Facebook – The selfish giant

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No love for minority investors.

• Facebook has withdrawn plans to issue a new distribution of shares that would have further worsened its corporate governance in a move that I think was purely motivated by self interest
• Facebook was planning a new distribution of shares that would have allowed the voting rights of Facebook to be almost entirely stripped away from the economic interest.
• Voting shares were planned to be split into three of which two would have had no votes and one with.
• This would have allowed Mark Zuckerberg to sell up to 66% of his stake in Facebook without affecting his voting interest.
• Super voting distributions of shares are common in technology companies across the world and while I believe that this is fine for small private companies, it has no place in large public companies in which anyone can invest.
• The main reason for super voting distributions is to allow founders to raise capital but still maintain control.
• In small companies just getting started, this can be critical as it allows the company to be extremely flexible meaning that it can quickly adjust to changes and adversities that can be crucial for the company’s success or survival.
• However, in a large company like Facebook there is no need for any kind of sudden pivot for the company to survive and consequently there is no reason whatsoever to have super voting distributions.
• Furthermore, I find that these distributions are more often than not detrimental for shareholder value.
• This is because founders have emotional attachments to their companies meaning that their judgement over long-term strategy is often not objective.
• On top of this, a super voting distribution allows a founder to spend other people’s money with no checks or balances.
• For example, a founder who owns 5% of the economic interest but 55% of the vote will only incur 5% of the losses that result from his bad decisions.
• Minority shareholders, who have no say in decision making, bear 95%.
• I have long believed that this imbalance gives rise to bad corporate governance and unfair treatment of minority investors.
• Unfortunately, Facebook has not cancelled this distribution because it cares about fair treatment for investors.
• Instead it has cancelled the transaction as:
  • First: The share price has risen enough such that Zuckerberg can finance his short-term philanthropy by selling fewer voting shares and thereby still maintain control.
  • Second: Facebook is facing an embarrassing shareholder lawsuit where Zuckerberg was due to be cross examined by the plaintiff’s lawyer where difficult questions about motivations for maintaining control were certain to be asked.
• Consequently, I still think that Facebook views minority shareholders as an inconvenience and ranks them below the officers of the company and as well its employees and customers.
• Unfortunately, there are many companies who take this attitude and in order to compensate for this I add a 30% discount to the valuation of the shares in order to compensate minority shareholders for the added risk of having no say in the running of the company.
• In the long-term there is still some upside in Facebook including this discount but in the short-term I see a correction following the slowdown in revenue growth that I am expecting in H2 2017.
• Consequently, I would be looking to take some profits now and then get back in after the slow-down related correction.
• I still prefer Tencent, Baidu and Microsoft in the immediate term.