Activist investors are fundamentally changing the investment market. They accumulate enough stock in publicly traded companies to influence who sits on the board, then pressure the management and board to focus on short-term returns at the expense of long-term investment. Facebook’s introduction of non-voting shares last week is a preemptive move to block this sort of intervention.
Currently, Facebook (FB) has a dual-class stock structure, with Class A shares having one vote per share and Class B shares, which its founder Mark Zuckerberg and company insiders own, conferring 10 votes per share. The company intends to issue two Class C shares as a one-time stock dividend, which will grant economic ownership of Facebook, but no voting rights. This structure will preserve founder control, and enables Zuckerberg to liquidate a large portion of his shares to pursue philanthropic interests, yet still retain majority-voting control—without a majority of shares. It also means that, as Zuckerberg put it, “You don’t have to worry about losing your job over a couple of bad quarters or controversial short-term decisions, and that makes it easier to make the decisions you think are correct.” In short, predatory activist investors can’t take control and push him out.
This structure follows a similar approach by Under Armour Inc. (UA) and Alphabet (GOOGL), whose founders also wanted to maintain control of the company’s long-term strategy and decision making. And while this move undermines the principle of ownership by shareholders in public companies, the actions are an understandable reaction to the increasing pressure exerted on companies by activist investors.
In order to gain stock value momentum, investors make demands and threats to use the power they have acquired through their stock position to replace board members, or even entire boards, if action is not taken. In most instances, once the demands are achieved, the activist will “cash in” stock and leave the company—often in worse shape than before their investment. Just look at the recently announced megamerger of DuPont (DD) and Dow Chemical (DOW). The intention is clearly to increase short-term profitability and forego certain long-term strategies by restructuring two visionary companies that have historically benefited from long-term investments to create innovative products.
Because this approach disenfranchises all investors, not merely activist, it has come under heavy criticism. Boston-based NorthStar Asset Management (NSAM), which owns 50,000 shares of Facebook and has $250 million under management, has filed shareholder proposals with Facebook, asking the company to overhaul its share structure so that every share is good for one vote. At issue, according to Northstar, is a bedrock principle of publicly traded companies: accountability to shareholders. Their argument is that if a company intends to “get into everything” and make itself into a “mega-company of the world,” as Facebook clearly does, then it is problematic when it is not accountable to “the very people who made it so wealthy”—and powerful. Moreover, it is the shareholder, according to Northstar, who presses thorny issues, such as boardroom diversity and environmental practices. Facebook’s actions this week curtail, if not end, investors’ ability to do this.
NorthStar has a point. Allowing company founders to block shareholder voting rights appears counterintuitive, even unjust. However, until the activist community is somehow kept in check, which ultimately will be the task of the SEC, we should expect companies driven by visionary founders to protect their long-term interests. Facebook’s introduction of non-voting shares does precisely this.
Charles Kane is a senior lecturer in international finance and entrepreneurial studies at the MIT Sloan School of Management.