, influenced its decision.
KEY TAKEAWAYS
Investor calls are growing against shareholder-unfriendly structures, including dual class shares and unequal voting rights;
A number of countries including Germany, the US and South Korea have authorised companies to operate with structures that aren’t popular with shareholders;
Some so-called new technology companies have come under fire for their use of unequal voting structures or for limiting the input shareholders are able to have when it comes to corporate decisions.
Some of the world’s largest companies have already gone public while using unequal voting rights: Google was one of the most high-profile ones when it carried out its offering in 2004, its DCS structure ran until 2011, with Facebook, LinkedIn, Blue Apron and Snap following suit in recent years.
According to Steve Berexa, global chief investment officer for equities at AllianzGI, founders are getting away with this because they can. “Exchanges’ focus on attracting IPOs and regulators’ lack of concerted effort has resulted in the absence of global standards alongside actions that look like a race to the bottom,” he told the Financial Times.
Agree to disagree?
Some so-called new technology companies have come under fire for their use of unequal voting structures or for limiting the input shareholders are able to have when it comes to corporate decisions.
The issue of special meetings – those called by shareholders outside of the traditional annual general meeting - is drawing greater scrutiny and has seen an increasing number of shareholder proposals submitted. Most of these advocate reducing the threshold from 15 to 25% of shareholders needed to 10 or 15%.
According to Keatinge, the issue of shareholders’ ability to call a special meeting started off on a contentious note at the beginning of the 2018 proxy season. Though, in previous years, there have been instances of conflicting management and shareholder proposals, a number of which related to shareholders’ ability to call a special meeting, the Securities and Exchange Commission’s (SEC) recent determination concerning its handling of conflicting proposals resulted in significant investor consternation during the most recent proxy season.
"After receiving shareholder proposals requesting that they lower their existing special meeting thresholds, a number of companies determined to ratify their current special meeting bylaws and then petitioned the SEC for no-action relief," she said. "Unlike previous years, the SEC allowed these companies, which included CF Industries, AES, JPMorgan and eBay Inc., to exclude the shareholder proposal, so long as they informed shareholders in their proxy statement that a vote in favour of ratifying the existing special meeting right is 'tantamount to a vote against a proposal lowering the threshold'."
Some companies have succeeded in being granted no-action relief from the SEC to oppose such shareholder proposals, if they can prove that these are in direct conflict with those proposed by a company’s management.
The issue has been the topic of much debate for some years, and has accentuated a perception of competition between management and shareholder proposals. The CII notes that ‘although no-actions are not supposed to set legal precedents, they do in fact impact subsequent no-actions. Letting companies game the system would be a huge loss for all’.
"Shareholders have myriad views on the appropriate threshold for shareholders’ ability to call a special meeting: larger asset managers prefer a 25% special meeting threshold," said Keatinge. "However, others in the investment community, Glass Lewis included, believe that a lower special meeting threshold better allows shareholders the very important ability to address matters outside the annual meeting cycle. In most cases, we believe that a 10-15% threshold is desirable."
Inequality for all
Even though DCS have been around for decades, backlash against their use has increased recently. Technology companies, especially, have been on the receiving end of criticism – both for issues relating to corporate governance and content governance.
“It’s not a popular structure for shareholders,” said Courteney Keatinge, director, environmental, social & governance research at Glass Lewis. “If you look at one of MSCI’s proposals to weight securities on the basis of voting power for example, it’s clear why.”
“It used to be only some sectors that had this type of shareholder structure but now it’s new industries that have also adopted them,” she added.
Tesla, for instance, is one company that has come under fire. It has a fairly progressive structure but is viewed as relatively shareholder-unfriendly. Founder and chief executive Elon Musk owns around 27% of the shares in the company and the same level of voting rights. He may not have preferred shares but corporate governance rules mandate that most decisions need a super-majority of shareholder support to be adopted.
Netflix’s own bylaws also require a super-majority vote by all shareholders with outstanding shares for any changes to be approved.
In the case of DCS, there have been investor calls to crack down on the structure. In the case of food company Blue Apron, which went public last year with plans to offer plans to offer class C non-voting shares, a number of investment management companies and shareholder lobbyists spoken out to ensure that this does not become commonplace. SEC commissioner Robert Jackson said that DCSs that don’t sunset were like ‘corporate royalty’.
“If you run a public company in America, you’re supposed to be held accountable for your work—maybe not today, maybe not tomorrow, but someday,” he said.
“There is some evidence that tech companies that have DCS do outperform for a short period of time after an IPO, as founders have a better vision,” said Bertsch. “But even if a company has that type of structure, let’s have a limit on how long it can so at least there is accountability for management.”
See also
Asian exchanges compete for IPOS of new economy companies
Blue Apron no-vote shares IPO concerns investors
Why Snap’s no-vote shares won’t catch on