The Blue Sky Allure of Weighted Voting Rights?
After some hiccups earlier this decade, talks of permitting the listing of companies with dual-class share (DCS) structures have gained traction in Hong Kong and Singapore, two major financial centers in Asia.
For Singapore, the missed opportunity of hosting Manchester United’s (ManU) listing in 2012 drove the government to undertake a comprehensive review of Singapore’s Companies Act was endorsed by the Parliament in 2014, paving the way for the listing of companies with DCS structures.
In Hong Kong, Charles Li, the chief executive of the Hong Kong Stock Exchange (HKEx), recently admitted that the IPO of Alibaba on the New York Stock Exchange (NYSE) in 2014 had led HKEx to rethink the viability of introducing the DCS structure to Hong Kong. The NYSE’s Companies rule allowed certain shareholders to have outsize influence over their board’s decisions relative to their economic exposure in the company’s stock.
In recent years, the governments of Singapore and Hong Kong have been advocating for more investments in the high-tech sector. Global stock markets are reaching new highs, due in part to the soaring prices of technology stocks listed on various stock exchanges. An increasing number of high-tech companies are listing on exchanges where more favorable voting terms for founders and management teams are allowed. As exchanges increasingly compete on a global basis, large issuers very often take their IPO business elsewhere if the rules do not suit them. Against this backdrop, allowing the listing of companies with DCS structures appears to be a logical move from the perspective of business development.
Exchanges Motivated to Introduce DCS Companies
Indeed, government officials in Singapore and Hong Kong have voiced their support for the introduction of companies with DCS structures to enhancing the competitiveness of their financial sectors and economies. Understandably, with lucrative fees and the prestige of being home to some of the most sought-after companies in the world, economic, reputational, and business benefits are at stake.
Take Alibaba as an example. The huge costs incurred in its 2014 listing have benefited bankers (US$300.4 million), lawyers (US$15.8 million), and other professionals. Moreover, the NYSE continues to reap the benefits from Alibaba’s enormous trading volume (e.g., the 90-day average trading volume was about 20 million shares, or some US$3 billion per day as of 13 February 2018). As several unicorns are expected to seek public funding in the not-too-distant future (e.g., Xiaomi, WeLab, Lufax, Ant Financial Holdings), officials in both Hong Kong and Singapore are anxious not to have a repeat of Alibaba or ManU.
Building on the support shown by top Hong Kong government officials, including Carrie Lam and Paul Chan, the chief executive and financial secretary of Hong Kong, respectively, the HKEx indicated it plans to permit innovative companies to list with DCS structures as soon as the second-half of 2018. Other proponents of DCS companies include Carlson Tong, the chairman of the Securities and Futures Commission (SFC) of Hong Kong, who noted that about half of the listed technology companies in the United States had adopted multiple-class shareholding structures. In December 2017, Tong said, “If Hong Kong wants to attract these companies [with weighted voting rights structures] to list in its market, we have to find a way to accommodate those that we consider to be of substance and quality.” This is a significant departure from Hong Kong’s historic (since the mid-1980s) prohibition of such listings.
Listing companies with a DCS structure received similar support in Singapore. Approximately a year after Prime Minister Lee Hsien Loong gave his approval to the introduction of DCS listings , Loh Boon Chye, chief executive of the Singapore Exchange (SGX), suggested that that the SGX would allow such listings.
Given these affirmations of support, DCS-structured companies are quite likely to be introduced in both markets in 2018.
Index Compilers Mindful of Potential Risks
Despite the benefits and opportunities highlighted by the exchanges and government officials, there is another side to allowing DCS-structured companies. As the old maxim states, “If something sounds too good to be true, it probably is.” At stake is investor protection and the increasing concerns associated with such companies (e.g., corporate governance, minority shareholder protection), something the index compilers appear to be more attuned to than the exchanges.
