Dual class shares

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What Are Dual Class Shares?

Dual class shares refer to a company's stock structure in which different classes of common stock carry unequal voting rights. This falls under the broad category of corporate governance and capital structure, as it dictates control and influence within a company. While a typical share of common stock usually grants one vote per share, dual class shares create a hierarchy where certain shareholders, often founders or insiders, possess "super-voting" shares with significantly more votes per share than those held by the general public³⁶, ³⁷. This allows these individuals to maintain control over the company even if their economic ownership, or equity, is a minority stake³⁵.

History and Origin

The concept of dual class shares is not new, with their presence dating back to the early 1900s. The International Silver Company reportedly issued the first multi-class shares in 1898³⁴. Their use became more prevalent in the 1920s, sparking public outcry after a stock issuance by automaker Dodge Brothers, where minority stakeholders with only 1.7% of the common stock held complete voting control over majority shareholders with non-voting shares. This led the New York Stock Exchange (NYSE) to issue a de facto ban on dual class shares in 1926³³.

Despite initial regulatory pushback, dual class share structures persisted, notably with companies like Ford and Hershey maintaining them³². While the "one share, one vote" principle became the default, deviations remained common. In recent decades, dual class shares have seen a resurgence, particularly among technology companies after Google's initial public offering (IPO) in 2004³¹. Companies like Meta (formerly Facebook), Alphabet (Google's parent company), and Snapchat have adopted this structure, enabling founders to retain strategic control and pursue long-term visions without succumbing to short-term market pressures from other shareholders²⁸, ²⁹, ³⁰. Some stock exchanges, such as Hong Kong and Singapore, have even relaxed their "one-share, one-vote" mandates to attract these companies²⁷.

Key Takeaways

• Dual class shares grant disproportionate voting rights to certain classes of stock, typically held by founders or insiders.
• This structure allows controlling shareholders to maintain significant influence over a company's strategic direction, even with a minority economic stake.
• Proponents argue dual class shares foster long-term vision and stability, protecting companies from short-term market demands.
• Critics contend that they can entrench management, reduce accountability to public shareholders, and create an "inferior class" of investors.
• Many prominent technology and media companies utilize dual class share structures.

Interpreting Dual Class Shares

Interpreting dual class shares primarily involves understanding the distribution of voting rights and its implications for corporate control. When a company has dual class shares, it means that not all shares carry equal weight in shareholder votes. For instance, Class A shares might have one vote per share, while Class B shares held by insiders could have 10, 20, or even 100 votes per share²⁶. This effectively means that those holding the high-vote shares can control the board of directors and major corporate decisions, even if they own a smaller percentage of the company's total equity²⁵.

For investors, this structure suggests that their ability to influence company policy through traditional shareholder voting is significantly limited, regardless of their financial investment. It can also impact how public companies respond to market pressures or institutional investors seeking change.

Hypothetical Example

Consider a hypothetical technology startup, "InnovateCo," which decides to go public with a dual class share structure.

InnovateCo issues two classes of common stock:

• Class A Shares: These are offered to the public in the initial public offering (IPO), with each share carrying one vote.
• Class B Shares: These are retained by the founders, their families, and early key executives, with each Class B share carrying 10 votes.

Imagine that InnovateCo issues 100 million Class A shares and 10 million Class B shares.

• The total economic interest for public shareholders through Class A shares is 100 million shares.
• The total economic interest for founders through Class B shares is 10 million shares.

However, when it comes to voting power:

• Class A shares contribute 100 million votes (100 million shares * 1 vote/share).
• Class B shares contribute 100 million votes (10 million shares * 10 votes/share).

In this scenario, the founders, despite owning only about 9% of the total shares outstanding (10 million Class B shares out of 110 million total shares), control 50% of the total voting power. This allows them to effectively direct the company's strategy and make key decisions, such as electing the board of directors, even if a large number of public shareholders disagree. This structure ensures that the original vision of the company can be maintained as it scales and brings in outside investment.

