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Dual-class shares: Is competition for hot listings spurring liberal stance?

The Edge Singapore
The Edge Singapore4/16/2018 08:00 AM GMT+08  • 10 min read
Dual-class shares: Is competition for hot listings spurring liberal stance?
SINGAPORE (Apr 16): On April 3, shares in music streaming service Spotify began trading on the New York Stock Exchange, following a listing exercise that tested the market’s appetite for tech stocks in several ways.
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SINGAPORE (Apr 16): On April 3, shares in music streaming service Spotify began trading on the New York Stock Exchange, following a listing exercise that tested the market’s appetite for tech stocks in several ways.

The Swedish company did not hold an IPO of its shares, and there was no bookbuilding. Instead, the NYSE set a reference price for its shares, based on the price of transactions in the private market. In addition, once sold, the shares now being traded in the public market will not entitle their holders to much say in how Spotify is run. Founders Daniel Ek and Martin Lorentzon hold special beneficiary certificates that will give them almost total control of the company.

None of this seems to have dampened enthusiasm in the market for Spotify. On April 3, the stock closed at US$149.01, much higher than the reference price of US$132. And, it has continued climbing since then. On April 11, it closed at US$149.57, valuing the loss-making company that was founded in 2006 at US$24.6 billion.

Spotify is only the latest in a growing list of internet-related companies that have come to market offering investors the promise of fast growth and eventual profitability, but limited voting rights. Other loss-making companies with dual-class share (DCS) structures that have been listed recently include cloud storage provider Dropbox, social media app maker Snap and e-commerce clothing retailer Stitch Fix.

Companies with DCS structures are not new, and have always been controversial for the outsized voting rights they confer on a small group of shareholders. However, in an era of widespread technological disruption, DCS companies are coming to be viewed as a necessity for visionary entrepreneurs to raise capital from public markets to build the next Facebook, the social media company’s recent troubles notwithstanding. Indeed, three of the four so-called FANG stocks — Facebook, Amazon.com, Netflix and Google (now called Alphabet) — have more than one class of shares. Only Amazon has a single class of shares.

Now, with many of the hottest new listings involving companies with DCS structures, some shareholder rights advocates are sounding the alarm. According to the Council of Institutional Investors, a Washington- based non-profit organisation whose members include pension funds and foundations, almost a fifth of the companies that went public in the US last year had DCS or unequal voting rights structures. CII is among several entities advocating against DCS. Robert Jackson Jr, commissioner of the US Securities and Exchange Commission (SEC), said in a speech in February: “Those companies are asking shareholders to trust management’s business judgment — not just for five years, or 10 years, or even 50 years. Forever.” Jackson wants to introduce a sunset clause for DCS.

Yet, some stock exchanges in Asia are opening their doors to DCS companies in an effort to establish themselves as global capital-raising hubs. On March 28, the Singapore Exchange issued a consultation paper on a proposed listing framework for DCS structures. SGX has invited comments on the paper, to be submitted by April 27. The introduction of such a structure was among the recommendations of the Committee on the Future Economy. By reducing short-term pressures on financial performance, DCS structures purportedly help owners of high-tech companies incubate innovations that require time to develop before generating tangible revenue.

Will allowing DCS companies to list really be a game changer for SGX? What sorts of companies will come to Singapore? Are regulators paying enough attention to the risks?

Pressure to liberalise?

Finian Tan, chairman of Vickers Venture Partners, says DCS companies are a means of sheltering the longterm vision of entrepreneurs from the whims of investors with shortterm horizons. But allowing DCS companies to list here is only one of many things that would contribute to turning Singapore into a capital- raising centre of high-tech companies. “There is nothing inherent in Singapore that prevents us from being a hub for tech companies,” says Tan, an early backer of Baidu. “It, however, needs an entire ecosystem and not just one particular group of stakeholders. When China was the main driver of growth, Hong Kong had a big advantage. With Southeast Asia and India now contributing a lot to the Asia growth story, Singapore stands a chance of being a second hub in Asia if we play our cards right.”

Maurice Teo, a member of CFA Singapore’s Advocacy Committee and the lead writer of CFA Singapore’s response to the SGX-DCS Consultation Paper, says there is an expectation that a DCS framework will draw innovative companies to list in Singapore. “The availability of DCS structures is, however, only part of the equation when it comes to an exchange being the listing destination of choice. Considerations like the tax and regulatory regime, size of investor base, market liquidity and access all play their part in making an exchange a viable choice.”

Teo goes on to point out that Singapore is not the only market that is moving towards allowing DCS companies to be listed. Its arch-rival Hong Kong is doing the same thing. “As different markets race towards introducing DCS structures, it then becomes a common denominator and reduces the need for tech companies to rush to be listed on a specific exchange.”

Amid the scramble to draw the hottest listing aspirants from around the world, some market watchers suggest that bourses in Asia are under pressure to adopt an increasingly liberal stance. Charles Li, CEO of Hong Kong Exchanges and Clearing, admitted earlier this year that missing out on the record-breaking Alibaba Group Holding’s IPO in 2014 forced a rethink of its rules. Hong Kong regulators had refused to give a waiver on Alibaba’s shareholding structure that would have allowed a group of senior executives and founders to control the board while holding only around 13% of the listed company. Subsequently, Alibaba was listed on the NYSE. HKEX has since said it intends to allow the listing of DCS companies and “pre-profit” biotech companies.

