The initial public offering (IPO) parade is rolling on. Each week it seems a new unicorn takes the plunge. The most recent entry is Slack, a collaborative communications platform, that went public in a direct public offering offering, the second since Spotify.
Lost in the hoopla is the systematic degradation of public markets, shareowner rights and corporate governance standards many of these deals bring to the market.
A closer look at Slack’s prospectus shows it went public with a so-called dual-class share ownership structure, a modern classic among unicorns that tap the public markets.
In the deal, the new public investors got so-called Class A shares, while the majority of founders and early investors, primarily venture capital firms, own Class B shares. The Class B shares have 10 times the votes Class A shares have, meaning that public investors were muted right out of the gate.
These dual-class structures have the same unpleasant odor of the so-called poison pills used by entrenched management teams of decades past to thwart a variety of shareowner actions and unwanted takeovers.
Another important difference is that poison pills were event driven. Dual-class structures are not so choosey. They preemptively embed founders’ iron clad control right up front, with little or no recourse, ever.
Slack joins a concerning list of companies unconcerned about shareowner rights with names like Google, Blue Apron, Facebook and Snap.
Pinterest, a less-well known member of the "stick-it-to-them" club, recently sold a dual-class structure that left 99.2 percent of the voting power of the company in the hands of its Class B shareowners even though public investors contributed nearly half of the company’s post-IPO net equity. They were Class A shares in name only, relegated to a tiny grub stake when it came to voting.
This shareowner malady appears to be more of a regional phenomenon than one relegated to high-tech firms. On that score, even Levi Strauss, a decidedly non-tech company, left 99 percent of the voting shares in the hands of the controlling family after its IPO earlier this year.
Dual-class structures are invariably justified as permitting innovative entrepreneurs and digital industrialists who built their companies from the ground up philosophical room to grow their companies even more. The theory goes that leaving these companies in their capable hands will ensure further progress as a public company.
In many cases, however, so-called “insiders” are not really the entrepreneurs or the company visionaries at all. They’re just the people who provided the money. In the case of Slack, more than 50 percent of those mythologized “insiders” were venture capital and other institutional funds.
Adding insult to injury, Slack didn’t raise any fresh capital in it’s IPO. All of the shares sold to public investors came from existing shareowners. Going public, once the crowning achievement for an emerging growth company, has been reduced to a liquidity event for venture capital firms.
The victim of the dual-class frenzy is sound corporate governance and, by extension, the rights of shareowners who are not insiders or founders. We are concerned that these ownership structures undermine the decades of progress made with respect to accountability for officers and directors.
In this new scenario, public capital providers are completely disenfranchised. There are no checks or balances on entrenched management or crony directors to misuse those outside shareowners’ money.
This is a probably just a minor distraction to the short-term IPO flipper. Speculation on day-one trading is time-tested and completely untethered from financial analysis and long-term value.
Worse, large pension funds, endowments, activist funds and even mutual funds, which by their very architecture must defend and promote sound corporate governance, are demonstrating a troubling trembling-of-the-knees personality change.
These once-stalwart defenders of corporate governance in public markets now are looking the other way. They regularly buy and own stakes in these private companies well before the IPO and then benefit handsomely from a liquidity event.
Unfortunately, the price of this tolerance is the degradation of public markets and governance standards they once championed.
Dual-class shares, and the demand among investors for the companies that maintain them, are borne of the free market. Just as many companies fail in free markets due to poor ideas, poor ideas should not mean unfettered trampling of investors and the protections established to maintain trust in markets.
Our economy and standing in the world were built on markets with integrity, long-term opportunities, the rule of law and the fair treatment of shareowners. We are on the brink of jeopardizing those principles.
Kurt Schacht is the managing director of the CFA Institute.