What do Google and Facebook have in common with the recently listed Snap ? Lofty valuations? Check. Internet companies? Of course. But perhaps less well known is their apparent apathy towards minority shareholders. Snap has the dubious honour of being the first ever US company to IPO shares that have no voting rights at all.
Investors will of course debate the merits of buying Snap, potentially ignoring the fact the company has only ever made losses and instead choose to justify the valuation on the prospect of future growth and the ability to monetise its user base further down the line. However, where there is no room for debate is on corporate governance grounds. Snap’s corporate governance is very poor. Investors are being asked to buy shares that have no voting rights attached giving them zero input into how the company operates. The only course of action available if you disagree with the management is to sell your stake.
As an investor you are a provider of capital and as such you (should) want to know that the custodians of that capital, i.e., the managers of the company, are going to make the correct decisions in terms of how they run the business. You want to understand how they deploy and reinvest capital and indeed whether they will share the resulting profits/cashflows with their investor base. (Snap has been clear on this front – the prospectus stated that it has no intention of paying cash dividends for the foreseeable future.) As an investor you would like a course of redress should the management team start to take decisions that you disagree with be that on an operational, strategic or remuneration level. The way you can do this as a minority investor is by exercising your voting rights to effect change.
A number of technology companies seem to be keen on adopting tiered approaches to their shareholders with the founders of companies retaining the lion’s share of the voting power and therefore dictating who runs the company and indeed how. Snap was listed with a three tiered structure – C-shares have 10 votes per share and are held by the two co-founders, B-shares for early investors and employees come with one vote per share and then A-shares which come with no votes attached at all – A-shares would be the ones the ones typically held by minority investors. The co-founders will retain control even if they step down – their power would only be diluted if they die, or if they sell 70% of their stake in which instance their remaining stake is converted into B-shares. There were of course protests against the structure of this IPO but the lobbying efforts of some of the world’s largest fund managers were in vain.
Snap of course isn’t alone on the naughty step when it comes to controlling and limiting the sphere of power within a company. Google and Facebook for instance have different share classes in place each offering different voting rights, albeit neither of these companies have issued shares with no voting rights. Of course you could argue that having the majority of the power in the hands of the visionary founders of these tech companies is a good thing – however, there is a very real danger investing in companies where there is no oversight or means of redress should one wish to challenge a company’s management.
The precedent set by Snap is perhaps also a portent for future deteriorating governance practices. The US Securities and Exchange commission allows listed companies on the NYSE to issue shares with no votes, or diluted voting power. This is currently an anomaly among most global stock exchanges. Those other exchanges which apply stricter limits on companies from a governance perspective are therefore missing out on very lucrative listings. Alibaba, the Chinese technology giant, for example floated on the NYSE in September 2014 and raised over $20bn and in turn became the third-largest ever IPO. The Hong Kong stock exchange balked at Alibaba’s partnership structure which guarantees control of the board to its 30-person partnership. The Hong Kong exchange is slightly unique in that it operates with a dual purpose – commercial and regulatory – which brings with it an inherent conflict. If the exchange didn’t have this regulatory function it’s very likely that Alibaba would have listed in Hong Kong.
Given the trend of technology companies to IPO with dual share classes, other stock exchanges are beginning to question their approaches, potentially following the lead of the NYSE in prioritising commercial interests over governance concerns. In February, the Singapore Exchange began a consultation process looking at whether it should allow companies to list with multiple share classes and differing voting rights. The UK is also currently undertaking a similar review. We should however provide some balance: not all technology companies choose to structure themselves in this way. A Chinese internet travel company, CTrip, for example chose to list in the US and did so with the usual one share one vote structure. CTrip chose to float on the US market to be compared against other tech giants and also to gain exposure to more tech-savvy investors.
The fact that a number of important stock exchanges are considering changing their stance, allowing companies to list with these multiple share structures, is a deep concern. As long-term investors of capital we would prefer to invest in companies where we can hold the management to account and where we can make our voice heard. Oh Snap! Wouldn’t that be nice?