The return of dual class shares

The “man walking his dog on a leash” analogy is often used to describe the relationship between the economy and the stock market. Over the short term, the man (the economy) and the dog (the stock market) may move in different directions for a host of reasons. However, over the long term, both are likely to follow the same path.

The truth of the analogy is evident from the impact that South Africa’s macroeconomic environment and global economic pressures have had, and continue to have, on the country’s largest stock exchange, the JSE Limited (JSE). Since the 2008/2009 global financial crisis, South Africa has experienced weak economic growth against the background of numerous continuing challenges, including loadshedding and entrenched high levels of unemployment.¹ Over this period, the JSE has also faced significant headwinds, including periods of substantial net-outflows in trading by foreigners in South African equities and bonds², as well as a slew of JSE delistings³. The JSE has been commendably active in seeking to stem the tide of delistings, to enhance the attractiveness of the JSE as a listing destination, and to improve market confidence. Initiatives undertaken by the JSE include, inter alia, its “Cutting Red Tape” project⁴ and the memorandum of understanding entered into between itself and the New York Stock Exchange to collaborate on the dual listing of companies on both exchanges⁵.

It is against this background that the JSE, in May 2022, published a consultation paper with several proposals regarding its listings framework. One such proposal was for the reintroduction⁶ of dual class shares for new main board listings on the JSE. Since then, the JSE has consulted with market participants and, following a positive response⁷, has included dual class shares in its proposed amendments to the JSE Listings Requirements (Proposed Amendments).

As the name suggests, a dual class share structure involves a listed company having two kinds of shares, one of which confers additional voting power to its holders (Weighted Voting Share) when compared to other normal shares (Ordinary Share). Typically, Weighted Voting Shares and Ordinary Shares are identical, save for the voting element. Such a dual class share structure enables certain shareholders to retain voting strength (or even control) disproportionate to their economic interest in the company.

Dual class share structures allow companies to be listed and to raise equity capital in the market, without impacting the control enjoyed by their current shareholders. Such structures also help to shield a company against opportunistic takeovers, and investors driven by short-term gains at the expense of the company’s long-term vision.

The main criticism directed at dual class share structures is that they undermine shareholder democracy (i.e. one share, one vote), thereby weakening the protection typically enjoyed by shareholders, as well as shareholders’ ability to hold company executives to account. Dual class share structures enable minority shareholders with Weighted Voting Shares to frustrate the will of the larger shareholder body, resulting in, amongst others, the entrenchment of management. In order to mitigate the governance risks associated with dual class share structures, the JSE has proposed the introduction of a set of governance safeguards (Safeguards). The Safeguards are in line with the safeguards implemented by the JSE’s global peers⁸ who have, in recent years, also permitted dual class share structures. Notable Safeguards include:

• capping the number of votes attached to a Weighted Voting Share at 20;

• requiring the automatic conversion of Weighted Voting Shares to Ordinary Shares (on a one- for-one basis) if such Weighted Voting Shares are sold or transferred to any person or on expiry of a maximum period of 10 years from the company’s listing date;

• an enhanced voting process for certain matters, where all shares carry one vote each regardless of class. These matters include, inter alia, the variation of rights
attached to securities and the appointment or removal of independent non-executive directors; and

• mandatory disclosure of the terms of the dual class share structure in the company’s prospectus / pre-listing statement.

Provided the necessary protections are in place, the reintroduction of dual class share structures should be welcomed, as this may encourage high growth private companies to float on the JSE, thereby increasing its investable universe for both institutional and retail investors and allowing such investors to benefit from potentially valuable investment opportunities. One should not forget that mega cap companies such as Alphabet, Berkshire Hathaway, Coca-Cola, Nike and Meta have dual class share structures. If such companies had decided to remain private, millions of investors would never have benefited from their significant share price growth over time.

The willingness of the JSE to consider and follow global stock exchange trends, as well as its desire to adapt and remain competitive, should be welcomed.

1 https://theconversation.com/south-africas-economy-has-taken-some-heavy-body-blows-can-it-recover-183165
2 https://businesstech.co.za/news/finance/517618/foreigners-are-pulling-their-money-out-of-south-africa-jse-warns/
3 https://www.businesslive.co.za/fm/opinion/editors-note/2022-08-25-rob-rose-inside-the-jses-radical-overhaul/
4 https://bowmanslaw.com/insights/mergers-and-acquisitions/south-africa-amendments-to-the-jse-listings-requirements/
5 https://www.jse.co.za/news/news/new-york-stock-exchange-and-johannesburg-stock-exchange-announce-collaboration-dual
6 In 1999, the JSE Listings Requirements were amended to prohibit the creation of any new high or low voting shares. Issuers who had high or low voting shares at the time were exempted and were able to maintain such share structure and continue to be listed on the JSE.
7 73% of commentators supported the JSE considering the reintroduction of dual class share structures on the JSE.
8 The London Stock Exchange, the Hong Kong Stock Exchange and the Singapore Exchange.

Johann Piek is a Director | PSG Capital

This article first appeared in DealMakers, SA’s quarterly M&A publication.

DealMakers is SA’s M&A publication
www.dealmakerssouthafrica.com