What are Differential Voting Rights in England?

As a company looking to issue shares, you may consider issuing certain shares with differential voting rights (DVR). Shares with differential voting rights give superior voting rights to certain classes of shareholders and can be helpful in several situations. Above all, they give certain members more significant control over the company’s strategy while helping prevent a hostile takeover.

This article will explain differential voting rights, how they work, and some of the pros and cons of issuing DVRs.

What are Differential Voting Rights?

Essentially, DVRs form part of the company’s share capital. Moreover, they refer mainly to shares with superior or inferior voting rights within ordinary equity shares. Equity shares are distinct from preferred shares. For instance, preferred shares have priority regarding the company’s profits and assets, but they do not carry voting rights. In the UK, you may find differential rights overlap with a ‘dual-class’ share structure. 

Usually, shares with fewer voting rights accompany more excellent dividend rates. In contrast, shares with greater voting rights will carry a lesser dividend rate. Furthermore, ordinary shareholders, such as investors who invest purely for returns, are usually more likely to accept lesser voting rights for higher dividend rates. Those who are more likely to have superior voting rights within their shares include: 

• directors;
• promoters; and 
• key managerial staff. 

When Are Differential Voting Rights Used?

Various situations may utilise differential voting rights. For instance, you will find that startups commonly use them. When a startup goes through multiple funding rounds, the founders’ shares become diluted. This is because they typically issue shares in exchange for investment. Further, their total voting power (and, therefore, control) in the company will dilute if they do not have DVR shares. Therefore, to keep their higher voting rights, startups will issue DVR shares to themselves.

Similarly, shares with differential voting rights can be an effective way of defending against a hostile takeover. A hostile takeover is where a bidder tries to buy a controlling interest in your company without the consent or approval of your board of directors. 

This usually happens in either a tender offer or a proxy vote. A proxy vote is where the prospective acquirer tries to convince existing shareholders to vote in favour of the takeover. Alternatively, they may attempt to convince them to vote out existing board members who oppose the takeover. However, if some company members have differential voting rights, they can use their voting power to out-muscle the prospective takeover. Note that this is only one way of defending a takeover.

Cons of Using Differential Rights

Differential rights can be a valuable way of fending off a hostile takeover and retaining control of your company in its early stages. However, having a dual-class share structure is not always an advantage.

Firstly, having shares with different voting rights can result in low liquidity. This means you cannot trade your shares as quickly without negatively impacting your share price. Therefore, it may be helpful to restrict higher voting rights to a small class of shareholders with significant control over the business. This group will usually include founders or certain directors.

Secondly, the Financial Conduct Authority (FCA) requires a company with a single share structure to be eligible for listing on the premium segment of its Official List. The idea is that your company’s share capital should follow a ‘one-share, one-vote’ principle. Essentially, this principle prevents founders with firm voting rights from dominating decision-making. Additionally, it assists in representing investors who have invested significant capital in the company’s strategy and policies. 

Without admission into the Official List, your company cannot gain access to the leading FTSE indices (such as the FTSE 100 and the FTSE 250). 

Should I Use a Dual-Class Structure?

Whether your business will benefit from a dual-class structure with differential voting rights depends on the stage of your company. 

Many technology companies and startups will use a dual-class system in their equity shares during their growth stage. Then they will transition to a single-class system if they want to do an IPO to be eligible for the FCA’s Official List. 

Suppose you are unsure whether to commit to a dual-class structure. In that case, it is a good idea to seek professional legal and financial advice to understand your position concerning your shareholders and regulators. 

Key Takeaways

As a company issuing shares, it is a good idea to consider issuing equity shares with differential voting rights. This can help you control your company’s decision-making while still issuing shares to investors. Additionally, it is useful to defend against a proxy vote in a hostile takeover.  If you opt for a dual-class share structure in your business, it is worth keeping in mind that this will prevent you from being eligible for the FCA’s Official List, which is necessary to be able to list on specific FTSE indices. 

If you need assistance issuing differential voting rights, our experienced corporate lawyers can assist as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents. Call us today on 0808 196 8584 or visit our membership page.

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