Encumbered Shares

The classic view in the law and economics literature pertaining to shareholder voting and the resulting “one-share/one-vote” rule holds that share ownership is both necessary and sufficient to create voting rights, and that voting rights should be directly proportional to share ownership. However, the authors demonstrate that these assumptions are unfounded and that the one-share/one-vote rule is flawed for economical-ly and legally encumbered shares. The former describes shares held by shareholders who are not pure residual claimants, such as shareholders who own one share and are short one or more shares. The latter de-scribes shares, including shares which are loaned to a short and then sold to another buyer, held by or associated with more than one share-holder. The authors demonstrate that the one-share/one-vote rule is not only economically suboptimal but also effectuates substantial deleterious consequences. Such consequences include distortion of quorum and reg-ulatory requirements; ill-advised approval of mergers and acquisitions; undervaluation and incorrect compensation in securities class actions; simultaneous over- and underinclusion in bankruptcy distributions; and preference of fixed-ratio stock offers over economically superior alterna-tives. These results all derive from an unfounded reliance upon the one-share/one-vote principle and the belief that even economically or legally encumbered shares should be entitled to vote.

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