Markets

David Fickling is a Bloomberg Gadfly columnist covering commodities, as well as industrial and consumer companies. He has been a reporter for Bloomberg News, Dow Jones, the Wall Street Journal, the Financial Times and the Guardian.

Hong Kong and Singapore have been suffering from an inferiority complex.

Stung by the decision of Alibaba Group Holding Ltd. to list in New York instead of Asia, both Hong Kong Exchanges & Clearing Ltd. and Singapore Exchange Ltd. are considering allowing dual-class share structures.

Such setups allow the founders of Alphabet Inc., Facebook Inc. and, soon, Snap Inc., to control their companies despite having only a minority of shares. Permitting these arrangements might help to attract big-name initial public offerings and ensure Hong Kong's and Singapore's enduring importance as financial hubs, according to their defenders.

Like a person contemplating cosmetic surgery to attract a partner, the cities are deluding themselves that they need to change. Instead, what the exchanges really need is a dose of self-respect.

The standard justification for dual-class companies is that founders and senior managers know better than shareholders what's good for shareholders. By looking out for the long-term interests of the business, the cabals running them guarantee better returns than they'd get if they were slavishly following the dictates of the market.

It's a nice story, but there's very little evidence that it's true.

Six of One, Half a Dozen of the Other
On the face of it, there's little to choose between dual-class and single-class shares from an investor's point of view
Source: Bloomberg
Note: Rebased: Feb. 21, 2014=100.

Take a market-capitalization weighted index of the 84 companies with at least $10 billion in annual sales, and dual-class arrangements, and compare it with another index of the 793 $10 billion companies where one share equals one vote.

At first blush, there's not much to distinguish between the two portfolios. With a starting date three years ago, the single-class companies outperformed through most of 2014, and the dual-class ones did better from mid-2015 to mid-2016. Since then they've more or less moved in line.

There's a problem with that comparison, though. Just three giant companies -- Berkshire Hathaway Inc., Alphabet and Facebook -- make up about 30 percent of the dual-class index. That skews the picture.

Take out those three once-in-a-generation success stories, and dual-class companies look a lot worse.

No More Heroes
Without Alphabet, Berkshire Hathaway and Facebook, dual-class shares underperform
Source: Bloomberg
Note: Rebased: Feb. 21, 2014=100. Adjusted dual-class index removes Alphabet, Berkshire Hathaway and Facebook, which make up about 30 percent of the unadjusted dual-class index.

If you'd bought the alternative dual-class portfolio three years ago, you'd have been underwater for 65 percent of the trading days since, compared with 22 percent of days for the one-class index. There wouldn't have been a single day when you outperformed the single-class index.

That's consistent with a 2004 paper for the National Bureau of Economic Research which found that, relative to companies where insiders had to pay for their control by buying a majority of shares, dual-class companies tended to have slower sales growth, weaker investment and lower valuations.

It's hard to see why exchanges are so keen to encourage this practice. Financial self-interest doesn't really cut it: The bread and butter of their businesses is clearing and settlement, with most making less than one-tenth of their revenue from listing fees. 

Bottom of the List
IPO fees make up a small percentage of revenue at most securities exchanges
Source: Bloomberg, Gadfly calculations
Note: Data for 2016 except Nasdaq and HKEX (2015), and LSE (2014).

A better explanation might be that it's simply raw ego. City mayors appear happy to spend billions on streetcar transit systems because they offer a ribbon-cutting opportunity you wouldn't get with a bus network that's cheaper and just as effective.

Similarly, exchange executives may think an erosion of shareholder rights is a price worth paying to ring the bell on the IPO of an Ant Financial, a United Co. Rusal or a Saudi Aramco.

Hong Kong and Singapore should resist this siren call and focus on creating marketplaces run for the benefit of all investors, not just the few.

Giving one group of shareholders an outsized say in the running of a company without making them pay for the privilege goes against the very notion of shareholder democracy. After all, share ownership is meant to be about -- what's that word again? -- equity.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

  1. Alibaba is not technically a dual-class company. It has another way of discriminating among shareholders -- a permanent majority of directors are appointed by Lakeside Partners, a group of about 30 senior Alibaba managers. The partners' interests "may conflict with the interests of our shareholders" and limit their rights, the company warns in its annual report.

  2. Berkshire Hathaway isn't a normal sort of dual-class company, either. The A-shares are as available to outside shareholders as the B-shares. The only difference between the classes is that the B stock offers a cheaper way to buy into the company than the primary shares, which have never been split and consequently cost $251,500 apiece.

To contact the author of this story:
David Fickling in Sydney at dfickling@bloomberg.net

To contact the editor responsible for this story:
Paul Sillitoe at psillitoe@bloomberg.net