What Is a Dual Class Stock?
A dual class stock is when a company issues two share classes. A dual class stock structure can consist of Class A and Class B shares, for example. These shares can differ in terms of voting rights and dividend payments.
When multiple share classes of stock are issued, typically one class is offered to the general public, while the other is offered to company founders, executives, and family. The class offered to the general public often has limited or no voting rights, while the class available to founders and executives has more voting power and often provides for majority control of the company.
- A company or stock with a dual-class structure has two or more classes of shares with different voting rights for each class.
- Typically insiders are given access to a class of shares that provide greater control and voting rights, while the general public is offered a class of shares with little or no voting rights.
- Supporters say these types of structures allow the people who founded and who currently run the company to think long-term, rather than be at the mercy of shorter-term investors who want to see bigger profits right away.
- However, dual-class structures are controversial because they do not allow public shareholders a say in running the company and distribute risk unequally.
Understanding a Dual Class Stock
Designed to give specific shareholders voting control, classes of stock with unequal voting shares may be created to satisfy owners who don't want to give up control, but do want the public equity market to provide financing. In most cases, these so-called super-voting shares are not publicly traded and company founders and their families are most commonly the controlling groups in dual-class companies. Although there is no standard nomenclature for multiple share classes, Class A shares are normally superior to Class B shares. In other cases, though, the reverse is true. That's why investors should research the details of a company's share classes if they are considering investing in a firm with more than one class.
Well-known companies, such as Ford and Warren Buffett's Berkshire Hathaway, have dual class stock structures, which provide founders, executives, and family the ability to control majority voting power with a relatively small percentage of total equity. The dual class structure at Ford, for example, gives the Ford family control of 40% of the voting power, while owning only about 4% of the company's total equity. An extreme is Echostar Communications CEO Charlie Ergen's, who holds 5% of the company's stock, yet controls around 90% of the vote with his powerful Class A shares.
Technology companies are especially fond of a dual-class structure because it allows tech startups to access public capital without sacrificing control.
While they've become popular in recent times, dual-class structures have been around for some time in various forms. The New York Stock Exchange (NYSE) banned dual-class structures in 1926 after an outcry over automotive company Dodge Brothers' public offering, which consisted of non-voting shares for the public. But the exchange reinstated the practice during the 1980s in the wake of competition from other exchanges. Once shares are listed, companies cannot reverse any voting rights attributed to the new class, or issue any classes of shares with superior voting rights.
Approximately seven percent of U.S. companies in the Russell 3000 Index had a dual- or multiple-class structure, according to a Harvard Law School study.
In recent times, the number of companies opting for a dual-class structure during listing has multiplied. In particular, technology startups listing on public markets use this strategy to retain control over their outfits. Alphabet Inc.'s predecessor Google is the most famous example of this trend. Many were frustrated at Google’s IPO when the now-internet giant, boasting a market capitalization among the top thirty worldwide, issued second Class B shares to founders with 10 times the amount of votes as ordinary Class A shares, sold to the public.
Several stock indexes have stopped including companies with dual-class structures into their indices. The S&P 500 and FTSE Russell are examples of this trend. Stock exchanges in Asia have moved to take advantage and have relaxed their rules regarding listings of companies. The Hong Kong Stock Exchange, which has now begun allowing dual-class structured stocks, and Singapore's stock exchange are examples of Asian exchanges competing with their Western counterparts for companies with such stock structures.
With multiple share classes, one might be offered to the company founders, executives, and their friends and family, while the other is offered to the broader investing public; the class made available to the general public typically has little or no voting power. Investors should not, however, assume that buying Class A shares makes them insiders or maximizes their voting power.
Dual Class Stock Controversy
Dual class stock structures are controversial. Their supporters argue that the structure enables founders to demonstrate strong leadership and the placing of long-term interests over near-term financial results. It also helps founders retain control over the company as potential takeovers can be avoided through their supermajority voting shares. On the other hand, opponents argue that the structure allows a small group of privileged shareholders to maintain control, while other shareholders (with less voting power) provide the majority of the capital. In effect, there is an unequal distribution of risk. The founder is able to access capital from public markets at minimal economic risk. Shareholders carry a major part of the risk related to strategy. Academic research has proved that powerful classes of shares for insiders can actually hinder long term outperformance.
A middle path has been suggested by another group of shareholders. According to them, the effects of a dual-class structure can be limited by placing a time-bound restriction on such structures and allowing shareholders to accumulate voting interest over time.
Examples of Dual-Class Structures
As mentioned earlier, Alphabet subsidiary Google is the most famous example of a company with a dual-class structure. When it listed in 2004, the search giant unveiled three classes of shares in its offering. Class A shares were reserved for regular investors and had one vote per share. Class B shares were reserved for founders and executives and had 10 times as many votes as those for other classes. Finally, Class C shares were for employees and class A shares and had no voting rights.
Other examples of companies with dual-class structures are Facebook, Zynga, Groupon, and Alibaba.