Family firms need capital – Asian markets must respond
by Emir Hrnjic
September 28, 2015
How can Asian family businesses that are looking to grow successfully tap the region’s capital markets?
Of all the listed businesses in Southeast Asia, some 60 percent are family controlled firms. However, in many of these cases the families themselves retain half or more of the shares.
The reason is simple enough, and understandable: among Asia’s plethora of family firms, the overwhelming majority of families want to retain control of their business. But this constrains their options for growth as the possibilities for accessing sources of capital are limited.
Listing a subsidiary might be one option but this comes at a cost and may give rise to additional checks on related party transactions.
Pyramid ownership or cross-shareholdings like those commonly used in South Korea or Japan are another possibility, but they can prove complex and lack transparency that investors demand.
There are signs however that change may be afoot. Or at least that pressure for change is becoming harder for regulators to resist.
For the past two years, debate has been raging in Asia about changing rules to allow dual class share offerings – moving away from the standard one-share one-vote model.
Much of the trigger for this debate was centred on the US$25bn IPO of Chinese e-commerce giant Alibaba. While not a family firm as such, Alibaba had initially sought to list in Hong Kong but wanted to keep control of the board within a small group of partners in order to preserve the firm’s culture.
After a year of trying however Alibaba’s application for a dual class offering was rejected by Hong Kong regulators, leading founder Jack Ma to turn instead to listing on the NYSE. Asia meanwhile lost out on a record-breaking IPO.
Asian exchanges have had a long-standing aversion to dual class share listings.
Hong Kong regulators recently reiterated their opposition to allowing so-called Weighted Voting Rights saying it would risk harming the territory’s reputation if they became commonplace. Likewise the Singapore Exchange (SGX) currently explicitly bans dual class offerings because of concerns over “entrenchment of control”.
For critics this is an unduly rigid and outdated position – going against many in the business community who hope to see greater deal flow and ease a recent dearth of major IPOs.
Others see it as a principled stand, defending the rights of minority shareholders.
The pervasive criticism is that although both classes of shareholder under dual class structures are entitled to the same dividends, they are unfair because one (usually very small) group of shareholders has disproportionate influence over corporate governance.
For family firms however, this offers an enticing and potentially liberating opportunity. Under a dual stricture founding family members may own, say, only five per cent of the shares, but that holding gives them 50 per cent of voting rights.
This structure has been permitted on all US exchanges since the mid-1980s and has been used by family firms as a way of accessing capital markets while still maintaining control. Voting rights remain primarily in family hands while outsiders are free to invest and trade in non-voting shares. Firms such as Nike, Visa, Manchester United as well as recent major internet IPOs such as Facebook, LinkedIn and Google have also followed similar structures.
Certainly there is some evidence to support criticism of dual class structures – one recent study for example found that CEOs of dual class firms receive higher compensation and make worse acquisitions.
But the argument is far from clear cut. Such structures have benefits too.
Proponents argue for example that they allow controlling shareholders – founding families for example - to pursue their long-term vision while protecting the firm from myopic pressure from public investors obsessed with quarterly earnings.
For family firms dual class listings can also incentivise and ease the transition for company founders to take their companies public, without the fear of losing control.
Moreover, compared to other ways of retaining founder control the dual-class share structure is simpler and more transparent.
Studies have also shown that shareholder value is improved by dual-class share recapitalisations – i.e. when companies with a single-class share structure adopt a dual-class share structure.
And there is evidence that transparent dual-class structure firms perform better. For example, research has shown that an increase in transparency of 10 per cent for a founder-controlled firm with a dual-class share structure led to a 5.2 per cent increase in firm value, compared to non-dual-class, non-founder controlled firm of a similar size and in the same industry.
The question then is if the US has managed to successfully implement dual-class share listings - and in doing so lured major IPOs like Alibaba away from Asia - is it time to for markets here in the region to follow suit?
After all, it is natural to assume that given the choice most Asian family firms looking to list would prefer to do so here in Asia.
Certainly circumstances in the US are different from those in Asia - exchanges there are more mature and there are more influential and activist investors. Unlike Asia, the US also has a strong litigious culture, where minority shareholders can sue a company if the controlling shareholders abuse their power.
Having said that it may be time for Asian exchanges to look at whether dual-class share structures are now workable here, to attract successful companies whose founding family members are reluctant to cede control.
Investors may indeed have legitimate concerns over potential abuses, but that is not to say that they cannot be alleviated through a simultaneous improvement of regulatory enforcement, transparency and corporate governance.
In any case the objectives of improving regulatory enforcement, transparency and corporate governance are already a priority for our regulators and without reconsidering their approach Asian exchanges risk losing out on major IPOs, as happened with Alibaba.
It is well overdue for Asian exchanges to move with the times. Similarly, it is time for Asian family firms to start pushing and preparing for new opportunities.