Ernest Kan, deputy managing partner for markets at Deloitte Singapore, says: “HKEX — the preferred listing destination of Alibaba — made a costly mistake in 2014 for refusing to accept the technology giant’s governance structure, where a self-selecting group of senior managers control the majority of board appointments. Eventually, Alibaba held its record US$25 billion public float in New York. Jack Ma remains the driving force behind Alibaba today.”

To address the concerns of shareholder rights advocates, safeguards are being implemented. SGX has mooted a maximum of 10 votes per multiple-vote share, rules to ensure an element of independence on board committees, and that some matters be put to an “enhanced voting process” where MV shares have no advantage over one-vote shares. MV shares also cannot be transferred, and they automatically convert to OV shares when an MV shareholder ceases to be a director. SGX plans to allow only companies with an expected market value of $300 million to be listed with a DCS structure. HKSE is considering a much larger minimum market capitalisation for DCS companies of HK$10 billion ($1.6 billion).

Barry Lee, head of capital markets at KPMG Singapore, says the proposed safeguards are enough to manage “expropriation” and “entrenchment” risks commonly associated with the DCS structure. “The non-transfer of MV shares and event-based sunset clause requiring MV shares to be converted to OV shares once the MV shareholder ceases to be a director are rather important safeguard features,” he adds. “In fact, the US SEC is also relooking at this for the next generation of tech companies seeking a listing in the US.”

Quality of listings

According to some market watchers, it is ultimately the nature of the listing aspirants that will matter. “Although DCS structure listings present an opportunity for potential abuse by company insiders, even with the current single-class share structure, we have seen cases of oppression of minority shareholders,” says Deloitte’s Kan. “SGX is making an effort to attract tech companies to list on the bourse as it seeks to become the preferred gateway to Southeast Asia for startups amidst the government’s efforts to be a regional fintech and new technology hub. By implementing DCS, SGX, as a key international exchange, hopes to attract both Southeast Asian companies and overseas companies, especially China tech companies.”

Indeed, SGX ought to ensure that the rules are tuned for such young tech companies to go public. This would go beyond just introducing the DCS framework.

Singapore is always refashioning itself as a financial centre; the new companies setting up in Singapore and raising series funding tend to be in the tech space, including fintech, notes Farhana Siddiqui, a partner at law firm Withers KhattarWong. She says, “If DCS listings are a means of attracting quality tech companies to list here, then is having the $300 million market capitalisation requirement necessary to attract tech unicorns or other fintech companies that are at a growth stage? Having ease of setup and creating more opportunities and incentives for investment should create greater possibility for these fintech companies to seek a listing in Singapore.”

It is also important to have a large enough public investor base willing to back the growth plans of these companies. Choo Oi Yee, head of investment banking for Singapore at UBS, says: “Any company choosing a listing venue has to consider its geographical exposure, the support of the regulations, comparable companies as well as investor appetite. High-growth technology clients have the added complexity of articulating and positioning a business model that is potentially disruptive, which requires intensive investor education.”

Of course, the companies that are listed have to deliver too. “People will not keep believing if there is no light at the end of the tunnel,” says Tan of Vickers Venture Partners. “There are many metrics that can be used to measure whether a company is progressing towards the end-goal of profitability and profitable growth. At the end of the day, it is not the exchange’s responsibility to guarantee the success of any company. Caveat emptor. The key is to ensure that there is transparency. Let the price fall or rise as it should based on performance.”

Catching the wave

Abel Ang, CEO of Accuron MedTech, a medical device maker and a technology investor, expects to see more technology companies being spawned in the region and sees many of them seeking suitable markets to list. “I continue to be bullish about the prospects for technology companies in Singapore and the region. More specifically, I believe that we are at the cusp of a ‘Golden Age’ of medtech start-ups in Southeast Asia. Within the next few years, we will see successful Southeast Asian medtech start-ups succeed on the global stage and make a real difference in global healthcare,” he says. “If the DCS topic becomes a hygiene factor for a hot tech listing, and the founders have the choice of going to Nasdaq or HKEX, it would be a shame if SGX were not able to provide a competitive offering.”

SGX appears ready to ensure that it catches the wave of new tech companies expected to come to market. Loh Boon Chye, CEO of SGX, said in January that the DCS rules would be ready in the first half of this year, and the first listing would follow shortly after.

“Our proposals are for companies that can demonstrate to us that the DCS structure offers it the best chance of success. Our starting point is therefore about providing a capital structure suited to companies that want to be able to raise substantial funds to grow quickly while retaining the freedom to focus on long-term goals,” says a spokesperson for SGX.

“As an international market with a strong innovation cluster, Singapore is a melting pot of entrepreneurs and growth companies.

“We see a trend of New Economy companies such as ClearBridge Medical, Ayondo and Y Ventures raising funds for future growth through a listing in Singapore, and look forward to supporting all companies, local or foreign, that see DCS structures as a means of offering the best chance of success.”

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