April 13, 2012

Google’s Stock Split Irks Governance Experts, But Is the Right Move

Google’s announcement late Thursday that it would split its stock 2:1 by creating a new class of non-voting shares has governance experts up in arms. From the standpoint of sound corporate governance, I have not been in favor of dual class structures as they can serve to protect complacent owners or management. As the pressures from short-term shareholders for immediate results have grown, I believe that they have a place if used selectively. Google’s situation meets this criterion since it is integral to the firm’s historic shareholdings and is consistent with its need for long-term investment and strategic flexibility.

                On one level this can be seen as Silicon Valley versus Wall Street, but it is indicative of the much larger issue in the struggle for control of corporations that pits advocates of short-term shareholder value against corporate leaders and founders focusing on long-term value creation. For the past quarter century advocates of short-term actions have been on the rise, pressing to replace “complacent management” (their term, not mine), take control of boards of directors, or force the sale of companies. They have lined up a formidable array of shareholder advisory firms, governance experts, academics, lawyers and politicians to provide intellectual and legislative support for their ideas.

                Their influence on corporations, boards of directors, and investors has been enormous, contributing to short holding periods for stocks, which have fallen from eight years to six months. Many corporate leaders feel compelled to respond to these influences or face severe consequences, as their never-ending pressure has resulted in much shorter CEO tenure and higher turnover at the top. They are forcing companies like Genzyme to be sold to Sanofi or Kraft and Abbott to split into two companies. On the negative side, managements of such giant companies as General Motors, Sears, Motorola, Hewlett-Packard, Yahoo, and Kodak who bought into their ideas have wound up in bankruptcy or lost their ability to compete. An even greater concern is the devastating impact on the long-term competitiveness of American companies in global markets.

                The new generation of corporate leaders understands this impact and is taking steps to reverse it. Leading Silicon Valley companies like Apple, Intel, Facebook, Google, and Seattle’s Amazon, as well as established companies like Ford, IBM, Exxon, and Merck are ignoring these short-term pressures to invest in long-term strategies to ensure sustainable shareholder value increases.

                While Apple’s market capitalization has skyrocketed from a mere $7 billion in 2003 to more than $550 billion today, the late Steve Jobs “spent zero time thinking about Apple’s stock price,” according to one of his direct reports. In fact, Apple’s stock price did not move upward at all in Jobs’ first six years back at the helm. Similarly, Mark Zuckerberg has fought to retain absolute control Facebook’s ownership from its founding through the forthcoming public offering.

                Thus, it’s not surprising that Google founders Larry Page and Sergei Brin are attempting to retain control so that they can continue to invest for the long-term, as they made very clear in last Thursday’s letter to shareholders:

“We have always managed Google for the long term, investing heavily in the big bets we hope will make a significant difference in the world. Some of these bets have been tremendous, funding our activities and generating significant gains for our shareholders… The ability to take these kinds of risks has been crucial to Google’s overall success and we aim to maintain this pioneering culture going forward. The proposal we announced today is consistent with the governance philosophy we articulated when we took the company public, as well as the trend for newer technology companies to adopt strong dual-class structures. We believe that it will provide great competitive strength—insulating Google from short-term pressures.”

                Google is repeating the practice of Ford Motor Company when the Ford family took the company public in 1956. As Kevin Hoffman writes in American Icon, Ford would not have survived the turmoil of the last decade without the Ford family’s commitment to the company’s long-term survivability without declaring bankruptcy, as General Motors and Chrysler did. While not adopting the dual stock structure, companies like IBM, Exxon, Whole Foods, and Merck are taking similar approaches in their commitment to long-term. They are clear about their long-term goals, share progress openly, but never waver from their direction, in spite of shortfalls in earnings, declines in stock price, and criticism from security analysts, media and short-term shareholders.

                It should be noted that these companies are not anti-shareholder. Rather, they are deeply committed to creating long-term shareholder value and prepared to defend against short-term pressures that would take them off course. Shareholders always have the option of selling their shares if they don’t like the company’s direction or prospects, which is a more effective means of impacting management than proxy contests. We faced similar issues in my years at Medtronic; only our commitment to patients and dedication to long-term strategy enabled us to increase shareholder value more than forty times during those years.

                It is encouraging to see companies with the courage to take a stand for ensuring their companies remain competitive. Ultimately, their actions will make the U.S. more competitive as companies invest in people, research, and facilities to ensure their long-term success.