The Significance of Voting Rights for Preference Shareholders in Corporate Governance

An essential part of Corporate Governance is voting rights, which is an appanage for shareholders in exercising their rights to impact decisions taken by a company’s management in ensuring that their interests are well represented. Two major types of shareholders fall into the following categories: Ordinary shareholders and Preference shareholders. Voting rights are attached to shares and are conferred on shareholders under the shares acquired. All shareholders, irrespective of the class of shares, are entitled to attend and vote at a company’s general meeting.

For clarity, shares are units of equity ownership in a company, while a shareholder is a person who owns shares in a company. This article considers the practical implications of voting rights for preference shareholders in Nigeria and the broader impact on corporate governance.

Understanding Preference Shares in Nigeria:

In Nigeria, the Companies and Allied Matters Act (CAMA) 2020 provides the framework for the issuance and rights associated with preference shares. Preference shares may either be created upon incorporation by explicitly indicating so in the Articles of Association (articles) of the company, or post incorporation by way of ordinary resolution. Section 144 of CAMA authorises the issue of preference shares after incorporation of a company by an ordinary resolution. The significant differences between ordinary shareholders and preference shareholders are that preference shareholders enjoy priority over ordinary shareholders in respect of dividend payments and asset liquidation; they have a higher claim on a company’s assets and earnings than ordinary shares, and a fixed dividend rate. Preference shares are most often issued to investors, while ordinary shares are often given out to startup business founders.

Prior to CAMA 2020, preference shareholders generally did not have voting rights. This is because most preference shareholders are solely investors and prefer not to be involved in the business or management of the company. Also, most business owners opt to limit the participation of investors in the company’s management, so they issue preference shares with non-voting rights to their investors. The enactment of CAMA 2020 has put an end to this practice, specifically in Section 140, where the act abolished the concept of non-voting rights. Both ordinary and preference shares now carry voting rights. Additionally, Section 168 of CAMA entitles preference shareholders to more than one vote in the following resolutions:

When preferential dividends remain in arrears and unpaid for more than 12 months or a period specified in the articles to vary the rights attached to preference shares to remove an auditor or to appoint another auditor for the winding-up of the company or during the winding-up of the company.

Significance of Voting Rights for Preference Shareholders

Protection of Financial Interests

Voting rights for preference shareholders is a crucial tool for this category of shareholders to protect their financial interests, particularly in situations where dividend payments are in arrears. Without voting rights, these shareholders might find themselves at the mercy of decisions that favour ordinary shareholders, especially in scenarios of financial distress or restructuring. Voting rights enable preference shareholders to oppose decisions that might unfairly erode their investment value, compromise their priority claims on dividends and assets and ensure that the company prioritises dividend payments.

Influence on Corporate Decisions

Granting voting rights ensures that preference shareholders can influence significant corporate decisions that directly affect their investment, such as mergers, acquisitions, and restructuring and changes in corporate strategy. In cases of mergers, acquisitions, or major restructuring, the interests of preference shareholders might differ significantly from those of ordinary shareholders. Voting rights ensure that preference shareholders have a voice in such critical matters, allowing them to influence outcomes in ways that protect their financial interests and contribute to fairer and more equitable corporate decisions.

Market Confidence

The presence of voting rights for preference shareholders can enhance market confidence for a company among potential and existing preference shareholders. The assurance that preference shareholders have a voice in critical decisions encourages investor confidence and demonstrates that the company is committed to protecting all classes of shareholders, thereby improving the company’s standing and attractiveness to investors.

Legal and Equitable Considerations

From a legal and equitable standpoint, providing voting rights for preference shareholders aligns with principles of fairness. It ensures that preference shareholders, who have a significant financial stake in the company, are not completely disenfranchised and can participate in essential decisions impacting their investment.

Impact of Voting Rights on Preference Shareholders on Corporate Governance:

Granting voting rights to preference shareholders contributes to improved corporate governance. These shareholders, who often invest large sums due to the relatively stable dividend returns, bring a vested interest in the long-term health of the company. Their involvement can lead to more balanced decision-making processes, potentially leading to more balanced and prudent corporate policies.

Voting rights for preference shareholders also increase managerial accountability. They can hold directors and executives accountable for their actions. This can mitigate the risks of managerial self-interest and ensure that the company’s strategies align more closely with the broader interests of all stakeholders, not just those of ordinary shareholders.

Impact of voting rights on Preference Shareholders on Ordinary Shareholders:

While the extension of voting rights to preference shareholders is seen as a progressive step toward equitable corporate governance, it is not without its drawbacks and introduces significant implications for ordinary shareholders. One key implication is the potential dilution of the control held by ordinary shareholders. Traditionally, ordinary shareholders have borne the entrepreneurial risk and have been entrusted with the strategic direction of the company, especially in founder-led companies. The introduction of voting rights for preference shareholders can dilute this control, potentially undermining the influence of those most invested in the long-term vision and sustainability of the company.

Unlike ordinary shareholders, who typically align their voting decisions with long-term value creation, preference shareholders typically invest in fixed returns and often prioritise stable returns and capital preservation. This conflict of interest can lead to friction, particularly when critical decisions such as dividend policies, reinvestment strategies, or corporate restructuring are discussed. Preference shareholders may leverage their voting rights to advocate for short-term gains at the expense of the company’s long-term growth.

Furthermore, the emergence of multiple shareholder blocs with differing priorities can complicate the company’s governance structure, leading to slower decision-making and reduced agility to market opportunities or threats. Therefore, careful structuring and clear limitations on voting rights are necessary to prevent governance gridlock and protect the strategic vision of the company.

Conclusion

The practice of granting voting rights to preference shareholders in Nigeria is a good practice. These rights serve as a critical tool for protecting their financial interests, influencing corporate decisions, enhancing governance, and fostering market confidence. However, if it is not clearly managed,  it can lead to potential challenges such as dilution of the control held by ordinary shareholders, amongst others. It is important for companies to clearly define the conditions under which preference shareholders acquire voting rights, ideally limiting voting rights to resolutions and matters that directly affect their class of shares. These matters that give rise to voting rights for preference shareholders can be outlined in the company’s articles of association.

This approach can preserve the strategic authority of ordinary shareholders while ensuring that the governance framework remains inclusive, efficient, and aligned with the long-term interests of the company.