In light of Snap’s IPO in 2017 and its issuance of shares with no voting rights, index compilers around the world undertook extensive consultations on the inclusion of nonvoting and/or dual class shares in indexes. Although some tech companies (e.g., Google) have some shares with no voting rights that are listed and traded in the United States, Snap was the first and only company to offer only shares with no voting rights when the company went public. As a result of Snap’s listing — and to avoid investment in the stock by index trackers and other passive investment funds by default without consideration of its share class structure — various index companies launched consultations on the inclusion of such shares in indices. Because passive investment vehicles consisting of ETFs and index funds are expected to exceed 50% of assets under management in the United States by 2024, and continue to gain traction in Asia and Europe, the positions held by these index compilers is significant.
- FTSE Russell concluded that new constituents of all FTSE Russell indexes in developed markets would be required to have no less than 5% of the company’s aggregate voting rights owned by unrestricted shareholders.
- S&P Dow Jones stated that it would not allow companies with DCS structures to be part of some of its high-profile indexes, such as the S&P 500 Index and its small cap and midcap brethren.
- In its consultation paper released in January 2018, MSCI suggested that it would consider the inclusion of equities with unequal voting rights, but would adjust the weights of such stocks so as to reflect the unequal voting rights structures.
These developments signify investor concerns over the inclusion of shares with a weighted voting rights structure in an index.
CFA Institute firmly supports the “one share, one vote” standard. An introduction of a structure that permits disproportionate votes to one group of shareowners will allow a minority shareowner to override the desires of most owners for personal interest. As well, unequal voting rights would weaken the checks and balances between shareholders and management, and immunize management against stakeholders’ critics and accountability, leading to potential entrenchment issues.
Singapore and Hong Kong are currently ranked quite highly in regional corporate governance rankings. In the 2016 CLSA/Asian Corporate Governance Association (ACGA) Corporate Governance Watch — excluding Australia, which was included in ACGA’s survey for the first time — their economies were ranked first and second in Asia, respectively. According to the World Bank’s 2018 Doing Business Index, Singapore and Hong Kong were ranked highly (fourth and ninth, respectively) in terms of protecting minority investors in the 190 economies covered, and were ranked notably higher than some developed markets, such as the United States (42nd) and Italy (62nd) where DCS structures are available. With both exchanges looking to introduce DCS-structured company listings, it remains to be seen if doing so will result in a downturn in their corporate governance rankings.
What is certain is that minority shareholders will be put in a fragile position if DCS listings are introduced in Singapore and Hong Kong. Unlike the situation in the United States, where the framework for litigation is well developed, litigation cases are rare in Singapore and no class action act exists in Hong Kong. As a result, minority shareholder protection is less robust in the Asian markets, and minority shareholder interests will less likely be protected in the two markets if noncompliance with corporate governance requirements is undertaken.
Quite a few companies listed in Hong Kong and Singapore are already tightly controlled, either by the government or by founders and their families. With numerous instances of abuse by majority shareholders, do these exchanges really need to allow structures that are open to abuse?
The question is all the more important in light of the proliferation of passive investments. Regulators should be mindful of the fact that once companies with weak corporate governance practices are permitted to be listed, investors would invest in them by default. If and when things go wrong, investors at large will be hurt and market reputations will be damaged.
Although enhancing competitiveness and profits may be compelling reasons for a change, compromising hard-earned credibility in corporate governance and weakening investor protection is not a sustainable growth strategy. The introduction of the DCS-structured companies will encourage short termism, and deter long-term capital and high-quality issuers from these markets. Hong Kong and Singapore should, therefore, retain the corporate governance gold standard of one share, one vote.
In short, with the potential detrimental impact on overall market integrity, we should not get carried away with the blue sky allure of DCS.
If regulators and stock exchanges submit to the pressure and allow DCS-structured companies so as to attract listings, CFA Institute would support US SEC Commissioner Robert J. Jackson Jr.’s idea to have exchanges eliminate listings of stocks that have perpetual dual-class shares.
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