Are Dual-Class Stocks Good For Your Portfolio?

By Will Ashworth | February 02, 2009 AAA

When I was in my teens, the Canadian government produced a book detailing inter-corporate ownership in Canada. It's still available today. Its pages laid out some extremely labyrinth-like ownership structures, which holding companies used to control vast empires. I found them fascinating and still do.

Unfortunately, fewer companies use the dual-class structure now because of a misguided belief that they reduce corporate governance for other shareholders. However, similar to prescription drugs, how people use them directly affects the results they achieve. Dual-class shares in the hands of visionaries can produce tremendous long-term results. In the hands of the power hungry, however, they can be a ticking time bomb. (Find out how dual-class shares can affect a company's performance. Check out The Two Sides Of Dual-Class Shares.)

Pros And Cons
Two major studies highlight the arguments for and against dual-class share structures. Duke University professors Linda Vincent, Jennifer Francis and Katherine Schipper did a study from 1990-99 examining 205 dual-class companies and 5,764 single-class ones. The perception is that dual-class stocks produce less-reliable earnings than their single-class counterparts. On the flip side, dual-class shares provide a greater consistency of dividend payments. In fact, they found that 59% of dual-class stocks paid dividends compared to 28% of single-class companies. Despite institutional criticism, it's no wonder dual-class stocks had greater ownership by those same critics. Their returns were higher.

Another study, "Extreme Governance: An Analysis of Dual-Class Firms in the United States", this time by professors at Wharton (Andrew Metrick), Stanford (Jpy Ishii) and Harvard (Paul Gompers), looked at dual-class stocks between 1995 and 2002. This study found that where voting rights exceeded economic rights, it was bad for the other shareholders. As an example it noted Ford (NYSE:F) stock generates 15% lower returns due to its dual-class structure. This was before its fall into the Big Three abyss.

Winners And Losers
For every example of their misuse – Ford and The New York Times (NYSE:NYT) – there are plenty of winners. Marc Andreessen, founder of Netscape, has a blog that talks about technology. In a post from May 6, 2008, he discussed his conversion from dual-class hater to dual-class supporter. Originally Andreessen, like most opponents of this type of ownership structure, felt that one share meant one vote. However, upon reflection, Andreessen switched sides, emphasizing that a dual-class structure can help founders build a long-term franchise without worrying about who will make the decisions should it raise additional capital. In his defense, he used the Washington Post (NYSE:WPO) and Google (Nasdaq:GOOG) as examples of companies that work because of this structure, not in spite of it. I couldn't agree more. Who knows a business better than its founders?

Nike Just Does It
Take Phil Knight and Nike (NYSE:NKE). Founded by Knight in 1968, the swoosh rules sporting goods. As of July 25, 2008, it had 96,191,444 Class A shares and 394,220,937 Class B shares outstanding. Each entitled to one vote, Class A shareholders elect nine directors and Class B shareholders elect three. Knight owns 91,910,094 Class A shares, or 95.5% of the class, and 91,923,764 Class B shares, or 18.9%. Knight controls the election of a majority of directors with 37.5% of the equity. That's not insignificant. It's a lot more than the 3.5% equity stake the Agnelli family held in Fiat in 2006, giving it (through a number of holding companies) control of 30.3% of the votes.

Bottom Line
Nike's results speak volumes. Over the past four fiscal years, Nike has grown revenues and earnings per share on an annualized basis of 10.9% and 20.9%, respectively. During this time, its stock appreciated 19.33% annually compared to 5.73% for the S&P 500. The dual-class structure obviously didn't hurt Nike. Approximately 6% of U.S. companies are dual-class. I hope more will come.

For more, read our answer to the investment question Why would a company have multiple share classes, and what are super voting shares?

comments powered by Disqus
Related Analysis
  1. Still More Gains Ahead For Semiconductor Makers
    Stock Analysis

    Still More Gains Ahead For Semiconductor Makers

  2. Looking Ahead to Q3 Earnings Season - Earnings Trends
    Stock Analysis

    Looking Ahead to Q3 Earnings Season - Earnings Trends

  3. Blue Chip Less Than $2 Away From A Breakout 'Buy' Signal
    Investing

    Blue Chip Less Than $2 Away From A Breakout 'Buy' Signal

  4. This Widely-Held Blue Chip Could Pop 8% In 4 Weeks
    Investing

    This Widely-Held Blue Chip Could Pop 8% In 4 Weeks

  5. Unconventional Drilling Still Has Room To Boom
    Stock Analysis

    Unconventional Drilling Still Has Room To Boom

Trading Center