In Facebook's (NASDAQ:FB) most recent earnings call, the company announced plans to split its shares into three different classes, each with different voting rights. Although the shareholder vote for the proposed split will happen at Facebook's annual shareholder meeting a few months from now, the move is more than likely a given.
In this segment from the Industry Focus podcast, Sean O'Reilly and Dylan Lewis explain why the company is doing this and why investors probably shouldn't be too worried or upset about it. Also, they compare it to similar actions in recent years taken by other well-known enterprises, and talk about why stock splits tend to leave investors with a bad taste in their mouths.
A transcript follows the video.
This podcast was recorded on May 6, 2016.
Sean O'Reilly: When do you think investors should care about a stock split? When will it affect their lives?
Dylan Lewis: To go back to that metaphor, the pie is the same size, and you're just slicing it differently, and you're owning that same portion. Sometimes, there are instances where it's not just...
O'Reilly: One of the slices gets to vote a lot. (laughs)
Lewis: Basically, you wind up in these situations where "We're slicing the pie differently, but I'm telling you what the pie's going to look like." (laughs) Or "I'm going to tell you what the pie is made out of."
O'Reilly: (laughs) "One of the slices has all the pecans."
Lewis: Yeah. You're seeing a couple really high-profile examples. Under Armour is one in the tech space. But some stock splits, more recently, have been used to issue new share classes. And those new share classes distribute the economic value of the split, but they don't necessarily have the same rights as the previous shares did. Our lead-in for the show, and why we wanted to talk about this, is Facebook's proposed split. This is something that came up in their conference call. If you checked out Facebook's conference call, you would have heard, "Pending stockholder approval. We intend to issue two Class C shares as a one-time stock dividend for each outstanding Class A and Class B share, resulting in a tripling of the pre classification total shares outstanding."
Lewis: That's from David Wehner, the CFO of the company.
O'Reilly: Who owns all those Class B shares, Dylan?
Lewis: (laughs) You want to take a guess?
O'Reilly: Oh, I know who. (laughs)
Lewis: (laughs) Yeah, so, right now...
O'Reilly: His name rhymes with Muckerberg.
Lewis: Facebook already has two classes of stock, A and B shares. They were created when the company went public. The idea there was, they wanted Mark Zuckerberg to retain ownership of the company. Class A shares each have one vote. Mark Zuckerberg owns a pretty small percentage of them, actually, I think about 4 million of the 2.3 billion outstanding. Tiny. Class B shares, on the other hand, have 10 votes each. He owns 468 million of the roughly 550 million outstanding.
Lewis: So, 85%. All told, he owns about 15% of the company, but wields like 60% of the votes.
O'Reilly: The proposed issuance of the two Class C shares and everything, pending stockholder approval, that's definitely going to happen, because he controls 60% of the voting power of the company.
Lewis: It will probably happen, yeah. It'd be crazy for it not to.
O'Reilly: Unless he accidentally hits the "no" button or something.
Lewis: So, how does this all tie in? Again, from the company's conference call, "This structure will allow for the preservation of the voting structure that has served the company well today, while allowing Mark to fund the Chan Zuckerberg Initiative over the course of his lifetime. Importantly, as part of this proposal, the preservation of the multi-class capital structure would generally be predicated on Mark continuing to maintain an active leadership role in Facebook." For listeners who might not know, the Chan Zuckerberg Initiative is Mark and Priscilla Chan, his wife, LLC. It's not a non-profit, but it is slanted toward a non-profit type mission. The idea there is advancing human potential and promoting equality in areas such as health, education, scientific research, and energy.
O'Reilly: He's more or less doing what Gates did, just a little bit younger, with the Bill and Melinda Gates Foundation.
Lewis: Exactly. So, earlier in the year, they committed to donating 99% of the value of their Facebook shares. He said he's not going to sell more than 1 billion over the next three years, but for him to do that, based on his current ownership, he'd hit a point where he'd be selling very valuable shares.
O'Reilly: In terms of voting rights.
Lewis: Right. So, if you look at what is effectively a three-to-one split, he will be receiving a ton of shares, (laughs) over 900 million shares, to work with. He will then be able to transfer the non-voting Class C shares to those...
O'Reilly: The foundation.
Lewis: The foundation, the LLC, and maintain that ownership.
O'Reilly: Got it.
Lewis: And this is very similar to what Under Armour looked to do with their C shares. The idea there was, Kevin Plank is at the helm, and he wants to maintain ownership of the company.
O'Reilly: It seems like companies wind up doing stuff like that just so the founder can spend some of their money. You look at Larry Ellison over at Oracle. He owns one of the islands of Hawaii, and he races super-crazy yachts.
Lewis: Doesn't sound like he's giving 99% of his shares away.
O'Reilly: No. It was interesting to me, I don't think he's ever really sold his original shares in Oracle. But what he did, instead of doing different share classes or whatever, is he just gets a ton of stock options every year.
Lewis: Oh, he's written in crazy grants, right?
O'Reilly: Yeah. There's that, and then obviously, you have Buffett, who waited until he was 80 to start giving his money away, and then it doesn't matter. Really, the only outlier there is Gates, that I can think of, because he's just selling his shares. He actually, it happened a year ago, Ballmer actually owns more of Microsoft (NASDAQ:MSFT) than Gates.
O'Reilly: Isn't that crazy?
Lewis: Yeah, I didn't know that.
O'Reilly: I remember going to the library when I was like 16, and reading the Value Line investment survey, and one of the pages in it is major insider sells, and they send it out every month. Every month, like clockwork, for like 15 years, Gates has been selling 20 million Microsoft shares. Anyway, bottom line, stuff like this always kind of leaves a bad taste in my mouth.
Lewis: Yeah, there's that weird tinge of, "I know what you're doing, and I think it's right." Because, if you're a Facebook shareholder, you believe in Mark Zuckerberg, and you believe in his vision of the company, and you want him at the helm. I can't think of anyone else you'd rather have running that company. So, you want him locked up, and you want a corporate structure that gives him the opportunity to wield ownership as he sees fit, and steer the company toward the initiatives he wants to be working on.
O'Reilly: On the other hand... (laughs)
Lewis: It does have that weird taste to it, though. If you own Facebook and you don't want Zuckerberg at the helm...
O'Reilly: Why are you buying it?
Lewis: Yeah, why do you own them?
O'Reilly: It just seems to me, stuff like this, these complicated, convoluted ownership structures, long term, they kind of muck things up a little bit.
Lewis: Yeah. And there has actually already been a class action lawsuit filed by a shareholder claiming that this moves gives Zuck...
O'Reilly: Did that happen about five minutes after this announcement was made?
Lewis: Yeah, it was (snaps) like that. They claimed the move gives Zuck entrenched control without him having to give up anything, and that's kind of problematic. And from a corporate governance standpoint, I understand that argument. But it's really one of those things where, if you believe in him as a leader, and you're following him as an investor, then you really shouldn't worry all that much about it.