General speaking, the standard path of measuring the corporate governance of a company is to look at the corporate charter and the composition of its board of directors. According to the Institutional Shareholders Services (ISS), measures in evaluating corporate governance can be distinguished into four main pillars, namely the audit pillar, the board pillar, the shareholder rights pillar and the compensation pillar. The audit pillar refers to the financial filling manner of a company while the board pillar refers to the directors’ composition and compensation.
The shareholder rights pillar means the hostile takeover restrictions. Last but not least, the compensation pillar means whether it is aligned with performance and the power of shareholders in setting it and how well it is being disclosed. Talking about the corporate governance structure of Alibaba Group Holdings Limited, it could be first looking into the Board of Directors’ and its special “Partnership System” of Alibaba Group. Alibaba was founded in 1999 by Former English Teacher, Jack Ma, and his associates and it is nowadays the world’s largest E-commerce Company.
According to the Wall Street Journal, the company currently handles 80% of China E-Commerce, with transactions of on its sites totaling $248 billion in 2013. * [2014 most up-to-dated figures to be inserted] By the end of third quarter of 2014, Alibaba’s total sales reached $555. 6 billion, with year-on-year growth of 48. 7%. What is more, Alibaba’s competition of international retail business is growing fast. In third quarter of 2014, the total sales from international retail business was $0. 419 billion, a 17% increase compared with last second quarter.
The company operates several online marketplaces in China, including the Tmall, an Amazon-style online retailer; Taobao, an online auction site similar o eBay; and Juhuasuan, a Chinese version of Groupon. In additions, the company owns Alipay. com, the Chinese equivalent of Paypal; and has large stakes in Sina Weibo, China’s version of Twitter; and Youku Tudou, the closest Chinese equivalent to YouTube. * One of the most significant corporate structure of Alibaba’s is its Partnership System. In the amended filing issued in June 2014, Alibaba Group Holding imited laid out the full details on how does its partnership structure works. * In publicly traded companies, the board members are being elected by the hareholders and normally have a say in the management of the company. However, the set-up Of Alibaba partnership system has stripped even this minimal power away from shareholders. The 28-person unusual partnership structure (consisting 24 partners from Alibaba Group and 4 partners from associated companies) at Alibaba have the power to nominate a majority of the board members according to the people familiar with the structure.
The Alibaba shareholders could turn down the director candidates nominated by the partnership, but then the partnership would go back to the drawing oard and select new nominees for approval. *** As for minority directors, they will be elected by holders of a majority of the shares not including the shares of partners. If the partnership fails to obtain shareholder approval for its nominated candidates, it will be entitled “in its sole discretion and without the need for any additional shareholder approval” to appoint directors unilaterally, thus ensuring that its chosen directors always have a majority of board seats. ***SlightIy different from dual-class structure which aims at letting small number of founders have voting right, partnership system aims t continuing the culture of Alibaba, and it shows the expectation of management on company long-term development. Rationale behind is that Alibaba can keep its controlling power by using this special partnership structure and it can help to preserve its innovative structure in a fast-growing economy and to reduce distractions from financial market fluctuations. Yet there are no limits on the numbers of partners for its partnership system.
The partnership can rejuvenates itself through admission of new members every year. To be eligible for election, partners must show high personal ntegrity and have worked for Alibaba or its affiliate for at least five years, a track record of contribution and be a “culture carrier” or someone who acts in accordance with Alibaba’s values. All partners are also required to have a “meaningful level of equity interests” in the company. From the perspective of corporate governance structure of other listed companies, the one who dominate the nomination of directors is shareholder or its nomination committee but not the partnership structure.
For the bonus distribution perspective, the people who can get bonus are shareholders or from group’s management . n Alibaba Group, its management team including the partners can receive bonus from the company annually. The prospectus of Alibaba shows that the bonus belongs to the item of pre-tax, which means it is unlike the general shareholders dividends which belong to the item of after-tax. The nominating right of directors is also a sensitive issues for partners. At present, Alibaba Group has four directors and they are Jack Ma, Joseph Cai, Masayoshi Son from Soft Bank, Jacqueline D.
RESES from Yahoo. After Alibaba is being listed in the market, the board seat of Yahoo will be ruled out and the umber Of directors will add up to nine. [Erik: I think we have to show some findings on this part] In other words, management of Alibaba takes five seats, Soft Bank takes one seat, and the rest three seats are nominated by nominations committee of the board of director. However, the Partner Committee just has the right to nominate director, and who will be director ultimately still need permission of the board of shareholders.
Meanwhile, the board of partnership can only nominate directors who have consent of half votes, namely five directors. The reason why Alibaba Group needs this Partnership System is that they hope these five directors are qualified and competitive. One negative from a shareholder perspective in the Alibaba partnership setup is that it discourages the possibility of activist investors in the stock, which is the one group of shareholders that might be expected to invest in seeking those minority seats.
