The Problem of Sunsets
Boston University Law Review, Vol. 99, p. 1057, 2019
38 Pages Posted: 23 Dec 2018 Last revised: 28 Jun 2019
Date Written: 2019
An increasing percentage of corporations are going public with dual class stock in which the shares owned by the founders or other corporate insiders have greater voting rights than the shares sold to public investors. Some commentators have criticized the dual class structure as unfair to public investors by reducing the accountability of insiders; others have defended the value of dual class in encouraging innovation by providing founders with insulation from market pressure that enables them to pursue their idiosyncratic vision.
The debate over whether dual class structures increase or decrease corporate value is, to date, unresolved. Empirical studies have failed to provide conclusive evidence as to the effect of dual class structures, and calls for regulators or stock exchanges to adopt prohibitions banning dual class structures outright have been unsuccessful, although several index providers have banned dual class stock from major indexes such as the S&P 500.
As a result, some commentators have advocated a compromise position permitting corporations to go public with dual class structures but requiring that they include mandatory time-based sunset provisions. The sunset provisions would automatically convert the dual class structure to a single share structure after the passage of a pre-determined period of time. The Council of Institutional Investors has asked the New York Stock Exchange and Nasdaq to refuse to list the shares of dual class firms unless they contain a time-based sunset provision that would convert within seven years.
This Article does not take a position on whether dual class structures are value-enhancing, but it does challenge the proposition that time-based sunsets are an appropriate response to the debate over dual class structures and that they should be imposed through regulation or stock exchange rules. To the extent that dual class structures are problematic, sunsets do not solve that problem. Moreover, time-based sunsets are an arbitrary response to the concern that developments such as the decline in a founder’s economic interest or the transfer of high-vote shares to third parties may reduce the attractiveness of the dual class structure. In addition, time-based sunsets create potential moral hazard problems. Further, because of their problematic incentives, minority shareholders cannot address the limitations of time-based sunsets through a retention vote.
This Article observes that event-based sunsets, which have received less attention, focus on the specific developments that are likely to erode the potential value of dual class structures, and calls for market participants to explore them further through private ordering. Nonetheless, it argues that, at the present time, investors and policymakers lack sufficient information about either dual class or sunsets to justify using regulation, index requirements, or stock exchange rules to force companies into adopting sunsets. Last, it argues that, rather than relying on compulsory sunsets to evade the difficult policy issues raised by dual class, the debate should encompass a more thorough framing of the role and importance of shareholder voting rights.
Keywords: Corporate governance, securities law, corporate voting & control, controlling stockholders, dual-class shares, empirical evidence, policy debate over dual class stock, loyalty shares, IPOs, role of sunsets, time-based sunsets, arbitrariness, moral hazard, shareholder retention voting
JEL Classification: G34, G38, K22
Suggested Citation: Suggested Citation