Practical Applications

Dual class shares are predominantly found in specific sectors, especially among technology and media companies. This structure is often adopted by founders who wish to maintain control and pursue long-term strategies without being swayed by short-term market pressures or the demands of shareholder activists²³, ²⁴. Notable examples include Alphabet (Google), Meta (Facebook), and The New York Times, where the use of dual class shares has been instrumental in allowing founding families or key individuals to steer the company's direction²².

For investors, understanding a company's capital structure, including the presence of dual class shares, is crucial for assessing potential influence and the nature of their investment. While companies with this structure can raise significant capital from public markets, the ordinary shareholder may have limited voting rights. The Council of Institutional Investors (CII) has been a vocal advocate for "one share, one vote" as a core principle of good corporate governance, arguing that public investors should have voting power proportionate to their holdings. The CII actively lobbies for "sunset" provisions that would convert dual-class shares to a single class within a set timeframe, typically seven years after an IPO²⁰, ²¹.

Limitations and Criticisms

Despite the stated benefits, dual class shares face significant criticism, primarily centered on concerns about corporate governance and shareholder rights. Critics argue that they subvert the fundamental principle of "one share, one vote," creating an "inferior class" of shareholders with limited or no influence¹⁹. This disproportionate power can lead to an agency problem, where the interests of controlling shareholders might diverge from those of the wider public investor base¹⁸.

The insulation provided by dual class shares can entrench management, potentially making them less accountable to external pressures and increasing the likelihood of self-interested decisions¹⁶, ¹⁷. For instance, studies by the Harvard Law School Forum on Corporate Governance have indicated that companies with dual class share structures may face less shareholder opposition to executive pay practices, even when adjusting for insider voting influence¹⁵. While proponents suggest these structures allow for long-term vision, critics highlight the risk of managerial complacency and a lack of responsiveness to market signals¹⁴. The Council of Institutional Investors (CII) and other institutional investors have actively campaigned against these structures, advocating for time-based "sunset" clauses that would automatically convert superior voting shares to a single class after a specified period¹², ¹³. Academic research has suggested that while dual-class companies might experience a value premium initially, this advantage can fade to a discount after approximately seven years¹⁰, ¹¹.

Dual Class Shares vs. Preferred Stock

While both dual class shares and preferred stock involve different types of shares, their primary distinctions lie in their purpose and the rights they convey. Dual class shares primarily relate to different classes of common stock that grant unequal voting rights to specific shareholders, often founders or insiders. The main objective of dual class shares is to maintain control over the company's strategic direction and decision-making, even when a significant portion of the company's equity is sold to the public⁹.

In contrast, preferred stock typically has no voting rights (or very limited ones), but it offers preferential treatment in terms of dividend payments and claims on assets in the event of liquidation⁸. Preferred stockholders usually receive fixed dividends before common stockholders, and they have a higher claim on company assets if the company goes bankrupt. The purpose of preferred stock is generally to provide a more stable income stream and a safer investment profile than common stock, rather than to grant control.

FAQs

Why do companies issue dual class shares?

Companies, particularly in the technology and media sectors, often issue dual class shares to allow founders and key executives to retain control over the company's vision and strategic direction even after going public⁶, ⁷. This structure helps them pursue long-term goals without immediate pressure from the broader public shareholder base focused on short-term financial results.

Are dual class shares common?

While the majority of public companies in the U.S. operate on a "one share, one vote" principle, dual class share structures have become increasingly common, especially among companies conducting an initial public offering⁴, ⁵. Nearly one in four U.S. companies that went public in the first half of 2021 did so with a dual class structure³.

What are the main concerns with dual class shares?

The primary concerns revolve around corporate governance. Critics argue that dual class shares can reduce accountability to public shareholders, entrench management, and create an imbalance where a small group of insiders can control the company despite holding a minority economic stake. This can lead to a lack of checks and balances within the company¹, ².