Insiders Are Winning The Battle For The Board

Is the rise of dual class shareholding threatening the ability of boards to make independent and well-thought-through decisions? Jackie Cook thinks so

Ruth Saldanha 18 January, 2023 | 10:07AM
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Ruth Saldanha: One of the main pillars of good governance for companies is an effective, trustworthy and independent board. An independent majority on the board is more likely to consider the best interests of shareholders first, foster independent decision-making, and mitigate conflicts of interest that may arise. Put another way, independent boards can and should take steps to ensure that insiders and executive owners are unable to exercise undue control over the board's activities and decisions. But is this pillar eroding, especially with dual share classes? Jackie Cook is Director of Stewardship Product Strategy & Development at Morningstar Sustainalytics. She's been tracking how the power of insiders has grown with the use of dual share class structures and how this is playing out in AGMs as shareholder proposals come up for vote. She's here today to talk about some of her findings. Jackie, thanks so much for being here today.

Jackie Cook: Thank you, Ruth. It's nice to join you.

Saldanha: We all agree that board independence is important, but you've indicated that there's a trend where this is under threat. Can you tell us a little more about what you're observing?

Cook: Yeah. So, you're absolutely right. One of the first things you look for when evaluating corporate governance of a company is how independent is the board. And of course, we know the boards can function very differently depending on some of the softer factors, like diversity and leadership and board fee arrangements. But one of the really important factors that influence board independence is the ownership structure of the firm. And so, we're talking today about dual class share structures, and this is where a class of share owners, often insider founders or descendants of the family of insider founders, typically have outsized voting rights in relation to public market shareholders. And several markets recently in recent years have relaxed their listing requirements around dual class share structures. And this is typically aimed at making the market more attractive for IPOs. But dual class share structures are something that really trouble investors, minority investors. So, some of the markets that have relaxed their listing standards are Hong Kong, Singapore and the U.K,'s premium market. But if we look at the U.S. market, where dual class share structures are being allowed for a long time, there has recently been a spate of high-profile listings, and these tend to be more high-growth companies, smaller companies with dual class structures.

Saldanha: You've used the word troubling a couple of times. Can you tell us why you find this trend troubling?

Cook: So, these are a lot of debates around dual class listings, and for some kinds of companies like high-growth companies, founder-led, this arrangement can give the founder a breathing space to execute on a vision. But institutional investors, who typically take minority positions in public markets, don't like dual class shares, and this is because they skew the relationship between ownership and control. And it makes it effectively not as easy to ask the underperforming CEOs or underperforming board members. With superior voting rights insiders often have more of an influence over pay practices, so investors have less opportunity to influence pay practices. They may not be given as frequent say on pay votes. And importantly, it's more difficult to get strong support for shareholder resolutions when you've got a strong voting control by an insider.

When you look at Meta, for instance, which has a dual class share structure, we calculated five of the shareholder resolutions that came to vote in 2020 would probably have earned majority shareholder support from independent shareholders but for the control of the Class B shares with 10 votes per share. So, average support across 53 shareholder resolutions at dual class companies in 2022 was 22 percentage points higher if you calculate only the independent shareholder support.

So, some of the governance concerns compound over time, and the reason for having a dual class share structure erode over time. So, some companies have generations of insider control and outdated governance practices. But the big picture is, weak governance is an investment risk. We know from history that weak governance practices can even create systemic problems across markets.

Saldanha: Some markets, like Canada for example, have had dual share classes for many years now, and this has led to some bad outcomes for consumers in the forms of higher prices, but some pretty good outcomes for investors in the forms of, say, higher dividends for example. So, how do these two things reconcile, do you think?

Cook: So, academic research shows that often the benefits to investors are really for young companies. And as a company matures, the premium that might come from a dual class listing erodes over time. But one of the ways in which shareholders try to get the best of both worlds is by insisting that a company set sunset provisions, which is a time bound or event bound horizon for ending control imbalance. So, that's one way around giving markets an opportunity to benefit from high-growth IPOs while at the same time protecting against these long-term governance concerns. So, for instance, the Council of Institutional Investors, which is the U.S. institutional investor representative body, advises that IPO-ed companies set sunset provisions of seven years or less. But this power imbalance can also be accounted to some extent by minority shareholder protections and transparency. We're strong advocates for transparency, particularly in reporting vote results. So, most shareholder resolutions in the U.S. are advisory. But if we knew what the independent shareholder level of support was for a shareholder resolution, it would increase its signaling value.

Saldanha: We've talked a little bit about shareholder resolutions and shareholder proposals. Now, if companies don't seem to much care about the outcomes of these votes, especially in cases where insider votes are high, what kind of escalation tactics do shareholders have in these circumstances?

Cook: So, shareholders can still file shareholder resolution inside companies of dual class share structures, and these table the issue, so they get discussed, and more of us are now calculating an estimated independent shareholder support for a resolution. So, we can get to that signal that shareholder resolutions offer. So, other ways in which investors can advocate or advocating for minority shareholder protections and importantly, joining with other investors to raise concerns. Recently, or in June last year, an investor coalition called Investor Coalition for Equal Votes, U.K, U.S. asset owner coalition was launched. It's an informal coalition, but it advocates for protections in the case of dual class shares, and it advocates against dual class listings or dual class listings, especially without sunset provisions.

Saldanha: Great. Thank you so much for joining us with your perspectives today, Jackie.

Cook: Thanks, Ruth. Great to chat.

Saldanha: For Morningstar, I'm Ruth Saldanha.


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Ruth Saldanha

Ruth Saldanha  is Senior Editor,


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