Given that the partnership controls the majority slate, it’s unlikely there will be many proxy fights for those minority seats. A dissident minority of directors can wield relatively little power in the board room, especially if management feels free to make decisions and provide nformation to the majority directors outside the board room and there is no hope of taking over the majority. Activist shareholders are less likely to make the investment necessary to seek such seats if they think they will be made window-dressing.
In retrospect, the firm’s management takes five seats of the board of directors. However, the five seats are not voted by shareholders, but given by the firm’s ordinance which is also allowed by America’s Securities Laws, and it has something common with dual-class structure that we usually see. However, the Hong Kong Stock Exchange simply stipulates the person who as 50% or more equity of a certain firm will have control power. Obviously, Partnership System is conflict with rules of HKEx.
If Alibaba’s management cannot appoint the directors someday, and then Partnership System also cannot guarantee the Alibaba’s management that they can control the firm, as once majority shareholders are able to control the company, the rule of “partnership” system will be broke in a degree. Therefore, the management’s right of nominating directors is extremely vital to maintain its partnership system. [Erik: I think we have to show some findings on this part] Alibaba’s management may lose the right of nominating directors under few circumstances.
For instance, if Alibaba’s performance deteriorates or cannot meet the demand of America’s Securities Laws, which lead its stock price fall down dramatically, the Alibaba’s management will have to make compromises under shareholders. At present, the management holds 10% equity of Alibaba. If there is conflict between the board of directors and shareholders, the future business Of the board of director will be affected. All in all, the battle for control of the company is a fight for taking directors seats ultimately.
The Partnership System seems to be excellent and Alibaba can be controlled by management forever and the interest of management can be safeguarded reliably. However, if Alibaba’s management loses half seats of the board of director, the Partnership System still cannot change the situation of losing control power of company. Therefore, the Partnership System plays a role of consulting, rather than a power institution. As a king in Alibaba Group, Jack Ma is still in charge of Alibaba and the Partnership System is just a sideshow. Another corporate governance weakness of Alibaba Group is about the legal tructure itself.
In theory, the shareholders of listed company are its owners and get to determine who runs the company and how does it run. In practice, this is more myth than reality and that a variety of constraints, both internally and externally imposed, exist on shareholder power. Even in the most idyllic corporate democracies, incumbent managers start off with an advantage over shareholders in the power game, though activists can sometimes even the playing field. Looking at Alibaba, shareholders don’t even have the fig leaves of choice that they do with most other listed companies.
Alibaba is using a structure known as “Variable-Interest Entity” (VIE). VIE means an entity established in China fully or partially owned by a non- Chinese company through certain contractual or services arrangements rather than direct share ownership by forming a wholly foreign-owned enterprise in China. After successful initial public offering of SINA (a famous internet company in China) with VIE Structure in 2000, many Chinese internet companies adopted the VIE structure and Alibaba is one of the famous model. VIE are based on contracts that say an entity in the Cayman Islands or nother corporate haven will have control a Chines Company.
Foreign shareholders get a stake in that offshore vehicle and profits but no definite ownership of the Chinese company. Since Alibaba is using a straight forward VIE structure for its Chinese assets. Shareholders will not be buying shares in Alibaba China. Instead, shareholders will purchase shares in a Cayman Islands entity named Alibaba Group Holding Limited. [Alibaba structure chart to be inserted] Most of Alibaba’s Chinese assets are owned by Jack Ma and another founder and member Of management, Simon Xie. The Cayman Islands Company has ontractual right to the profits of Alibaba China, but it has no economic interest.
The structure may be illegal under Chinese Law since it conveniently circumvents those prohibitions on foreign investments. The Chinese government has granted legal standing to that contractual agreement, at least for the moment, it reserves the right to change its mind and if it does, Alibaba’s shareholders will be left with just the shell. The VIE structure also carries risk from potential conflicts of interest. In some cases VIE owners have decided its in their interest to cut the foreign investors ut, after they have the money. In one case, a founder asked local officials to declare the VIE arrangement illegal, and they compiled.
In another case, a dispute between offshore investors and a VIE founder resulted in the loss of the VIE. Jack Ma is the majority owner of most of the VIES (the minority owner is usually co-founder Simon Xie). It is believed that these contractual arrangements enable them to exercise effective control over, and realize substantially all of the economic risks and benefits arise from the VIE Structure. A restructuring of Alibaba gave Jack Ma 100% ownership Of the nline payment unit, Alipay while both Yahoo (owns 43% of Alibaba) and Softback (owns 30% of Alibaba) complained that they are neither been notified nor approved the movement.
Taken this as an example, this is rationale behind in explaining the major shareholders are following the lead of Jack Ma in recent years. Jack Ma and his management have supreme right of controlling this firm, and what they want to do is making operation which is beyond industrial rules legal. In the future, they can totally dispose of valuable assets at will to appeal their interest which will bring uncertainty for Alibaba’s future development efinitely.