As Chinese e-commerce giant Alibaba Group races toward a possibly record-breaking initial public offering on the New York Stock Exchange, regulators and bankers in Hong Kong are looking on with envy. Many can’t help musing that if it wasn’t for the Hong Kong exchange’s “one-share, one-vote” principle, Alibaba’s expected $20 billion fundraising would be occurring in Hong Kong instead of New York.
Alibaba, whose founder and executive chairman, Jack Ma, and management own only about 10 percent of the shares but control the board and have majority say in voting rights within the company, chose New York for the IPO in March after Hong Kong regulators refused to budge on the one-share, one-vote principle.
“Losing Alibaba was a strategic blunder for Hong Kong and the Hong Kong Stock Exchange,” says Paul Schulte, chief executive officer of Schulte Research International, a Hong Kong–based independent financial research firm. “Alibaba is the future of finance, and Hong Kong is left with a bunch of Old World banks. Asia is not exactly a bastion of minority shareholder interest, and there have been exceptions before. Hong Kong should aggressively review its policies.”
Charles Li, the CEO of the exchange’s parent, Hong Kong Exchanges and Clearing, is calling for a discussion on the possibilities of amending the Hong Kong listing rules. The exchange’s listing committee has begun discussing a draft consultation paper that may set in motion regulatory approval of amendments to listing rules that currently do not allow two-tier shareholding voting structures.
Such rules, implemented in the late 1980s, ensured better corporate governance and prevented management from riding roughshod over the interests of institutional investors. But they also prevent Hong Kong from attracting the likes of Alibaba, Facebook and other technology companies founded and run by venture-capital- and private-equity- backed entrepreneurs who may have majority stakes but choose to cede control of the board to management.
“In my opinion, Hong Kong’s core values are the rule of law and due process,” Li wrote on his blog in April. “These are sacrosanct foundations of our market that must be protected at all costs. These core values dictate that we must not change our rules haphazardly for a single company, and any significant change would need to go through due process. But on the other hand, due process does not dictate refusal to debate the future of our market. Our market still has room to improve, and our efforts should not stop simply because one company has left for another market. It’s time for us to let our emotions subside and have a rational debate.”
The calls for change are meeting stiff resistance from global fund managers, however.
In the wake of the Alibaba listing controversy, the Hong Kong–based Asian Corporate Governance Association (ACGA) conducted a survey of global institutional investors to gauge their views on the issue of dual-class shares and other nonstandard shareholding structures. The survey reveals overwhelming opposition to nonstandard shareholding structures, such as the one proposed by Alibaba when it sought a listing in Hong Kong, and indicates that most investors would likely apply substantial discounts to companies with these structures.
The survey was sent to senior officers of corporate governance departments and portfolio managers of investor members of the association late last year. The majority of association members are significant global institutions, including some of the world’s largest pension funds and money managers, with combined assets under management of more than $14 trillion.
The results also indicated that global investors would be inclined to apply a discount to Alibaba’s shares of between 10 percent to 25 percent (with the average around 19 percent) if the company listed with a special partnership structure. If such nonstandard shareholding structures became common in Hong Kong, investors would apply an average discount to the Hong Kong market of more than 13 percent, the group said.
“Our institutional investor members show staunch support for one-share, one-vote,” says ACGA research director for Asia and Hong Kong Michael Cheng, who served as head of the Hong Kong Exchanges and Clearing’s listing policy team from 2007 to 2012.
Although the U.S. permits two-tier voting structures at listed companies, the U.S. judicial system also allows class-action lawsuits, in which disgruntled shareholders can band together to collectively sue managements of listed companies over corporate governance issues, says Cheng, a lawyer who once also served as head of the legal department at China International Capital Corp. Hong Kong’s judicial system, however, doesn’t recognize class-action suits, Cheng notes, adding that a further complication is the financial hub’s takeover code, which requires that when an investor acquires more than 30 percent of any listed company, that investor must follow through with a general offer to the rest of the shareholders.
“Hong Kong has based its whole regulatory regime on one-share, one-vote for almost 30 years,” says Cheng. “For sound and robust protection for all shareholders, it simply needs one-share, one-vote. Bottom line is that you can’t think of amending one-share, one-vote without changing the entire regulatory regime. If you think of changing one-share, one-vote without improving the regulatory regime, that is a recipe for disaster.”
Cheng says the Hong Kong exchange will begin public consultations about scrapping the one-share, one-vote principle in the coming months and may present the plans for change to the Securities and Futures Commission as early as the end of this year. “The listing committee is caught between a rock and hard place,” he says. “That is because of inherent conflict of interest of the exchange, which serves a dual role as a for-profit entity and as a regulator of listed companies.”
Even if the exchange recommends reforming the rules, the final decision is in the hands of the Securities and Futures Commission. The regulator’s spokesman, Jonathan Li, refused to comment, but David Webb, a deputy chairman of the commission’s Takeover and Mergers Panel, says he doubted that Hong Kong’s top securities regulator would oblige. “No, I don’t think the SFC will allow HKEx [Hong Kong Exchanges and Clearing] to list companies with second-class shares,” says Webb, who is also a Hong Kong–based independent investor and shareholder activist. Scrapping the one-share, one-vote rule would make Hong Kong less competitive in the longer term, he says. “It would be a ‘race to the bottom’ of regulatory standards and is not a recipe for long-term success,” he adds.
There is no question that battle lines are being drawn in Hong Kong over the principle of one-share, one-vote. The results of the fight may well affect Hong Kong’s position as the premier financial capital of China and the rest of Asia in the decades ahead. Alibaba’s listing in the U.S. may not only be a milestone for a Chinese Internet company; it also could well usher in an era of regulatory change—good or bad, as only time will tell—in Hong Kong.
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Follow Allen T. Cheng on Twitter at @acheng87.
