Non-Voting Shares Don't Have a Pretty History

When social media giant Snap Inc. went public last week, there was a controversial catch: None of the shares have voting rights. That leaves control of the company in the hands of the two founders, whose “super shares” give them 70 percent of the voting rights. A second class of preferred stock held by pre-IPO investors accounts for the remaining voting power.

While other tech companies like Alphabet and Facebook have experimented with non-voting shares, Snap’s audacious move has more in common with a silverware company from a century ago.

Over the course of the 19th century, corporations experimented with a number of voting regimes for their stockholders. Some gave every investor a single vote, regardless of the number of shares held. Others adopted the now familiar one-share, one-vote rule, which became the norm by century’s end.

The idea of depriving shareholders of the right to vote was rarely entertained. Then came the International Silver Company, when went public in 1898. The new corporation, which merged many small silverware manufacturers, issued 9 million shares of preferred stock, which came with voting rights; and 11 million shares of common stock, which did not.

Though holders of common shares got half-hearted voting rights a few years later (one vote for every two shares) other corporations soon emulated International Silver Company. But it was not until the 1920s that the growing separation of ownership from control raised red flags for reformers.

The man who became the most vocal and effective opponent of non-voting shares was a largely forgotten Harvard economist named William Zebina Ripley. 1 When he became interested in corporate governance in the 1920s, Ripley was startled by the growing popularity of non-voting shares, which enabled small groups of insiders to retain control over public corporations, even when most of the capital came from other investors.

As scholars like Julia Ott, Jason Howell, and Harwell Wells have observed, this problem attracted growing interest at precisely the moment when public participation in the stock market grew at unprecedented rates. Prior to World War I, notes Ott, only 3 percent of Americans held stock; on the eve of the Great Crash in 1929, the number had gone up to approximately 25 percent. Though few of these new stockholders actual invoked their voting rights, Ripley believed that the disenfranchisement of these shareholders would inevitably backfire.

The case that got his attention was the infamous Dodge deal. In April 1925, the banking house of Dillon, Read & Co. bought the Dodge automobile firm for $140 million in cash. It then turned around and took the company public, selling $75 million worth of bonds and $85 million of non-voting preferred stock. But the investment bank also issued a little over $2 million of common stock with voting rights. And this it kept, maintaining control over the new concern.

Ripley decided to do something about what he believed to be a dangerous drift in corporate governance. He delivered an impassioned address before an academic audience at the American Academy of Political Science, railing against changes that he feared “strike at the very tap-root of our capitalistic system.”  Foremost among these “sinister” developments was the proliferation of non-voting stock, with the voting stock remaining in the hands of the investment banks that took the companies public.

Then, as now, professors struggle to influence the world outside academia. But Ripley had a flair for self-promotion, managing to have his versions of his speech reprinted in both the Nation and the Atlantic, widely-read magazines which reached prominent politicians and policymakers.  

Ripley went on the attack in these popular venues, labeling non-voting shares “a bald and outrageous theft.” The idea that a clique of insiders could take a company public with relinquishing any control over the actual managements of the company was unacceptable. “Isn’t it the prettiest case ever known of having a cake and eating it too?,” Ripley, ever the raconteur, wrote.

The New York Times and other papers began covering his attacks, and President Calvin Coolidge invited him to the White House to hear him out. Facing foes as powerful as the public utility magnate Samuel Insull, who accused Ripley of peddling “sob stuff,” and the Wall Street Journal, which dismissed him as old-fashioned and “sentimental,” Ripley stood firm.

If non-voting shares became the norm, the abuses that would follow would invite dreaded federal scrutiny and, inevitably, tighter regulation. “If they don’t clean house,” he declared, “somebody in Washington will make them do so.”

The New York Stock Exchange was swayed. Early in 1926, it declared that while it would not attempt “to formulate a definite policy,” it pledged to “give careful thought to the matter of voting control.” This wasn’t just window-dressing: The NYSE began prohibiting non-voting stocks the same year, though it did not formalize the policy until 1940.

In the intervening years, the stock market collapsed, as did Insull’s empire, which had been built using many of the same tactics deployed by Dillon, Read & Co. in its reorganization of Dodge. The revelations about how non-voting stock was used to keep control out of the hands of the vast majority of shareholders spurred the passage of the Public Utility Holding Company Act of 1935.

The use of non-voting shares did not entirely disappear, but it went into a significant decline from the 1930s onward. But in the 1980s, it reemerged as a useful tool in fending off hostile takeovers, and after much haggling between regulators, the stock exchanges, and Congress, non-voting shares returned to limited use.

Snap, though, isn’t worried about a hostile takeover. Instead, its decision to raise capital without giving investors any say in the direction of the company seems oddly reminiscent of the controversial practices of the 1920s. The insiders may have changed -- venture capitalists instead of investment bankers -- but the effect is the same.

1. His obscurity may have been earned by his earlier work as a promoter of “scientific racism” at the turn of the century.

To contact the author of this story:
Stephen Mihm at smihm1@bloomberg.net

To contact the editor responsible for this story:
Mike Nizza at mnizza3@bloomberg.net