Hard to escape governance risks of dual-class shares
If the Singapore Exchange (SGX) wants to have dual-class
shares, it will have to avoid some of the missteps by its rival in Hong Kong,
but may ultimately still have to accept higher levels of governance risk in the
marketplace.
Comments
Kenneth Lim
01 September 2016
If the Singapore Exchange (SGX) wants to have dual-class shares, it will have to avoid some of the missteps by its rival in Hong Kong, but may ultimately still have to accept higher levels of governance risk in the marketplace.
The independent Listings Advisory Committee (LAC) has produced a set of safeguards that it believes will be sufficient to address the key concerns about dual-class shares, giving SGX a blueprint to follow should the market operator decide to allow listings with dual-class structures.
LAC's recommendations encouragingly try to avoid some of the flaws that led Hong Kong regulators to pull the plug on Hong Kong Exchanges and Clearing's (HKEX) proposals in 2015.
One of the key criticisms that Hong Kong's Securities and Futures Commission (SFC) had was that HKEX relied on vague thresholds of quality that would require too much subjectivity. LAC wants a more detailed and explicit regime in Singapore, saying that SGX should provide guidance on its expectations for a holistic assessment based on "industry, size, operating track record and raising of funds from sophisticated investors".
LAC also used softer language in addressing the size of eligible companies. The advisory body noted that larger companies or initial public offering (IPO) sizes were more likely to draw sophisticated investors, who could in turn provide some assurance of quality for retail investors, but stopped short of advocating that larger companies were preferred. Hong Kong's SFC had rightly pointed out that larger companies raise the amount of exposure to an inherently inequitable governance structure.
But while the recommendations by the LAC mitigate some of the concerns about dual-class shares, they do not address many of the risks.
The proposal for one-share, one-vote when it comes to electing independent directors, and for dual-class companies to adhere to the Code of Corporate Governance on matters relating to board composition and independence give assurance that there will be a significant independent presence on the board. But in practice, the safeguard's efficacy is diluted by limitations in monitoring the competence of the independent directors and holding them accountable. It is often the case that an incompetent or negligent independent director is found out only when it is too late, and in Singapore where there is no class-action mechanism it is often an uphill task for minority shareholders to try to seek any kind of recourse against independent directors.
The somewhat oxymoronic relationship between size and risk in a dual-class structure is also not completely addressed. While LAC has not recommended preference for larger companies, the totality of its report suggests that it will be easier for a larger company to get permission for dual-class structures. For example, sophisticated investors are more likely to invest only in a larger company.
Size presents an odd regulatory challenge. On one hand, larger companies tend to have more resources to spend on governance. But dual-class structures are inherently risky for minority investors and large companies with dual-class structures actually expose more of the market to that risk. If these large, dual-class companies make it onto an index, they also become a more acute problem for managers of index-tracking funds, who might be forced to invest in these companies even if they do not like the structure.
If SGX goes ahead and allows dual-class listings, LAC's recommended safeguards will mitigate some but not all of the governance risk posed by the structure. The result will therefore be a higher level of governance risk in the market.
It is possible to further mitigate the risk by stepping up investor education, as LAC has recommended. But investor education has proven to be a long and slow process prone to be defeated by simple greed.
That is not to say that dual-class shares should not be allowed on the Singapore Exchange. Looking at the issue from a purely risk and regulatory perspective invariably casts a negative light on the structure, but there is also a commercial angle to consider.
Knowing the governance cost, however, provides the counterweight against which the potential commercial benefits can be assessed.