Governance by Dividends
107 Iowa Law Review 117 (2021)
55 Pages Posted: 25 Aug 2018 Last revised: 24 Nov 2021
Date Written: September 13, 2018
For dual-class companies, which offer two or more classes of stock with differential voting rights, stock dividends have become a potent weapon for corporate boards to reallocate voting control without shareholder intervention. For example, the board of CBS Corporation proposed to distribute voting stock to all shareholders to drastically dilute the controlling shareholders’ voting power. In contrast, the Google board issued new non- voting stock to all shareholders to perpetuate the controlling shareholders’ lock on control. In both cases, the proportional distribution of the identical stock seemingly treats all shareholders equally, but it has a starkly unequal impact on each class’s voting power. Are such governance changes by stock dividends within board discretion?
The level of board discretion in making stock dividends is primarily governed by each company’s corporate charter. This Article presents the original, hand- collected data of charter provisions on stock dividends from 237 dual-class companies. The analysis of the charter provisions shows diverse approaches to stock dividends across companies, and it is unclear how much contractual freedom on stock dividends should be allowed. At the same time, courts have long treated dividends as subject to boards’ business judgment and declined to second-guess their substantive merits if they are allocated pro rata. Given the potential impact on corporate governance, the need for a distinctive treatment of stock dividends is long overdue.
Building on these findings, this Article also offers normative suggestions. First, as an ex-ante mechanism, state corporate statutes can provide a set of default provisions on stock dividends to guide companies. Second, as an ex- post remedy, the business judgment rule protection should be limited to the narrowly defined pro rata stock dividends (i.e., proportional distribution within the same class of stock) and non-pro rata stock dividends approved by each class of shareholders separately.
Keywords: Stock Dividends, Business Judgment Rule, Enhanced Judicial Review, Corporate Charters, Corporate Bylaws, Shareholder Voting, Capital Structure
JEL Classification: K22
Suggested Citation: Suggested Citation