Editor’s Note: This and the following two pieces are responses to our January 2, 2019, symposium on dual class shares.
I welcome the opportunity to share a few observations on Professor Coffee’s two CLS Blue Sky Blog posts (here and here) on dual class common stock, and those of professors Gordon, Goshen, and Mitts written in response, from the perspective of a practicing IPO lawyer.
I think it would be helpful for us all to consider the proposition that two private parties might rationally agree that one party will acquire the majority of the cash flow rights in a venture while also agreeing that the other will retain control of the venture. Reasons why the non-controlling party might choose to do this appear to be myriad and self-evident. Should public investors be precluded from making a similar bargain? Recognizing that we condition a listing on a major national securities exchange upon a host of governance-related requirements, is an arrangement whereby public investors receive a majority of the cash flow rights without also receiving ultimate control so normatively undesirable or consistently inefficient that we should preclude them from doing so?
In evaluating the answer to these questions, the following observations may inform our thinking:
- Owners of private companies have many options to achieve their capital and liquidity requirements and other commercial objectives. Precluding them from employing a mechanism that provides them with certainty that they will not lose control without their consent will result on the margin in fewer of them taking those companies public, with the concomitant adverse impact on the investment opportunity set available to Mr. and Mrs. 401(k).
- The IPO process does, in fact, provide a format for balancing the competing interests of the parties. While this may take the form of a reduced price to the high-vote stockholders, as has been discussed in the other posts, it may also take the form of governance undertakings that are made for the benefit of public stockholders, such as assurances as to the composition of board committees or regarding the compensation arrangements of insiders. Private ordering has also already resulted in a varied array of pre-negotiated sunset provisions. In a number of instances, the sunset has been linked to the controlling stockholder or stockholders’ ceasing to own a significant interest in the cash flow rights rather than to an arbitrary fixed time period, thereby more effectively linking the loss of control to a time when agency costs might be expected to be greater.
- We should not lose sight of the fact that the directors of Delaware corporations, whether or not elected by a controlling stockholder and whether or not considered to be independent under the listing standards of the relevant exchange, owe fiduciary duties to the corporation and its stockholders. In this regard, it is worth also noting that there are very meaningful practical constraints on the ability of a controlling dual class stockholder to exercise that control by replacing troublesome directors of a public company.
- Many of the potential issues that have been identified by critics of dual class stock are present in any circumstance where a public company has a majority stockholder or even one with de facto control despite commanding significantly less than a majority of votes. Presumably we all agree that we should not require all controlling stockholders of public corporations to disperse that control over some fixed time period. Should the mere presence of a disparity between voting and cash flow rights necessitate a different position?
- Lastly, and at the risk of responding to a portion of Professor Coffee’s second post that may have been made irreverently as a throwaway, I do think it is an error to analogize the governance of a private corporation to that of a government. Because we should not permit the election of the chief executive of the nation to a lifetime term, it does not follow that we should therefore not permit private ordering of the governance arrangements of public corporations, the failure of any (or many) of which ultimately is not existential.
This post comes to us from Joshua Ford Bonnie, a partner in the Washington, D.C., office of Simpson Thacher & Bartlett.