Business succession plans are difficult to make, but not for the most high-profile tech company in China. On Monday, Jack Ma, chairman of Alibaba (BABA), announced he would hand over the reins of the e-commerce giant he founded to the company’s CEO Daniel Zhang next year.
In a letter to the public, Ma, the face of Alibaba, attributes solving the leadership succession puzzle to “a system of governance based on a unique culture and mechanisms for developing consistent talent and successors.”
The partnership program that Ma has been priding himself on has long been a controversial practice in corporate governance. Some researchers have referred to it as “a dictatorship.” While it may ensure a smooth transition of power, some believe the program represents a conflict of interest, lacks independent oversight and public shareholders’ opinions, and could ultimately bring future risks to a company.
Alibaba’s “Lakeside Partners” and politburo governance
Alibaba shareholders do not have the power to elect directors to the board. Instead, this power is vested in the so-called “Alibaba Partnership,” a group currently made of 36 people, who are the firm’s original founding members and senior management. Known as “Lakeside Partners,” they’re named after the location where Ma and his partners started the company in 1999. This board structure enables partners to assert control over a majority of the board, despite their minority equity position.
This unique governance mechanism pushed Alibaba’s IPO plan from Hong Kong to the New York Stock Exchange, which permits such a structure. It has drawn criticism since Alibaba listed its shares in 2014 — the biggest IPO in history.
“Alibaba’s corporate governance profile presents a high level of risk to public shareholders due to a lack of shareholder rights and independent board representation,” according to a Governance Metrics Report by MSCI in 2014, which raised many red flags about the company’s board independence.
The system proves to be working for Alibaba, so far. Zhang, who is one of the members of “Lakeside Partners,” has turned Singles Day into the world’s biggest shopping extravaganza and led the “New Retail” strategy after becoming Alibaba’s CEO in 2015.
“The partnership structure actually cuts two ways,” Lawrence Loh, director of the Centre for Governance, Institutions and Organisations at the National University of Singapore told Yahoo Finance. “On the one hand, it disadvantaged the shareholders who cannot decide on the majority of director appointments on the board. But on the other hand, it provides the support mandate for the succession plans to be decisively firmed up.” Loh believes this way is better for the shareholders’ interest since it helps to find the right successor of the company while ensuring investors won’t be caught by surprise.
But Aswath Damodaran, a finance professor at the Stern School of Business at New York University, doubts if such a highly controlled group is needed to ensure a smooth transition. He questions the authenticity of the “one-partner-one-vote basis” Alibaba states on its website and calls the structure a “benevolent dictatorship run by a politburo.”
Damodaran told Yahoo Finance that he doesn’t think the smooth succession is because of Alibaba’s decision to adopt the partnership, “it’s because they’re doing well.”
“Dictatorships work smoothly if everything is going well. It’s only when things start to come apart that you realize the weakness of this process.” He added that Alibaba investors should “walk in with open eyes.”
While the “Lakeside Partners” may be Alibaba and Ma’s secret sauce, this structure of unequal voting rights has become more common among U.S. tech companies. John Wilson, head of corporate governance, engagement and research at Cornerstone Capital, cautions it could cause a blind spot in management, like the data privacy scandals Facebook is experiencing.
“The kind of insider ownership may prevent the company from managing certain kinds of risks that may end up coming back to haunt shareholders. We tend to see those kinds of companies be traded at discount relative to more open companies,” said Wilson.
Krystal Hu covers technology and economy for Yahoo Finance. Follow her on Twitter.